Early Studies on the Housing Bubble

In the paper: Is There a Bubble in the Housing Market? by Case and Shiller (2003) it is reported that housing prices across the states in the US in 2003 are explained mainly by two factors: a) household income, and b) lower interest rates. This is a robust finding for 42 of the 50 states which means that the price-to-income ratio is more stable than in the remaining states. While in the other 8 states by other non-fundamental factors; e.g. future expectations of further increases in prices. These 8 states include California, New Jersey, Massachussetts, and New York.

They asked the very important question of: 'Is [the] Housing Bubble about to Burst?' Looking at the trend of housing prices since 1995 they claim that, at least, for those 42 states the sustained increase in prices is due to 'fundamentals.' Based on a 2003 updated survey that was conducted first in 1988 by the same authors. They conclude that even though there was not a strong sign of a housing bubble (in 2003) compared to 1988. There was indeed scattered evidence in some states where housing prices were already flat.

An update of this study with data up to the first semester of 2008 may clarify some of the issues they could not when they wrote it. The housing prices were still going up until 2005 then flattened out and plummeted in 2007. But Case and Shiller (2003) report that until 2003 there was not a negative expectation of housing prices falling drastically. In fact, in their survey they reported that homeowners felt that to buy a house was a safer investment than the stock market.