Basically, the entire real estate bubble was dependent on lowering interest rates.
Without lowering interest rates, properties no longer rose in price. Once prices began to fall, banks closed the spigot of lending money.
So, if you want to know the direction of the real estate market, then look at interest rate trends.
Which way are interest rates headed? Clear signs point to higher rates.
And here is the reason: INFLATION.
Inflation is the number one concern of the Federal Reserve. Why? Inflation robs everyone of the value and purchasing power of money. Think of it this way - you may think you have a good amount of money in the bank. For example, maybe you have enough to buy a new car. But if inflation increases, your money will buy you less as the price of cars rise. So it is the Federal Reserves job to keep inflation in check - otherwise the wealth of our nation and population rapidly deteriorates. The primary tool the Fed has in its limited tool belt is controlling short term interest rates - the rate charged to banks to borrow money. To slow inflation, the Fed raises interest rates thereby causing the economy to slow down. This relieves demand and causes prices to come down.
So where does inflation come from? It comes from too much demand. With too much demand, you have inflation since too many people/organizations are competing for a limited supply.
Think of it this way. Every product you see - cars, televisions, clothes, appliances - have 3 major input costs: labor, energy, and raw materials. (there are other input costs, like machinery & facilities, but they usually don't fluctuate in price once established).
Today, all three major input costs: labor, energy, and raw materials, are all rising - some at near record levels. And historically, the Fed knows that once these inputs move higher, they get more and more difficult to control.
Here is how the inflation-making components currently look:
- Labor: Unemployment is near record lows causing wage costs to rise. Wages are a huge cost for all goods, and when they rise too quickly everyone suffers as inflation removes the purchasing power of money.
- Energy: Oil is currently trading above $72 a barrel - a number previously thought devestating for the economy. If prices rise much higher, the markets may panic as they digest this impact.
- Raw materials: Commodities continue to climb in price as world demand increases. And with China and other economies rapidly growing, this trend will likely continue.
With all three major input costs rising and at record highs, inflation should continue to be the primary focus of the Fed.
The next move by the Fed is likely to be up. With the current backdrop of economic numbers, there is little choice for them.
And with higher rates, there will be no relief for the declining of real estate.
So for those looking for the real estate market to turn around, you have a long wait, especially with the massive glut of properites on the market.