SAN DIEGO (MarketWatch) -- Stephen Levy is worried about the health of the housing market in California.
Even if you haven't heard of him or are simply tired of hearing about anything having to do with housing, Levy is a man who should be listened to. As senior economist at the Center for Continuing Study of the California Economy in Palo Alto, Calif., which he co-founded more than 35 years ago, Levy has seen more than his share of cycles.
This cycle doesn't look like it is going to end well, he says. His reasoning is deceptively simple: "There's a limit to what people can afford."
Fueled by what Levy terms "bizarre mortgages," home prices have ballooned to 80% more than the national average in some of these markets. The median home price in the state recent price declines, notwithstanding hovered at $586,000 as of late July, according to the latest figures from California Association of Realtors. That is more than double the national average of $228,900.
A bigger economic upheaval, Levy says, "isn't about foreclosures," which are making the headlines now, "it's about the spending behavior of those who aren't going to lose homes but have seen their wealth evaporate." Either they don't have as much home equity to borrow against, he says, or they are afraid to spend as they watch the value of their home decline.
From their peak, home prices in California's fastest-growing areas have fallen 6% to 11%. For a while, the so-called wealth effect of that decline was offset by the rising stock market. "But the stock market is coming back to earth," Levy says. At one point in August, in intraday trading, the Dow Jones Industrial Average was down 10% from its 14000.41 record close.
Making matters worse, he says, the first baby boomers turn 62 years old next year. They will be retiring soon and may want to sell their homes to downsize. As long as home prices remain at such lofty levels, California could have a hard time recruiting replacements who like the idea of homeownership, especially first-time buyers. "That's where this hits the economy," Levy says. "It will be hard to attract new people and firms to the state," which has seen a slow net migration in recent years.
Even multiple cuts in the Federal Reserve's target federal-funds rate, he argues, won't necessarily help until prices become more rational. With 10.7 months of unsold inventory, not counting homes that would be on the market if sellers thought there would be buyers, he believes Californians can expect another few years of difficulty, depending on the speed of this housing correction.
Why should non-Californians care about the California housing market, especially when the S&P/Case-Shiller Home Price Index shows year-over-year increases in such cities as Charlotte, N.C., Portland, Ore., and Seattle? Because the Golden State accounts for 13% of the country's gross domestic product or the total value of all goods and services produced nearly double the No. 2 contributor, New York. That means that what happens in California, home to such growth industries as high-tech, biotech, venture capital and film, doesn't necessarily stay in California. The impact of slow economic growth, or even recession, in the state will ripple through the rest of the country.
California, alone, wouldn't be enough to put the country into a recession, Levy says. "What would be serious would be if there are other markets like California." And based on prices well above the average in places like New York, Boston and Boulder, Colo., and the Miami-Fort Lauderdale area, we know there are.
