Monday, November 28, 2005
The Affordability Crisis
The Affordability Indexes of Greater Vancouver and Metropolitan Toronto, were they measured in degrees Celsius, would be fast approaching the absolute zero or minus 276 degrees these days. And so are the affordability indexes of all other large urban centers in the United States, ranking North America in third place after East Asia and Europe on the scale of the world’s most unaffordable places when it comes to housing. We win the Bronze Medal, so to speak, but I am not so sure there is reason to celebrate. Tokyo and Hong Kong, with an average resale value of U.S. $1,100 and U.S. $900 per square foot approximately have turned into cities of sardines, with people reduced to live in 300 square foot cubicles to afford a roof over their heads. London and Paris, with average resale values of U.S. $700 and U.S. $650 per square foot respectively have turned into cities of renters. By comparison, Vancouver and Toronto with resale values of U.S. $420 and U.S. $430 per square foot respectively are still dirt-cheap - for foreigners, that is, certainly not for Canadians.
The Affordability Crisis is a very serious matter indeed. It has economic, political, social and demographic reverberations and repercussions. We have heard it over and over again these past few years: historically low mortgage rates, pent-up demand, low inventories and an improved overall economic atmosphere have all contributed to hot local real estate markets. Which, in turn, have driven prices literally through the roof. But an intelligent analysis of the roots of this crisis, in all fairness, must really reach beyond the mere finger pointing to the relationship between supply and demand. Home ownership is the single most important element in the democratization of prosperity. It is the element of social stability and cohesion and, therefore, an important pillar of a sustainable modern economic capitalistic growth. We do everything with our homes in addition, of course, to live and sleep inside: we use them as collateral for personal lines of credit, we use them to increase our net worth, we use them to establish our hierarchy within society, we use them to improve our own self-esteem and, last but not least, we also use them as parachute of last resort to save us from dire financial straits. Ownership of our homes is everything to us. Now, try to think of a world without such ownership: everything we normally think of as an asset and a credit all of a sudden turns into a liability and a debit – our own personal balance sheet in reverse. That’s how important housing affordability is in our lives.
The primary culprit and cause of the crisis is the ratio between wages and real estate market values. This ratio is entirely skewed to values. Whereas market values in metropolitan areas in Canada have appreciated an average of fifteen percent per year for the past five years - or a total of seventy-five percent since 2000, salaries have increased an average four percent per annum – or twenty percent total. There is, therefore, a fifty-five percent gap, which accounts for the problem buyers are facing today when it comes to go to the bank and qualifying for a loan. And if you think you are out of the problem because you have bought already – well, think again: no buyers, no demand, and lower values. Lenders claim they cannot lower their qualification standards, and that is probably credible in light of how cutthroat the lending business has become. And governments have chipped in already with aid programs especially oriented towards first-time buyers and tax incentives and credits applicable to everyone else. Which, then, leaves consumers with no other choice but to rent – just like in Europe, until such time as a new economic equilibrium is established.
Price dropping has been a steady staple these past few weeks in many markets. Many economists do not envision this as a market downturn, much less the onset of the real estate bubble believers in Apocalypse have been prognosticating all along. The general belief is that we are now facing a ‘deceleration' of capital appreciation – but still an appreciation - now forecasted to hover to on or about five percent in 2006. Real estate, therefore, remains a viable investment venue, but not the gold mine it has been these years past. More importantly, a slower appreciation will allow salaries and wages to catch up and thus to regenerate the pool of buyers, especially first-time Buyers, entitled to take their first steps into the world of real estate
Real Estate Chronicle