Did you know that in the real estate bubble of 2008-2009, many US homes lost up to one-third of their value? This resulted in an economic recession that was the largest one since the Great Depression.
It is easy to see why the risk of a housing bubble makes investors and finance experts nervous. But what is a real estate bubble and how does it work?
Let us dig a little deeper into this economic issue.
What Is a Real Estate Bubble?
A real estate bubble begins with a high demand for housing with a limited amount of supply. This demand increases the moment that speculators enter the market and purchase investment opportunities and fixer-uppers to flip.
All of this demand with limited supply causes prices to rise sharply. Houses get overvalued and prices become impossible to sustain. That is when demands begin to decrease but the supply remains the same.
When supply, in this case homes, is higher than demand, prices crash. The bubble bursts.
That is why having an accurate idea of what your home is actually worth is essential. A site like https://www.househuntersofgreenbay.com/ can provide this service.
Causes of Housing Bubbles
There are many factors that come together to form a real estate bubble. The demand for housing rises and the supply cannot keep up. But why does the demand increase?
If there has been an uptick in general prosperity and economic activity, this can put more disposable income in people’s pockets and it can encourage consumers to buy homes. Another reason for an increase in home demands is if there are more people entering the market.
Low general interest rates, particularly short-term interest rates, can make homes more affordable, which increases demand. If there are new mortgage options with low monthly payments, this can also increase the number of people looking to purchase a home. A big cause of the 2000s Great Recession was the relaxed mortgage lending guidelines, which ended with people getting approved for loans they could not pay back.
What Bursts the Bubble?
When the prices of homes remain high but demand drops, there is no one who can actually afford the homes or who wants to buy them. Prices plummet.
Many times, interest rates rise and the homes that people actually own are not affordable anymore. People will default on payments and end up losing their homes.
If economic activity decreases and people have less disposable income, this can also cause the bubble to burst because it decreases the demand for housing.
When all of this happens, credit standards tighten and easy mortgage borrowing is not an option any longer. Demand decreases while supply increases as speculators abandon the market and prices plummet.
Real estate is a great investment when you do it wisely. Although there is always fear of a real estate bubble, both lenders and buyers are better informed now on how to avoid another economic crisis like that of 2008.
Learn more about home ownership on our Real Estate page!