by Mario J. Rizzo
Today CNN reports that there has been a record decline of housing prices. The Case-Schiller Index showed a decline of 16.6% for the third quarter compared with the same period a year ago. This is important and good news.
For those who believe that all downward adjustments in prices are indications of dangerous deflation this is unnerving. However, most commentators are wont to play up the aggregate aspects of the current financial situation to the neglect of the relative price disequilibrium. The core of the current problems lies in the housing bubble. Mortgage-backed securities are of uncertain value and thus the private market has dried up. What would help clarify the situation is for the underlying housing prices to reach their bottom. (This could be much lower.) It would also help if those who are about to foreclose or restructure would do so quickly. (Of course, it doesn’t help that the various arms of the government are toying with plans that prevent or slow down this adjustment.)
The faster the adjustments take place the better off we shall all be. The slowness of adjustment creates uncertainty, financial instability and reluctance to invest on the part of the private sector.