More words of wisdom from the P-I’s Mark Trahant, who seems increasingly out of place in the stubborn, denial-prone local media.
I’ve been on vacation and had a chance to travel around the West. In many of the places I visited, concerns about a real estate crisis are growing. People are starting to fear what this means for them personally. The interesting thing about coming home is the narrative in Seattle remains “we’re different.”
I continue to be skeptical. I think the region’s housing market is playing a regional version of the “Prisoner’s Dilemma.”
…
The game is the same if it’s about money — or really anything else. If players cooperate, they maximize their potential. When they don’t cooperate — someone loses big time (and someone else wins).
The Seattle real estate version of the game is a bit more complicated, but it starts with a huge supply of housing inventory. Everyone trying to sell a house is competing with other people trying to sell houses.
Folks want to sell their house for as much as they can. So they keep it on the market, looking for that one buyer. (Although Seattle’s prices remain strong, the indicator to watch is the inventory of unsold houses and condos.)
As long as everyone plays together — and sticks roughly to the price they want (even if it means staying on the market forever), Seattle’s prices will continue to be fine.
But if I am selling a house — and see my neighbors sticking to their prices — I have an advantage by selling at a discount. If I am early enough, I can play the Prisoner’s Dilemma to my advantage.
On top of that, there is another twist. Some home sellers cannot afford to drop their price because that would result in negative equity. They’d have to come up with cash to close. (I did that once and is it ever painful.) That notion is an additional incentive for those who decide to get out early and discount; they know their competitors cannot match their price.
Mark is spot-on here (although he gets one detail of the Prisoner’s Dilemma incorrect—the best outcome is if neither confesses, not both), and does a good job of explaining why Seattle is in fact notspecial. Take the time to read the entire article.
(Mark Trahant, Seattle P-I, 07.27.2007)
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34 responses so far ↓
1
Lake Hills Renter
// Jul 30, 2007 at 10:54 am
I hadn’t thought of it, but this is a great example of Prisoner’s Delimma.
2
deejayoh
// Jul 30, 2007 at 11:08 am
Actually, I think he got it right. In the prisoner’s dilemma - the best outcome is if neither party confesses - but the individual ’s self-maximizing strategy is to confess. or to lower their price. which ever comes first.
3
CCG
// Jul 30, 2007 at 11:28 am
Ouch. He’s getting ripped a new one in the comments - and surprisingly it’s not by enraged bull-tards.
“No wonder Trahant is on the Editorial Board of Morons. Ask Jimmy Carter just how great inflation works out for an economy.”
“Lost Lake Dave doesn’t realize that inflation is coming no matter what, and for most people has already hit pretty hard.”
“Revenue to governments declining? Mr. Trahant, your utter failure to assimilate facts is astounding.”
4
The Tim
// Jul 30, 2007 at 11:33 am
Yeah I noticed that too, and I have to say that I don’t get the point that the commenters in the “Sound Off” are trying to make (assuming there is a point at all). I send Mark an email thanking him for being a lone voice of reason in the local media, and I encourage anyone else who enjoys his columns on this subject to do the same. His address can be found at the end of the article.
5
rose-colored-coolaid
// Jul 30, 2007 at 11:41 am
He makes a valid point about how the system works, but I think he might have confused some with his slightly awkward comparison to the Prisoner’s Dilemma.
Put simply, in the Prisoner’s Dilemma, two parties (Smith and Jones) are given a choice confess or deny the charges. If they both deny, nobody goes to prison. If Smith confesses (implicating Jones) and Jones denies, it’s a plea bargain and Smith gets a 6 month sentence while Jones gets a 10 year one. The opposite is true if Jones confesses and Smith denies. Finally, they can both confess and implicate the other, in which case they both get 2 year sentences.
The best they can do is deny, but the risk of denying is too great when you don’t know if your accomplice will confess or deny. This means the smart thing to do is always confess. Since both prisoners are logical (right?), they both confess and both do much worse than if they had both denied.
The housing situation could be analyzed by game theory, but I believe Prisoner’s Dilemma is the wrong game to compare against. Especially because holding has costs which may trump the costs of selling at a loss, and if people realized that holding would cost them, they would sell immediately regardless of the effect on others.
6
Mike2
// Jul 30, 2007 at 11:49 am
This idea that you can improve the overall economic situtation by allowing people to avoid paying their debts is troubling.
What is even more disturbing is that inflating away debt gives every american a rational incentive to take on as much debt as possible and save nothing, since any savings will be decreased in value along with the debt.
Good plan.
7
Buceri
// Jul 30, 2007 at 1:13 pm
Nothing more than a legal pyramid scheme. Eventually, you run out of suckers. We’ve been playing this economic game since the mid/late 90s (courtesy of Alan Greenspan). Seven years ago we pulled the money out of stocks (the economy soured) and by 2002 we were playing at the Real Estate table. By late 2005 we started to get bored and pull out and now poor Bernanke has to come up with the next game before we call it a recession.
8
Lake Hills Renter
// Jul 30, 2007 at 1:19 pm
OT: There’s a Seattle post on HBB today.
9
Buceri
// Jul 30, 2007 at 1:19 pm
Off topic. Inventory at 10,200 at 1 pm. Up. I would have expected the typical Monday decrease. Let’s see what happens this evening (when I guess they log the daily/weekend activity).
10
David
// Jul 30, 2007 at 1:30 pm
His point about inflation was off. Inflation is how we got into this mess. More inflation will only make things worse. What we really need is deflation: a stronger dollar and weaker asset prices.
11
TJ_98370
// Jul 30, 2007 at 2:02 pm
Inflation is good / bad depending on perspective and situation. That painful $650 a month mortgage payment you were making in 1987 is very affordable nowdays. That’s because old debt is being paid back with inflated dollars. That’s a good thing for long-time mortgage holders, right?
12
jcsc
// Jul 30, 2007 at 3:48 pm
Debt for the gov’t is not the same as debt for individuals, so the gov’t can get itself relieved from its debt load by printing money and this is indeed what has been happening. When the gov’t got rid of the M3 and it became more difficult to quantify the increase in the money supply they started running the presses overtime. I think that this inflation theory is that instead of allowing housing prices to fall as far as they would otherwise, inflation will make up for some of the gains and instead of falling 50% it will fall 25%. However, the real point is that the inflation is necessary to increase the gov’t debt taken on for the Iraq war.
13
jcsc
// Jul 30, 2007 at 3:49 pm
oops meant decrease the real value of the gov’t debt. not increase.
14
TJ_98370
// Jul 30, 2007 at 4:35 pm
jcsc - You brought up the war! Wow! I don’t think most people even consider how the Iraq war is being financed. If I understand correctly, the money supply is being increased dramatically thru financing of the war. How can a relatively sudden increase in money supply not result in inflation?
15
jesse
// Jul 30, 2007 at 4:37 pm
“Some home sellers cannot afford to drop their price because that would result in negative equity.”
The analogy for the negative equity guys to prisoner’s “dilemma”: if prisoner A confesses, he gets the gas chamber regardless. So there’s no incentive to confess. Not really a dilemma but still analogous.
16
jcsc
// Jul 30, 2007 at 5:03 pm
I think that the conversations about “Is Seattle special?” are hysterical because I think it is myopic to think about this as a real estate bubble when it is really a credit bubble. Individuals have taken on enormous debt via mortgages, but also through refis to pay off credit, buy cars, etc. etc. Businesses have taken on a lot of debt for stock buybacks, takeovers, etc. The gov’t has been taking on huge debt for the war. The govt increased the money supply to finance the Iraq war and then created huge demand for debt by lending at such low interest rates. That is why the value of the dollar has been falling. Everything is tied together and the degree of inflation is the wild card.
17
Pegagsus
// Jul 30, 2007 at 6:02 pm
There was a huge unusual deviation in the reported figures on July 9th, 2007 on http://www.housingtracker.net/askingprices/Washington/Seattle-Tacoma-Bellevue/. I have never seen this explained away. Did they shrink the area thus making Seattle look like “it is different” when they are not? I have seen no asterisk or explaination on the site. These uncorrected figures badly skew inventory and price in the favor of the Seattle real estate agents bull stories. ????
18
Chris
// Jul 30, 2007 at 6:50 pm
So assuming the housing market tanks and deflation is a threat by the end of the year (maybe a big assumption, maybe not) what would stop the Fed from cutting rates to prevent it?
19
rose-colored-coolaid
// Jul 30, 2007 at 7:57 pm
jesse, that’s not the prisoner’s dilemma at all. The prisoner’s dilemma is a specific game taken from economics and game theory.
Chris, two parts. First, the Fed has their back against the wall, because cutting rates could further encourage China (& others) to move money out of dollars. China is already threatening this. We NEED that money to maintain our trade imbalance. Second, the Fed rate and mortgage rates don’t always move together, and they definitely don’t do so immediately. Mortgages were just under 5% when the Fed rate was 1%. If those moved together, we’d see 9% mortgage rates now.
20
softwarengineer
// Jul 30, 2007 at 10:25 pm
GREAT ARTICLE: IT MISSED A KEY POINT THOUGH IN MY OPINION, BUT BASICALLY WAS SOUND LOGIC
I would emphasize over and over again (kind of like Dr. Roubini) that subprime [and even loans to low risk borrowers too] hybrid and adjustables are only good for a period of years; then the “fixed rate [and then some]” monster payments kick in….we’re not talking 10-20% jumps folks, how about 100% or more. I know they can refinance to 7% fixed, the problem in a nut shell, they can’t afford to when their home ain’t an ATM machine anymore [meaning the price went flat, down or up a measly % or two].
I suppose if they have parents that will lend them $30-50K or more to pay the back interest the last sveral years they owe to close out the previous low payment hybrid….read the fine print carefully on your hybrid or other ARM & LEG contract, its horrifing….they can get a fixed rate refinance. Problem is, dad and mom used their home for an ATM machine too…..they’re most likely broke too…
21
Eleua
// Jul 31, 2007 at 1:45 am
For the record, I’m no fan of the war. Just so we are clear.
I always wonder how it is people get concerned about “financing” the war and the negative effect it has on the US Peso, but somehow we never discuss the horribly corrosive effect the Welfare State has on US productivity and the US Peso.
Printing money is printing money. It does not matter if you are buying bombs and bullets or paying Urban America to deal drugs and avoid contributing to society.
At least one is constitutionally mandated.
22
Buceri
// Jul 31, 2007 at 4:24 am
Eleua; The US peso??? I LOVE IT!!!! I don’t think I will be able to call it dollar again!!!!!!!!!
This morning on the PI - someone has been cheating…
http://seattlepi.nwsource.com/local/325743_appraiser31.html
23
MJ
// Jul 31, 2007 at 5:44 am
I generally agree with his comments. But I do not agree that inflation is the way out of the mess. To continue to inflate only allows the the asset bubble to increase and makes the ultimate deflation that much harder.
Some deflation in asset prices is needed to restore balance to the market and value to the dollar.
Their is danger if inflation or deflation becomes to great.
24
Buceri
// Jul 31, 2007 at 8:01 am
Mortgages are tied to US bonds (10 years or more) and not short term interest rates; these only affect car loans and consumer credit (credit cards). If we want China and Japan to keep on financing our addiction to Wal-mart, those bonds have to offer decent yields.
Not an economist; but last night I stayed at a Holiday Inn Express.
25
jcsc
// Jul 31, 2007 at 8:28 am
Eleua, I’m not making a political statement or a value judgement about the war, but simply trying to create context for the conversation. To say that it doesn’t matter why you incur debt is completely invalid. If my credit card is lending me money at 0% and I leverage that debt for a safe investment that pays me at 5% that is completely different than using the same debt to buy consumer goods that immediately lose value.
26
TJ_98370
// Jul 31, 2007 at 9:50 am
Printing money is printing money. It does not matter if you are buying bombs and bullets or paying Urban America to deal drugs and avoid contributing to society. -I agree Eleua
All I am saying is that within the last century every major war brought about inflation to some degree. I’m old enough to remember gasoline going from 35 cents a gallon to 80 cents a gallon, and $25k houses inflating to $75k after the end of the Vietnam war. History supports the expectation of significant inflation in the near future because of the Iraq war. When discussing future economic conditions, this factor should not be ignored.
27
Chris
// Jul 31, 2007 at 9:58 am
Did anyone see Cramer last night? He was imploring Bernanke to cut rates to stave off the pain he expects in the housing market. He expects people who signed ARMS in 2006 to walk away from them in droves. Apparently does not grasp the degree to which a change in fed funds rates can affect long-term interest rates, either
28
Eleua
// Jul 31, 2007 at 10:25 am
The most inflationary war we have ever fought was the “war” on poverty.
29
TJ_98370
// Jul 31, 2007 at 10:54 am
Eleua,
No one can accuse you of being a bleeding heart liberal! :)
30
Eleua
// Jul 31, 2007 at 12:05 pm
For sure.
31
Eleua
// Jul 31, 2007 at 9:09 pm
Somebody has to provide balance around here.
32
Eleua
// Jul 31, 2007 at 9:13 pm
jcsc,
I will submit that some reasons for going into debt are better than others. My point was that printing money is bad for the currency, and it doesn’t matter why you do it.
Debt and counterfeiting are two different things.
If you wanted to argue the relative merits between:
-paying people to deal in drugs, stay unemployed, uneducated, incarcerated, and without any family or sense of self worth
or
-sending a message to 1 billion people…”Don’t every f-ing do that again.”
I’d choose the latter as being long-term more constructive for the collective well being of the US.
33
jcsc
// Aug 1, 2007 at 9:21 am
Eleua, I’m renting and bearish and conservatively invested so inflation will kill me. I’m one of those inflation is bad types, so I’m not talkiing about what I WANT to happen, but what I actually observe happenning. The point that I’m making about the war is that the gov’t is specualting on the future cost of oil just like individuals are speculating on the future cost of real estate. A huge amount of money has ALREADY been pumped into our economy. So the question we’re all having is how much will it come down and how much will inflation rise up to meet it. I think that the conversation that you want to have is not relevant to this post. The debt markets are blowing up (finally), so reasons for debt incursion are the hot topic.
34
jcsc
// Aug 2, 2007 at 3:21 pm
Just to try and clarify the point I was trying to make:
Speculation has not been isolated to real estate. Risk analysis on debt structures is the hot topic because debt markets are blowing up.
Debt structures backed by investors are in one risk category and debt structures ultimately secured by the govt (as is a bunch of mortgage debt) is in another
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