If you're seeing this message, it means we're having trouble loading external resources on our website.

If you're behind a web filter, please make sure that the domains *.kastatic.org and *.kasandbox.org are unblocked.

Main content

The housing price conundrum

Why did housing prices go up so much from 2000-2006 even though classical supply/demand would not have called for it. Created by Sal Khan.

Want to join the conversation?

Video transcript

Until about 2006, if you talk to anyone, especially real estate agents, they'd always tell you that on average, nationwide, that housing always goes up in price. There could be layoffs. And maybe oil drops off and people have layoffs in Texas, so housing prices go down in Texas. Or they have layoffs in Michigan, so housing prices go down there. But nationwide, housing prices do nothing but go up. And that, for the most part, has been true since the Great Depression. Housing prices have been going up, maybe 1% or so per year. Actually a little bit less in real terms. But something fundamentally amazing happened in the beginning part of this decade. I have right here, this is the Case-Shiller index. And this is probably the best estimate of housing prices I can find. This is better than the median, because the Case-Shiller actually tries to compare the price you pay for the same house. And maybe I'll do another video later on how they exactly do that. But if we look at the Case-Shiller index. Let's see, in 2000 -- that's where they index it to -- a house that cost, you know, $100,000 in 2000. Or, the index was at $100,000 in 2000. By 2004 houses nationwide -- this is the national index right here -- nationwide, prices had increased by 46%. And by 2006, where they peak, they had increased by 88%. They had almost doubled since the price in 2000. And so the obvious question is, why did this happen? What drove prices to increase so fast? When really, for most of the history of America, housing prices have never increased this fast. Especially considering what was happening in the broader economy. What do I mean by that? Well for the price of anything to increase, what has to happen? Well the demand has to increase faster than the supply, right? So let's look at possible theories. What are demand drivers that could make housing prices go higher? Let me write that in green. Demand drivers. Well maybe the population grew faster than the housing stock? When I say the housing stock, I just mean that we're saying just demand. So let me just say population. Housing stock is supply. So population goes up. That's a demand driver. What's another demand driver? Incomes go up. Right? That's another reason. Maybe if a lot of people just become a lot richer, they're willing to pay for houses. And what are the supply drivers? Well these are just new homes built. So if you buy the classical supply-demand argument, why housing prices increased by 40% from 2000 to 2004, or why they increased by 80% from 2000 to 2006, these dynamics should have grown faster than these dynamics. So the population -- or maybe the total income, if you took the population and incomes-- grew faster than the new homes built. So let's see if that's true. So I found this New York Times article. And you could do some Google searches, and I'm sure you can find probably better data. This is just me doing a very fast search on this stuff. Let me see if I can get it up. OK, here it is. So this is from a New York Times article. This is a little graph. And this is showing the average of incomes reported on all tax returns. So notice, from 2000 to 2004 the average reported actually went down. It actually went down from 2000 to 2004. And this is interesting. Let me see if I can bring this in here. So here they say total reported income in 2004 dollars -- so they adjusted for inflation -- fell 1.4%. But because the population grew during that period, average real incomes declined more than twice as much, falling by $1,641 a year, or 3%. So what are they saying? They're saying the total income fell by 1.4%, but the population must have grown by about 1.5%, and so the average per capita was 3%. So let me write that in summary. So what do we know? What happened? We know from 2000 to 2004 -- and this is nationwide -- we know that the population increased by roughly 1.5%. So not by much. I mean this is over a four-year period. So per year, it was growing by less than 1%. And then if you go to the income per person, or actually this is probably, well, this is income for tax filing. But that's a pretty good proxy. Income for tax filing, that declined by 3%. So the total money available, that New York Times article just showed us, actually declined. By, what did they say, by 1.4%. So the argument that somehow there's more money out there, chasing the same number of homes, or a slightly larger number of homes, doesn't really carry much weight. But let's just make sure. Maybe for some reason, maybe houses were destroyed. Or the number of homes built just didn't keep pace with this population increase. So let's see what data we can find on that. Well actually I found this thing. This says that -- this was in 1999 -- they say the composition of estimated 115 million housing units in the United States. So we can say, roughly, that in 2000 that there were 115 million housing units. So let's see. Over this time period, roughly how many housing units were built? What percentage did the housing stock increase by? And I found this data here. And this is annualized new home builds by year. And I'm not going to go through all of the math. But if you see -- let's see, if I go back to 2000. I know this might be hard for you to see. But if we pick up pretty much any month from 2000, 2001. This is in thousands. So on an annualized basis, maybe 1.5 million homes. This was in 2000. But it started accelerating, all the way to 2004. By 2004, we were building roughly 2 million homes a year. So over that time period, we can say, on average -- you can work the numbers to get an exact number, but it should work out -- we were building about 1.8 million homes a year. And we can assume that homes destroyed were pretty negligible. I'm not aware of most neighborhoods where they were bulldozing homes. If anything, they were just renovating homes. But these are brand new homes. So over that four year period -- and I'm just going to focus there because that's where we got data from that New York Times article -- how many homes were built? Well, 1.8 times 4, that's what? So roughly 7.2 million homes, new homes, were built over that time period. And we started with a base of a 115 million, roughly, in 2000. So over that time period, the housing stock increased by 6%. So the supply of homes went up by 6%. So what's going on here? From 2000 to 2004 we built a ton of houses. The supply of homes went up by 6%. People's incomes actually went down, because we were in a recession. People were getting laid off, or they were just willing to work for less. Income went down. And the population barely increased. And if we look at the total dollars that were being earned, that actually went down. So the actual money out there to pay for houses went down. And at the same time, the total number of houses went up. But at the same time, over this exact same period, the prices of houses went up by 46%. Or, I forgot the number, but it was 40-something percent. And it actually continued to race up until 2006, where it went up 80% relative to 2000. So this is bizarre. Basic economics would tell us that if the supply is increasing and the demand is decreasing, prices, if anything, should come down. So what happened? So I'm going to let you think about that a little bit. There you have the supply-demand thing that would tell you prices went down. But not only did they not go down, but they raced up faster than they've ever done in history, in the history of the United States. So in the next video I'm going to tell you, frankly, why I'm pretty sure housing prices did go up. See you soon.