The first part of this article focuses on the global economic situation. In this second part I will discuss how the state of the real economy in the United States is reflected in the state of real estate prices. The property market is a key indicator of the health of the US economy. The prices of homes in the US are currently declining. While there are many potential reasons for the property market to go down, the largest culprit is a slowdown in residential construction. The slow progress of the subprime market is another major reason why the prices of homes are going down.
If there is a continuing decline in the market for housing units, then we can expect that real gdp growth will be lower than forecasted. The decline in the market for houses has been led by a lack of building activity. This means that we have seen a slowdown in the building of new homes as builders wait for the market to improve.
- The level of flexibility in the business cycle is important for any investor to understand.
- The higher the flexibility, the greater the potential to ride out any waves in the market.
- In my previous article “Dynamics of the Business Cycle – Phase I – Home Sales and Prices,” I discussed how a low level of pricing from the past can be used to make a profitable prediction for the future.
- This concept is the root of price prediction models and is the focus of this article.
Price predictions rely on the dynamics of the business cycle. The lower the business cycle flexibility, the weaker the ability to forecast the real gdp decline. To understand this dynamic, imagine a time bomb ticking away on a factory. The longer the factory continues to operate, the more damage it will cause. At the end of its run, the bomb will have done as much damage as it would if it had been left running.
If we look at the present period, we see that the real gDP growth is slowing down. This is causing a problem because it makes forecasting difficult. Instead of predicting that the current level of real gdp growth will be sustained, we must instead predict that the market will fall from current levels and begin a period of depreciation. Given the weakness of the economy, the market will likely fall enough to force businesses to make a number of price adjustments that will result in some of them reducing their real g DP (reduced goods purchase).
This process will continue until the phase of the business cycle in which real gDP increases. Once the rise starts, the increase will continue until the end of the current business cycle. This can take a number of years, depending on how far the market has fallen and how far the economy has risen (inflationary or deflationary). For a company, this is a very bad time to be investing in assets as the returns are low and the risk is high. However, for an investor in assets such as real estate, oil and gas, stocks and bonds, natural resources and Forex trading, the scenario described above could play out differently.