With the recession wreaking havoc on the national housing and credit markets, professor Morris A. Davis traveled to UCSB yesterday to breakdown the key components of the economic meltdown.
At his lecture in Corwin Pavilion, Davis – an assistant professor in the Dept. of Real Estate and Urban Land Economics from the University of Wisconsin-Madison – traced the string of events that led to the current financial crisis. Hosted by the Laboratory for Aggregate Economics and Finance, the presentation asserted that the failure of real estate value, mortgages, Wall Street, the economy and monetary and fiscal policy are all interrelated.
Beginning with a brief discourse on the housing market, Davis said that between 1975 and 1996, house prices were inflated by less than a half of a percent, whereas the market experienced a 7.5 percent bubble between 1997 and 2006. Additionally, California saw the value of homes rise an unprecedented 10 percent.
Davis said that prior to 2005, economists and homeowners were not conscious of this bubble, leading to negligence on the part of scholars and investors alike.
“What happened to the housing market was a historical anomaly,” Davis said. “The society as a whole caused the housing market boom, because people were wildly optimistic about the market.”
According to Davis, 2004 marked a dramatic change in underwriting standards for mortgages. With the expansion of mortgage credit and subprime mortgages, people were able to buy houses with very little down payment, thus creating an environment ripe for a fiscal collapse.
In 2000, the subprime purchase percent was 2.43, opposed to 2004 when it rose to 14.81 percent – an unheard-of rate of inflation, according to Davis.
Davis said average buyers were allowed to take economic risks in housing because it was seen as a risk free investment to the individual buyer. Additionally, when a foreclosure occurred, homeowners did not have to take the loss – the loss rested on the shoulders of the bank.
Davis said that American society had been irresponsible as a whole and surmised that the value of homes would not decline in the near future.
“There was a denial in the market until we were neck high in the muck,” Davis said. “You make one bad bet – that home values don’t drop – and you lose a trillion dollars.”
According to Davis’ research, the decline in house prices led to an increase in foreclosures and bank failures, resulting in the failure of every major player on Wall Street between Sept. 13 and Oct. 17 of last year.
Davis said there is a spillover from Wall Street to Main Street, or mainstream society.
“When wealth declines, people spend less,” Davis said.
According to Davis the government is currently going about fixing the economy in a very unconventional way, passing an $800 billion stimulus package to try and keep government spending high. He also added that the country has not had the leadership necessary to fix the economy.
“[Fixing the economy] is a hard issue, and that’s why we don’t have a clear answer,” Davis said.
Third-year Spanish major Laura Lozano said the current outlook provided by Davis on the economy is alarming.
“His presentation was eye-opening,” Lozano said. “It frightened me because I’m about to go out into the workforce. He said the best thing to do now is to buy a house, but I can’t do that.”