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Jim Scott
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Debt Matters

This column is the second in a series about San Diego residential real estate prices. Last month’s column was about how some traditional housing indices argue home prices have stabilized. While I agree with the general conclusions in the column, I think there are other factors unique to our current recession which could influence prices this year; Western economies must contain their sovereign debt crisis and our region has to produce additional quality jobs.

The price of housing plays an important role in determining how quality jobs are distributed among regions and nations. San Diego is an expensive place to live when compared to most parts of the United States and more so when compared to foreign markets. Housing expenses are necessarily built-in to any employee compensation package; workers in lower-priced housing markets can accept lower wages more readily, which in turn means the products produced by companies with lower housing costs should be more competitive.(there are many other factors which can determine competitiveness but housing is a major determinant) The pay structure for the software engineer in India or a radiologist in Brazil does not have to support crushing house payments. Workers in high-cost localities need higher wages. This has to be a future concern as technology makes it easier and easier to outsource work.  

Another result of relatively higher housing prices is that it hinders the recruitment of talented individuals and restricts job mobility of the broader mass of workers.  Professionals contemplating a move here always want to replicate their housing situation back home. Unless there is a rare subsidy from an employer, we often lose that talent, or potentially a company, as the hard reality of expensive housing outweighs other benefits of relocation to San Diego.  I have seen this first hand on the retail level, watching the disappointment when the buyer realizes he has to settle for half of the space he has back in Kansas.

I am aware of the ‘sunshine tax’ and the idea that this area is particularly blessed with special intrinsic values. Locals have been more than willing to spend an inordinate proportion of their wages on housing. The quality of life is above average in San Diego and it is truly a spectacular place to live, even though one could argue our best days are behind us.

I believe other factors have and will diminish the future value of the ‘sunshine tax’. San Diego exceptionalism is alive and well but it is a bit tattered as of late. In the recent past there were other quality-of-life factors, other than the weather, that offset the loss of discretionary income caused by housing costs. At one time our public schools and higher education system were the best in the nation. Public services, infrastructure, and facilities were above average and mostly free. In the post-tax revolt era, California has become second rate; buyers factor in the cost of private schools into their house payment, potholes increase the expense of operating vehicles.

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Unless we become more competitive for quality jobs, San Diego will increasingly become a haven foSince housing costs will resist any further deflation, restoring our once enviable infrastructure and educational system is the only way out. And that will not be cheap.

The European debt crisis has the potential to sap the flow of mortgage money and consumer confidence, opening the door for another national housing recession. The Greek partial default on its’ sovereign debt has been grudgingly swallowed by international financial markets.The problem is that there are much larger countries in Europe with too much debt. Italy and Spain, for example, have to roll over a substantial amount of their sovereign debt this spring. Since American multi-national banks hold sovereign debt, an major EU upset could send our banks back into their burrows. They did a strategic retreat in 2008-09 to repair their balance sheets and it could happen again, eliminating the current supply of cheap home mortgages and worse, choking off commercial credit. I believe if there is a bond crisis this spring the European Central Bank will act like the Fed with more quantitative easing, even if the Germans pitch a fit.

Even with a limited Euro-crisis, limited housing supply, rising rents, population growth, and the entrepreneurial dynamism of our region will limit the damage to home prices. American banks, with serious help from the Fed, have repaired their balance sheets and are better positioned to stabilize the economy. While another round of European financial sturm und drang will hurt your stock portfolio, home prices should not take a serious hit and rents will continue their relentless climb.  

What about appreciation? I have written for years that our region’s future price appreciation would be a re-run of the Eisenhower era, one or two percentage points over the rate of inflation. In spite of the plethora of potholes, this region will add people and politically restrict the supply of new housing. That imbalance alone, even with the army of software engineers in Mumbai and Europe’s debt indigestion, will mean prices have at least established a firm base.

Next Month Part 3: Prices and the Politics of Growth

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