David R. Henderson  

Rudebusch on "Housing Demand"

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This is another installment in my posts on my visit to the San Francisco Fed on April 9.

My talk was in the afternoon, but I always like to see the talks that precede mine so that I can get a feel for the audience--what they know and don't know, what they're thinking about, etc. The first talk was in the morning. It was titled "The Economic Outlook" and was by Glenn Rudebusch, Executive Vice President and Director of Research at the San Francisco Fed.

My big impression was how Keynesian he was/is. A large part of his focus was on household spending, auto and truck sales, home sales, and home building. There wasn't even one slide, in his 18 slides, about investment. (Of course, to some extent, housing and car and truck sales are investment. Maybe that's what he would argue.)

Of course, whether you think that's sensible will depend on whether you think the Keynesian model is basically right and also on whether the focus should be on the short-run (consumption) or the long run (investment).

But I was surprised that he made a basic economic error, one that I would expect my students not to make after we've gone over it in class. After showing a slide on sales of existing homes--it showed a big drop in the last few months--he referred to this as "housing demand." But it's not housing demand, nor is it housing supply. The only thing that a figure on home sales tell us is how many homes were sold. The drop could be due to a drop in demand. One could even argue that it's likely due to a drop in demand. But it also could be due to a drop in supply. At most, it's an equilibrium quantity determined by the intersection of supply and demand.

I've even seen one sharp petroleum economist from the American Petroleum Institute make the same mistake: he presented data on consumption and referred to it as "oil demand."


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CATEGORIES: Macroeconomics



COMMENTS (12 to date)
dave smith writes:

No wonder economics education is in such sorry shape: even our own lack such precision.

As to the Keynesian nature of many of us: I think Keynesianism lends itself to "easy explanation" more than other ways of presenting economics. In other words, Keynesianism has a comparative advantage at simplicity. Talk about how many cars are selling and you have a sophisticated talk.

Andrew_FL writes:

Evidently it needs to be drilled into people there is a difference between demand and transaction volume.

I blame teaching people to think in terms of "aggregate demand."

AMW writes:

I wonder if this imprecision is due to fairly inelastic supply curves in housing (at least in some regions) and petroleum. If it takes quite a while for output to ramp up then changes in transactions may tend to be driven primarily by changes in demand. This could be particularly true for housing, which is a highly durable good with most of the supply in a given year being made up of the existing housing stock.

David R. Henderson writes:

@AMW,
I wonder if this imprecision is due to fairly inelastic supply curves in housing (at least in some regions) and petroleum. If it takes quite a while for output to ramp up then changes in transactions may tend to be driven primarily by changes in demand. This could be particularly true for housing, which is a highly durable good with most of the supply in a given year being made up of the existing housing stock.
For petroleum, possibly. For housing, no way. It’s particularly not true for housing. Assume approximately 80 million houses in the United States, which is probably on the low end. His data show that in February there was an annual rate of 4 million sold, which, as I eyeball it, is about 340,000 in a month. Out of 80 million, this is very small.

Danel Kuehn writes:

Some markets tend to have demand lead supply due to supply side factors coming from steady long run demographic or preference trends (I'm thinking of specialized labor markets here). I agree on your underlying point completely but if its that kind of situation we may have a fair amount of confidence that movements along the supply curve dominate (and price data can buttress or force us to reconsider that intuition). I'm not sure if that's the case with housing. A lot of housing transactions are such that buyers are also sellers. I suppose the new market entrants are all going to be buyers and that they should outnumber exiters. Maybe that's the point but I don't know. You do hear "housing demand" a lot lately, though don't you?

Daniel Kuehn writes:

I'm intrigued by your comments on Keynesianism. I typically think of Keynesianism as an investment based theory rather than a consumption based theory. In my HET where we were discussing Keynes himself much of the discussion was about animal spirits, interest rates, and their impact on investment. Consumption comes up in Keynes of course, but how?: to build the investment multiplier. We also talked about how Keynes's consumption theory was very underdeveloped (this is where Friedman and others would come in) precisely because he was so focused on investment.

In teaching macro of course we go through the "footnotes to Keynes" and not Keynes himself but he story is exactly the same - investment responds to expectations and the interest rate and the main point of talking about consumption is to derive the investment/government spending multiplier.

Have I got something wrong? Consumption is important and interesting of course but investment is really the heart of Keynesianism, no?

Mr. Econotarian writes:

Interesting analysis of the SF housing situation: http://techcrunch.com/2014/04/14/sf-housing/

Points include:

SF has 35% home ownership rate, and 75% of rental units are under rent control

Mountain View is discussing new office development that would bring as many as 42,550 office workers to the city. But the city’s zoning plan only allows for a maximum of 7,000 new homes by 2030.

Most of SF has a building height limit of 4 stories.

David R. Henderson writes:

@Daniel Kuehn,
I'm intrigued by your comments on Keynesianism. I typically think of Keynesianism as an investment based theory rather than a consumption based theory.
Good point, Daniel, and I was wondering about that when I wrote this. I do recall that Keynes emphasized investment. So maybe I used the wrong word. What I’m getting at is that the Keynesians whom you see quoted in the media so often tend to emphasize consumption.

MikeP writes:

Mr. Econotarian echos what I was going to say.

In northern California the small number of housing transactions is definitely a problem of low supply, not low demand. Between rising employment, little new housing, and the inherent stickiness caused by Prop 13, inventory in the Bay Area is pretty much nil.

MikeP writes:

Also, to echo the Keynesian point, it seems to reflect a peculiar bias to presume that transaction volume reflects demand more than it reflects supply.

No one walks door-to-door in a neighborhood he wants to move into and knocks on the doors offering to buy houses. Houses come on the market, and then the demand side sees the houses in the inventory. Higher demand than inventory driving up prices will slowly reflect in higher supply, but most people are happy where they are living and don't want to bother getting some marginal gain by selling their house and buying something cheaper just to pick up the cash.

Similarly, new supply, when it is allowed by zoning at all, only slowly responds to new demand as new housing units generally take more than a year to materialize.

So it seems that supply more than demand dictates housing transactions except in greenfield communities.

Roger McKinney writes:

Daniel:

discussing Keynes himself much of the discussion was about animal spirits, interest rates, and their impact on investment.

That has intrigued me as well. It seems that Keynes saw the cause of depressions in lagging investment, but that was due to "animal spirits." In other words, stuff happens!

Because the collapse in investment is a random event, there is nothing governments can do about it. So it seems to me that Keynes emphasized consumer and government spending as a way to force reluctant investors to invest. I could be wrong, but that's how I reconcile Keynes' cause of the recession with his policy prescriptions.

Andrew_FL writes:

Keynes recognized that variations in investment with the business cycle tended to be larger than other variables, so he did emphasize the importance of investment...buuut, this doesn't really mean he had much of a theory as to why variations in the level of investment occur...other than "animal spirits."

In particular it was not the role of interest rates to coordinate savings with investment. Supply and Demand of loanable funds were argued to move together-this is the point of the only actual figure in the General Theory. And hence the paradox of thrift.

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