Calverley, author of the book, Bubbles and How to Survive Them (Nicholas Brealey Publishing, October 2004), suggested at the time his book was published that the U.S. housing market was in the “early to middle stages” of a housing bubble. Now, with prices up another 12%, Calverley has revised his opinion.

“The U.S. bubble is now past its middle stages,” he suggests. “But the bubble still has longer to run. In some markets where prices have already risen very strongly there is a possibility prices will level off. Others, which have lagged so far, may see stronger increases,” he said.

The Characteristics Of A Bubble – The U.S. Checks Out
In the report, Mr. Calverley deploys a checklist to identify the U.S. housing bubble, evaluating factors such as housing valuations, lending growth, new lending policies, new entrepreneurs in the area and media interest. The U.S. housing market qualifies on all of the criteria he measured, joining several countries around the world, including the U.K., Australia, Holland and Spain.

How Big is the Bubble?
The report argues that house prices are at least 25% overvalued (even taking into account that higher valuations may be justified in today's market, given lower interest rates) but could be as much as 40% too high. “In relation to consumer prices, earnings or rental yields house prices have gone off the chart over the last couple of years,” notes Calverley.

Much Bigger than the 1980s Boom
Today's boom is stronger and more pervasive than the boom in the 1980s, with a 50% gain in the last five years compared with a 37% gain in the 5 years to 1990. The 1980s boom was concentrated in the North East, California and Hawaii. These areas are leading again now but more states this time are showing strong gains including Nevada, Maryland, Virginia and Florida.

“The size of the boom and its spread across the country make it much more likely that national house prices will fall when this bubble bursts and therefore a much bigger threat to the economy” argues Calverley.

There She Blows: Economic and Monetary Ramifications
When the U.S. housing bubble bursts, Calverley says it will have significant economic and monetary policy ramifications. “When the bubble bursts residential investment, real-estate related job growth and consumer spending will slow. The Fed may need to respond quickly with lower interest rates to avoid a recession. If it fails, the interaction of a recession and falling house prices could make the recession very severe and the house price fall deep and prolonged.”

Is The Pin Near The Bubble?
“The end of the bubble is not likely near term unless interest rates rise significantly more than currently expected, and/or there is a downturn in the economy,” said Calverley. “It probably therefore has at least a couple of years to run since the near term outlook for the U.S. economy is good and inflation remains under control -- suggesting that interest rates will not rise sharply.”

Calverley is responsible for American Express Bank's Global Economics Unit's economic and investment research capability and provides advice to the Bank's institutional and private clients worldwide as well as internally to the credit function and to senior management. He is based in London. He writes and edits a suite of publication on economics and market trends, Economics for Investment. For an electronic copy of the August edition (including the report on housing) or any of Calverley's research, please contact Maureen Richardson of River Communications at 914-591-5599 or mrichardson@riverinc.com.

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