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Measurement Problems: House Price Inflation

 What A "Guide to Discontinuity... My Talk at Berkeley...

A while back, Scott Sumner wrote,

The BLS doesn't claim housing prices fell 7.7% since mid-2006, they claim they rose by 7.7%. Just a minor 39.3% discrepancy with C-S.

BLS is the Bureau of Labor Statistics, the custodians of the official Consumer Price Index. C-S is Case-Shiller, the name for a popular index of house prices. The latter fell by 31.6 percent over the relevant time period. These are cumulative figures, not annual rates of change.

If you are a consumer, you can say that the housing component of your cost of living went up. If you are a renter, rents have gone up. If you are an owner, the decline in the value of your home can be imputed as a "rent" that you paid to live in your house.

If you are in the supply chain in home building, as a builder or a supplier of building materials, then you care about the price of your output. You don't include changes in the price of land tracking changes in the price of your output. If you go to the National Association of Homebuilders, it looks as though framing lumber prices peaked just above \$400 in the fall of 2005, hit a trough of just under \$200 in the spring of 2009, recovered to around \$350 in the spring of 2010, and have dropped back to around \$250 more recently. Perhaps that is representative of how the sector's prices have behaved.

If you like Commerce Department numbers, then this table of construction prices might be your choice. It says that prices were about flat in 2007, down 5.2 percent in 2008, down another 4.4 percent in 2009, and were about flat again in 2010.

If you are trying to trace a path from employment to nominal GDP, then you take

total hours worked x output per hour x price of output = nominal GDP.

In terms of growth arithmetic,

growth in total hours worked plus growth in output per hour plus inflation = growth in nominal GDP.

Assuming that total hours worked and nominal GDP are measured correctly, then if you think inflation has been lower than the government statistics show, then output per hour has been higher than those statistics show. Scott's point is that this would mean, in turn, that real wages have increased more than the statistics show. But by the same token, it means that productivity has increased more, and that seems like a wash if you are trying to describe a movement along the aggregate supply curve.

CATEGORIES: Macroeconomics

cthorm writes:

"Scott's point is that this would mean, in turn, that real wages have increased more than the statistics show. But by the same token, it means that productivity has increased more, and that seems like a wash if you are trying to describe a movement along the aggregate supply curve."

But by what mechanism did real wages increase? Nominal wages have certainly been flat or worse...implying real wages are up because most other prices are down. I'm not sure why even faster productivity growth would be a surprise, given high rates of unemployment coupled with long term trends of productivity growth through information technology.

writes:

Scott is confusing housing consumption with housing investment.

Case-Shiller is a measure of investment value price changes in housing.

BLS in the CPI measures the consumption value of housing for the period. It is an adjusted rent that excludes other goodies landlords may include in the rent such as utilities and includes payments not made by the tenant such as government rental subsidies.

The ratio of the two together is a price to rent ratio with owner equivalent and adjusted rents included.

Price to rent ratios vary and can and have moved in the same or opposite directions over many past measured time periods.

cthorm writes:

@Milton

Don't you think that distinction is a bit...arbitrary?

What's the distinction between housing investment and housing consumption? The fact that you're paying a mortgage versus paying rent? I don't think that holds water given the structure of housing finance in the US. The mortgage tax deduction encourages owning relative to renting. Most people who buy homes today have no intention to stay the full 30 years of their mortgage term, but that hardly makes it housing investment. It's more like paying rent and receiving an option that has it's value tied to the property. It's both consumption and investment.

writes:

@cthorm

The point you make about mortgage payments is exactly the point Scott misses. The BLS instead of using mortgage payments coverts house ownership into equivalent rents. BLS attempts to find out what rent the homeowner would pay and uses that computed number, instead of mortgage payments, along with actual rents to look at price level changes in rents (both actual and computed) for the time period.

Case-Shiller looks at home value changes.

Home values increase 5 percent, rents remain flat and the mortgage interest rate declines form 6 percent to 4 percent (which results in a 20 percent monthly payment reduction on a refinance or variable 30 year mortgage).

Scott wants to use a 5 percent increase in that CPI component. BLS wants to use 0 percent increase in that part of CPI and are you saying you want to use a 20 percent decline in that component of CPI?

cthorm writes:

@ Milton

"Scott wants to use a 5 percent increase in that CPI component. BLS wants to use 0 percent increase in that part of CPI and are you saying you want to use a 20 percent decline in that component of CPI?"

Precisely. Under the scenario outlined above, I think that is the "right" change for CPI. But let's be clear that the scenario above is NOT the current situation.

The current situation is more like: home values decrease 30%, rents rise 5%, and the mortgage interest rate declined from 6 percent to 4 percent.

On a house that was \$1MM in period 1, assuming a 20% down payment on a 30yr fixed rate, that's a 55.8% decrease. Whereas C-S would show a 30% decrease and BLS would show a 5% increase.

Scott Sumner writes:

I'm not claiming what Arnold and Milton claim I'm claiming. I'm saying there are lots of ways of measuring inflation, and it's not clear which one belongs in our various macro models. I'm saying for that reason we should not pay attention to inflation, and by implication we should not pay attention to real wages.

It's possible my post suggested otherwise, claiming you could just as well argue real wages rose. But if so I created the wrong impression, I'd prefer to ignore inflation entirely.

BTW, if real wages and productivity both rise sharply in a recession, you could argue that's a problem. It means the less productive workers have lost their jobs.

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