Economics 101: If Demand Rises And Supply Doesn't, What About Price?

Sometimes it’s worthwhile to take a step back to go forward. In this case, I’m thinking good old fashion Econ 101.  If demand rises (and surely there has been evidence that demand is rising, and supply does not substantially change, what happens to price?

It will come as no surprise that for a number of reasons in the past years, there has been little demand.  So, when there is little demand, price keeps falling until a point in time that something happens.

Over the past 4 or more years, there had been a declining demand due to a decreasing ability to obtain financing and an increasing inability to pay mortgages.  As so many of us have experienced first-hand, that prices started to fall in 2007 (for the astute observers) and 2008 for the rest of us and generally have not completely stopped. 

Prices have fallen so much so that non-traditional buyers, aka hedge-funds and sophisticated investors, have pooled huge sums of money to acquire portfolios of distressed housing as well as acquire homes one purchase at a time.

Granted, not all markets have hit bottom, but based on the increasing attention of sophisticated investors, it would seem that a growing proportion of markets have hit bottom.  Unfortunately, investors alone buying up houses will not fully drive up prices.  It does take the end-user, which is a homeowner to re-enter the market with confidence and buying power. 

So, on the condition that a substantial amount of new housing inventory does not come into the market in the next 24 to 36 months, price, in general, is going to trend up over the remainder of the year and into the coming years.  And then, at a point in the future, the economics of acquiring distressed houses one at a time by hedge funds will no longer be financial beneficial to investors because a home-owner will be willing to pay more than a distressed investor will be. 

Of course, the wildcard in all of this is supply: both in terms of supply (think ease of access) of mortgage financing and supply of delinquent but not yet foreclosed homes, already foreclosed homes but still on bank’s balance sheets, and coming short sales of existing homes.  Those 3 factors are the determining key to the kingdom on when and if prices rise in the next 24 to 36 months.

Michael Hobbs, SRA     PahRoo Appraisal & Consultancy

Twitter: @PahRoo

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