Existing home prices in the United States soared 45 percent from December 2019 to June 2022, when Covid emerged and then gripped the nation. That rate of increase over such a short interval had never happened in the history of the U.S. national home price index, dating back to 1987, which the economist Karl Case and I first developed.
Now that growth in the index has started falling on a month-to-month basis, with the annual growth rate down from 18.1 percent in the year ending in June 2022 to 15.8 percent in the year ending July. This may seem a small drop, but it is important to note because it’s the largest deceleration in the history of the index and comes in the face of strong momentum in home prices. It leads one to consider whether the forces behind that 45 percent increase are going to continue.
It is not enough to say that the Federal Reserve caused the boom when it lowered interest rates dramatically in 2020 in response to the pandemic.But home prices have historically not been well explained by the actions of the Fed alone. The Fed’s raising of interest rates recently certainly works in lowering home prices, but not with any certainty.
The remote-work revolution prompted by the pandemic, as people seek bigger houses with home offices, seems to be a steady new reality. But it cannot fully explain this pandemic increase. If home price increases so dramatically reflected this change in demand, then commercial office price indexes should have declined since 2019. But the CoStar U.S. Equal Weighted Commercial Repeat Sales Indices for Offices, which measures commercial real estate prices in the United States, has continued upward roughly on trend since 2019.
So why would home prices skyrocket at a time when we were in a panic over our health? To answer that question, we need to consider how human psychology reacts to challenging events such as pandemics and how their narratives focus our attention.
One has to remember that the market for single-family homes is still an amateur market, with mostly inexperienced buyers and sellers who are doing more in their lives than just researching the real estate market. An uptick in first-time home buying (involving the least experienced buyers) during the pandemic reveals how certain features of the way we live and work today have been changing for some time and are now influencing our decision making.
So what went on in buyers’ minds during the pandemic?
The Bureau of Labor Statistics’ American Time Use Survey shows some of these important changes. The survey, conducted annually since 2003 by the Census Bureau, asks a random sample of Americans to keep time-use diaries. The average time per day spent socializing and communicating has been in a long decline. It dropped to 0.57 hours per day in 2021 from 0.64 hours per day in 2019 and 0.78 hours per day in 2003.
This decline in time spent socializing and communicating has been replaced by time spent on computers. The average time per day spent playing games and using computers for leisure has shown an uptrend, to 0.56 hours per day in 2021 from 0.43 hours in 2019 and 0.29 hours in 2003. The efforts by so many to avoid an infection that killed more than one million Americans left us relatively isolated and dependent on electronic media for human interaction.
Those isolated by the pandemic found a fantastic and sped-up world online. Real estate sites like Zillow, which gives snapshots of housing prices and market movement, became increasingly popular, as did the marketing of nonfungible tokens on the metaverse, where real estate has gone virtual. What has resulted is the gamification of speculative markets and the growth of gamelike investing sites like Robinhood.
This period was also one of other stresses. The spectacle of the invasion of the Capitol on Jan. 6, 2021, the intensified quarrel between left and right, and the Russian invasion of Ukraine on Feb. 24, 2022, with all of its brutality, plus the rash of forest fires and talk of nuclear war, no doubt left many unsettled.
In very general terms, since 2019, shares of the U.S. population experiencing depression or anxiety tripled and quadrupled, according to the National Center for Health Statistics, a U.S. government agency, and the American Psychological Association. It seems likely that many people would seek solace by making life-bending changes. Fulfilling a dream of a new home takes a lot of work but may be a comforting undertaking that can put new structure into people’s lives.
This social dislocation was happening as long-term interest rates in the United States reached record lows in the summer of 2020, helping to push up housing prices, and buyers felt psychological time pressure to lock in those rates with a 30-year mortgage.
The economists Graham Loomes and Robert Sugden found in 1982 that such decision making often involved a painful fear of future regret for failing to take advantage of present-day opportunities. (They called it, not surprisingly, the “regret theory.”) In other words, the fear of regret itself can play a significant role in motivating a person to act — or not to act.
The shorthand for this today is FOMO — fear of missing out, whose earliest popularity can be traced to at least 2011 when it referred to envy of others’ success on social media. The popularity of FOMO has grown enormously since then. Some of us economists believe FOMO is commonplace and are interpreting markets from this perspective. The Dallas Fed noted this year, for instance, that “higher house prices may have fueled a fear-of-missing-out wave of exuberance involving new investors and more aggressive speculation among existing investors.”
In my recent survey work with Anne K. Thompson, a research analyst at M.I.T.’s Center for Real Estate, we discovered that U.S. home buyers’ long-term expectations for home price growth were not particularly high in the Covid-19 period — indeed, not anything like the highs in the price boom before the Great Recession of over a decade ago. The result in that recession was a bubble that pushed prices up and up until they collapsed. The mood seems different since 2020: not one of irrational exuberance but of fear, and now worry, that the boom has passed.
FOMO has been alive and well. It is a deep-seated emotion that may have no logical connection with any extreme forecasts. Most people stay in their purchased homes for many years. Their identities, their sense of meaning, their love tend to be all tied up in their home. No wonder that FOMO may be triggered by the thought, at a time of stress, that we may have just missed a once-in-a-lifetime opportunity to afford the dream house.
So what should those of us do who are thinking about buying a house? One has to reflect on the swirl of emotions that affect many of us these days and recognize their legitimacy but not overreact to the high prices. Take a long time to search for a dream house even as mortgage rates are going up and don’t forget that real inflation-corrected prices may be substantially lower after this wave of FOMO and other factors promoting high home prices during the pandemic weaken with time.
I think that real (inflation adjusted) home prices will likely be a lot lower in a few years, but this is not certain. After real home prices peaked in December 2005, they fell 36 percent by February 2012. But it took over six years to drop that much, and real prices then shot up 77 percent from February 2012 to June 2022.
If you think you are in love today with a house, one could well argue that acquiring it right now makes sense. But this is clear only if in your heart you are really in love with it.
Robert J. Shiller is an emeritus professor of economics at Yale. He was awarded the Nobel Memorial Prize in Economic Sciences with Eugene Fama and Lars Peter Hansen in 2013 for their empirical analysis of asset prices.
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