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Sunday, March 23, 2008

In the valley of dead elephants...

There has always been a legendary place where elephants supposedly go to die. No one's ever found it and it likely doesn't exist, but it does conjure up visions of a valley filled with elephant bones. I got to thinking recently about where all of the value goes that is lost in meltdowns like we are in right now in housing...the valley of dead house values, so to speak. According to recent reports the U.S. housing market either has or will end up losing close to 1 Trillion dollars in value, due to the current credit crisis and declining home values. Where did all that value go?

There are many answers to that question, of course. A good deal of it actually is still bouncing around in the economy - money that people took out of the inflated value of their houses to pay bills or buy stuff. Most of it is like the air being let out of the cartoon houses in the picture - it is ethereal and existed only in our imaginations. As I've posted here before, that turns out to be a hard thing for most homeowners to accept.

People who have lived in their houses for years and not run up their mortgages have strong mental images about what they think their houses are now worth, based upon what they saw happening with appreciation over time. Now they can't let go of those numbers, even though it was all a paper gain and a paper loss. The further bad news for them is that they paid taxes on the paper gains but they aren't getting much of a break on the paper losses.

If you think about it, housing is the only thing that we buy for which we expect to hold an appreciating asset. Cars, cloths, and other possessions all seem to lose value over time, even if you care for them. A house, on the other hand, is expected to be worth more, if you care for it while living in it, at the end of your ownership. That has pretty much always been the case and there have also always been exceptions. Whole neighborhoods have gone downhill, taking both the well-cared for and the derelict houses with them. In some cases house values have gone down and then made comebacks. There are many cases of that happening in inner-city areas as re-urbanization takes hold.

Our current crisis, like so many before and most of those yet to come was caused by human nature. We had been merrily going along with home appreciation that pretty much matched inflation or was even lower for a while – 3-4% per year was fairly common. Then, the era of easy money made it easier for people to borrow more and more – to buy bigger and better houses and to take more and more “equity” out of their houses. The appreciation rate for homes jumped into the double digits more is some hot spots like California, Florida, Nevada and Arizona. Even Michigan saw appreciation in the 10-15% per year level in some areas. The whole thing just snowballed and most people were happy to be along for the ride, tapping the home piggy bank for all manner of luxury purchases.

The run-up in values couldn’t last, but few foresaw the steep and deep declines that would follow and which are causing our current crisis, especially not the financial wizards who were gleefully creating all sorts of new and exotic investment vehicles to ride on the wave of home values. Then, BOOM! The elephant died! Now we all have to live through another recession that was caused by our own excesses. You would think we would have learned from past experiences of run-ups and busts, but apparently we are doomed to repeat failures by not learning from history. So, for a while let’s all lament the bones of the dead elephants in our neighborhoods and hope for better days ahead. Maybe our children or their children will do a better job than we did. Thank God it’s Easter. At least that reminds us of the one thing that we can always count on.

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