The news from the housing market this week is bad. Really bad. House prices today are lower in most of the country than they were in the dismal month of April 2009; we are now in the second dip of the double dip housing downturn.
This doesn’t just mean that President Obama’s re-election is in trouble. It doesn’t just mean that stocks and the dollar may fall. It doesn’t just mean that unemployment will stay high for a while and that whole economy may follow the housing market back into the tank for a second recession.
It means something bigger. For eighty years we have defined the American dream as an owner occupied family home, preferably with a nice swathe of crabgrass-free lawn around it. The home mortgage was the centerpiece of a society of consumers based on debt-financed living. It was life on the installment plan. The latest downturn in the housing market is one more grim signal that in its current form, the American Dream is going the way of the dodo.
A home of your own increasingly means a home of the bank’s. Today some 86 million Americans live in homes that are ‘under water’ where the amount owed on the mortgage is greater than the value of the house. Since the financial crisis began in 2008, over one million consumer mortgages have gone into foreclosure. Sales of bank-owned properties are now 34.5 percent of the housing market; homes in foreclosure waiting for resale now account for a three years-supply on the sluggish housing market.
The damage is heavy. For most Americans, their single biggest asset is the equity in their home. At the peak of the boom, total net home equity in the US (the value of owner occupied homes minus the remaining mortgage debt) stood at 13 trillion. Today it is down to $6.5 trillion. America’s home equity losses are greater than the GDP of Japan.
The bad news has come at a bad time. The Baby Boomers, the least provident and most demanding generation in American history, are beginning to hit retirement. For decades, many Boomers comforted themselves with the illusion owning a home would provide them with the savings they would need in retirement. Now many of them haven’t paid off their mortgages and they not only don’t have a lot of equity left; in some cases they cannot afford to sell their depreciated homes.
American housing policy has reached a dead end. We can no longer stimulate the economy successfully by encouraging more and more people to assume higher levels of debt. Decades of public policy aimed at subsidizing home ownership created conditions that spewed toxic mortgages into the financial markets, costing taxpayers hundreds of billions in bailouts and trillions more in lost wealth and lost jobs in the economic downturn, and created a ruinous housing bubble.
It was not, by any means, a complete flop. Tens of millions of American families enjoyed the benefits of living in a home of their own. Prudent borrowers who bought only the house they needed and fought off the temptation to use their home equity to finance their lifestyles have mostly not done too badly. Many homeowners can and will hang on until the inevitable market correction pares their losses to a manageable level. Those lucky or far sighted enough to buy at the right time are still sitting on sizable profits.
But something has, I think, changed. Something big. Humpty Dumpty has fallen off the wall. A social ideal has received an irrecoverable blow and the era of consuming our way to prosperity is drawing to a close. The country has maxed out its credit cards, and we are going to have to live within our means.
This isn’t the first time the American Dream has died. The old dream — your own farm rather than your own home — once dominated American culture, politics and family life as much as the family home ever did. The slow and painful death of that dream was one of the country’s core preoccupations in the first half of the twentieth century. The death of the new dream is likely to be a big deal as well.
The ideal of the family farm was once even more deeply rooted in American life than the ideal of the owner-occupied home. In the 18th and 19th centuries, the average American family owned and farmed a small piece of land. Cheap land on the frontier made the original American dream accessible to just about anybody. New immigrants and young people would work for a few years to save up money for basic tools and equipment, head west and start up a farm.
From the Revolution (caused in part by George III’s attempt to stop the colonists from opening the land beyond the Appalachians to settlement) through the Great Depression one of the federal government’s main concerns was to make life easier for family farms. American governments worked to make land and loans cheap. Politicians also promoted the construction of railroads that allowed inland farms to ship their products to distant markets and then worked to regulate railroad rates so that farmers could make a living.
The old dream died from a combination of reasons. The closing of the frontier dried up the supply of free land and the mechanization of agriculture made small farms uneconomic. Federal subsidies lured too many people onto the land; many homesteads in parts of the west were in climates unsuited to smaller holdings. A vast expansion in global acreage under the plow in the late 19th and early 20th centuries exposed small family farmers to tough global competition. The terms of trade between farm goods and town goods changed over the years; farmers’ incomes steadily fell in comparison to urban dwellers. The more complex and expensive farm techniques needed to meet the competition required farmers to spend more on equipment and education than their small farms could really support. Young people craved the excitement and the opportunity of urban life.
Non-metro farming dependent counties in the United States, 1950 & 2000 (USDA Economic Research Service)
Then came the Dream 2.o: home ownership in the suburbs accompanied by a consumer lifestyle based on credit card debt and the installment plan, anchored by a white or blue collar ‘good’ job. Once again federal policy aimed to make the American dream open to any white male: jobs were to be plentiful and mortgages cheap. Over time, we’ve extended the concept: you don’t have to be white or male to qualify for a good job but American social policy as a whole is recognizably an adaptation of our family farming heritage to the age of manufacturing.
Now the 2.o Dream is on the skids — and, as was the case with the death of the family farm, more than one force is at work.
Part of it is the breakup of the blue social model. In the heyday of the old economy, the average American job was long term — lifetime employment in the car factory, working for the phone company or the local bank, or working for the government. A thirty year mortgage with steady payments made a lot of sense in a world of lifetime employment. Today’s careers are more volatile — even when things go well there are ups and downs and, often, spells of unemployment between gigs. Income growth is also unpredictable; unions are negotiating givebacks rather than the steady raises of past generations, and the downsizing of whole industries and the decline in manufacturing employment means that millions of Americans must adjust to falling incomes as life goes on. A mortgage payment that seemed reasonable when father worked at the Chrysler plant becomes an unmanageable burden when the plant shuts down and he gets a job at the 7-11.
Family structure is also changing. Divorce was rare in the American middle class fifty years ago. A nation of kaleidoscopic family arrangements doesn’t fit the thirty year mortgage pattern quite as well as we used to. Divorce creates two new households at a lower income than the original one, forces the split up of assets and changes the nature of real estate markets. A nation with a high divorce rate, all things being equal, is a nation of worse credit risks than a nation which marries for life.
The American household is also getting smaller. More people are remaining unmarried; many married couples are having fewer children. While the shift to smaller households propped up house prices for a while (smaller households mean more households are in the housing market) it tends to reduce credit quality and slowly alters the nature of the housing market. Single parent households have lower incomes and are more exposed to unemployment, and single young people tend to be more mobile than their married counterparts. Single parent, single person and smaller households generally also tend to prefer smaller and more easily maintained residences.
The banking system is also less well organized to offer low rate thirty year mortgages than in the past. Fifty years ago, interest rates were essentially regulated by the government, and the government worked to keep those rates stable for mortgage oriented banks and savings and loans. The inflation of the 1970s, the rise of global financial markets and the deregulation of interest rates that followed on these developments changed the way banks work and the environment they work in. The rise of instruments like mortgage-backed securities did not take place in a vacuum; if cheap long term mortgage financing was going to be available to American consumers at reasonable rates, banks would have to find ways of spreading the risk. With encouragement and support from government, they shifted from being mortgage-holding institutions to being mortgage making institutions. Banks made their money from originating the loan and then passed it along.
Diminishing returns were also a factor. The housing-industrial complex wanted to keep growing; that meant expanding the market. The government, the housing industry and the financial service industry have all worked together to increase the percentage of American families who own their own homes — even though that meant making sketchier loans to more vulnerable borrowers as financial markets were becoming more volatile.
The increasingly debt-oriented lifestyle of the last eighty years saw consumer debt steadily rise — for cars, vacations and college education as well as for homes. Rapidly rising levels of consumer debt — topped off by federal and state debt — were seen as necessary for economic growth. Unsustainable debt wasn’t a bug in this system; it was a feature. Massive trade deficits subsidized by mercantilist foreign governments bent on exporting increasing volumes of goods to decreasingly credit-worthy American consumers kept the merry-go-round spinning.
A falling dollar, massive shortfalls in pension programs, a collapsed market in securitized loan products ranging from home mortgages to credit card debt, young people crushed under the burden of student loans for college educations that did not pay off as advertised: these are related signs that a social model is wearing down. The age of big blue was an age of big debt; we are going to have to try something new.
Everyone is to blame for what happened — and nobody is entirely at fault. Borrowers over borrowed and over bought. Speculators danced on the precipice with other people’s money. Banks knowingly made bad loans and passed them along to a complicit and compliant Fannie Mae and Freddie Mac. Politicians turned these watchdogs into lapdogs and used the agencies as patronage playgrounds rather than filling them with serious and competent leaders. Investment banks in the US and abroad developed complicated financial instruments that exploited the weaknesses in the system — and paid outrageous bonuses to the executives who figured out new and even crazier forms of financial razzle dazzle. Meanwhile, back at the ranch house, taxpayers asked no questions about the combination of market distorting subsidies and implicit taxpayer guarantees that underwrote the whole dizzy boom. And they gladly overspent on their credit cards, telling themselves that their rising home equity would bail them out in the end.
So everybody did something wrong — but in another way, everybody is at least partly innocent. The concept that the owner occupied house is the natural and only home for the standard American family, and that the financial system can and will provide fixed rate thirty year mortgages as if it was still 1959 is almost certainly wrong. The concept that massive consumer debt plus massive government debt is the road to stable prosperity looks increasingly delusional — but the great weight of conventional wisdom and the habits of many decades give these idea such an air of inevitable truth that even today most people have a hard time imagining life after Levittown and regular credit card fueled sprees at the mall.
The diversion of trillions of dollars into uneconomic and unsustainable uses has cost this country in ways that can scarcely be imagined. The creation of vast unfunded liabilities and unsustainable entitlement liabilities will haunt us for decades as we struggle with the consequences. The costs are likely to rise as Americans individually and collectively continue to shore up a dying dream.
Slowly and reluctantly, the country will have to move on. Unwinding the consequences of our distorted housing market will probably not be quite as painful as unwinding the farm bubble of one hundred years ago. But it’s going to hurt, and it’s going to deepen the sense among many Americans that something has gone terribly wrong.
This Great Recession, the greatest economic meltdown since the 1930s, was touched off by a housing crisis that is intimately linked to the breakdown of the American social model of the 2oth century and the system of home ownership that is so deeply intertwined with it. The recession will end at some point, but the glory days of the old model will not return. The politics and economics of nostalgia will not bring us back to the kind of steady growth and rising living standards that Americans enjoyed when both versions of the Dream were in their prime.
We are going to have to rethink the Dream going forward — this is part of the vast process of American reconstruction that urgently needs to get started — a process too many of our nostalgic intellectuals seem unable to face.
Our existing housing stock is not going away. Home ownership is likely to continue to be more common in the US than in other countries. But the idea that the average American family will make a killing on the average American home, painlessly acquiring the savings for retirement through government-subsidized fixed rate thirty year mortgages, has passed its sell by date. Americans are going to have to save more and consume less, and the returns on home ownership are likely to stay low.
The transformation of Americans from a nation of savers and entrepreneurs in the era of the family farm to a nation of consumers in the last eighty years was a fateful one. Our ancestors thought that debt was shameful and a burden; we’ve come to think of cheap debt as part of our birthright. The American Dream as we’ve known it entailed a lifestyle based on permanent debt. The growth of the American economy depended on growing debt at every level from federal Keynesian stimulus to credit card and mortgage debt.
I will have more to say about the ever-changing American Dream in posts to come; while painful, change is not only unavoidable. It can lead us to better, richer, more truly human lives. It is a new century, and America, the land of the future, must once again find the frontier.
[Note: this post has been edited since first publication.]