When economists try to explain dramatic changes in home prices, they often point to government policies, such as changes in a benchmark interest rate set by the Federal Reserve. But Robert Shiller, a professor of economics at Yale SOM, believes that researchers often miss the real reasons. Policy “does have a connection to what happens in the markets,” he says. “But it’s not the only thing.”
For instance, aspiring homeowners may jump into the market because they fear they’ll miss a potentially lucrative opportunity or eventually get priced out. And those feelings may be exacerbated by news events or narratives in the media, says Shiller, whose most recent book is Narrative Economics: How Stories Go Viral and Drive Major Economic Events. “What drives a young couple who have been renting into actually plunging in and buying?” he asks. “It has to be some emotion. It’s not just logic.”
How well do those feelings and expectations align with reality? In a recent paper, Shiller and his colleague Anne Thompson of MIT analyzed results from about two decades of annual surveys, which gauged homebuyers’ beliefs about how house prices would change in the future. The researchers found that people’s predictions of short-term market fluctuations were generally realistic, but their long-term expectations in the early 2000s were given to “flights of fantasy”—that is, dreams of a booming market for years to come. After the 2007-09 financial crisis, however, respondents became more cautious about long-term home price growth.
When the COVID-19 pandemic struck, buyers predicted only a tepid increase in the value of their homes over the next year. Instead, prices skyrocketed by a jaw-dropping 20.4% from April 2021 to April 2022.. That trend, Shiller says, is still hard to explain; it will require more research to uncover the reasons behind such an extreme spike.
“It was a surprise to all of us,” he says.
Part of Shiller’s interest in the human factors driving home purchases came from his everyday experience. During the 2004-06 boom, for instance, “I would hear it everywhere,” he recalls. On one plane trip, he overheard the people behind him talking about the housing market; then the cab driver who picked him up asked what he thought of home prices. “I hadn’t even told him that I was an economist,” he says.
Shiller and his collaborator, Karl Case at Wellesley College, sent their first survey to homebuyers in 1988; Thompson joined the project in 2003, and the team continued surveying annually from 2003 to 2021. (Case passed away in 2016.) Participants were people who had recently bought homes in Alameda County and Orange County, California; Middlesex County, Massachusetts; and Milwaukee County, Wisconsin. The survey included questions about their perceptions of recent housing market trends and how much they thought the value of their home would change over the next year and next decade. Across all the survey years, a total of about 7,700 people responded.
In general, people correctly gauged whether housing prices in their area had been rising or falling quickly over the last several months. Initally, participants’ expectations of whether their home value would increase or decrease over the next year also were roughly on track, though they tended to underestimate how much the price would change. “They seem to be rational, more or less,” Shiller says.
In the early 2000s, though, people’s expectations for home value growth over the next decade were wildly optimistic. The long-term predictions “seem to have more of a life of their own,” he says. In 2004, when the 30-year mortgage rate was less than 6%, participants believed that the value of their home would rise by more than 10% each year for the next decade—suggesting that they anticipated making a huge profit. Shiller speculates that part of this mentality was driven by envy-inducing stories on TV of other people raking in money by flipping houses.
During the decade-long recovery after the recession, people’s predictions of long-term home value growth were more modest. “People became more wary,” he says, and may have learned “not to be too extravagant” in their forecasts.
Then the pandemic threw everyone for a loop. In responses to a July 2020 survey, homebuyers were divided on whether they thought the COVID-19 crisis would drive housing prices up or down. On average, they expected prices to increase by only 3.4% over the next year, the most pessimistic prediction since 2012.
Instead, prices jumped by 20% nationally. In 2021, a record-high fraction of survey respondents—60%—had purchased a home for the first time. “You might think that fear of coronavirus would freeze people and make them not act,” Shiller says. “But maybe it has just the opposite effect. It motivates them to do something to get rid of this anxiety.”
It’s not yet clear from the survey data what motivated people to grab homes. “We hoped to have a crisp answer,” he says. “It’s still a little bit murky.”
Some respondents said that they had saved more money during the pandemic due to reduced spending or stimulus payments. Other clues emerged from participants’ speculations about why prices had risen so much: for example, many of them said that people who had been stuck quarantining in small homes wanted bigger places, particularly with home offices.
The survey also asked participants to estimate the fraction of people who wanted a suburban house versus an urban condo. From 2019 to 2021, the perceived percentage in favor of the suburbs rose from less than 40% to 70%. Shiller speculates that the pandemic might have prompted renters in cities to seek a sense of safety in the suburbs, away from enclosed spaces such as apartment building elevators where they might get infected.
Home prices may slow down in coming years, he says. Many people are still working remotely because of the convenience of videoconferencing, and they might seek cheaper homes in rural areas. New construction, with bigger houses that include space for home offices, could become more common.
So what should aspiring homebuyers do now? “If you have your heart set on buying a home, go ahead,” Shiller says. But if you want a bigger place and are willing to wait for more new housing to be built outside the city, “you might be able to get it more cheaply or more in accord with your tastes later.”