A little experiment in house price indexes

Among my favorite web site's is Morris Davis'. One feature of the site is a page of data that Morris and his colleagues have developed: among them is an estimate of land prices in the United States.

This morning, I looked at the change in real land prices in the United States. Between 1980 and 1997, real land prices (as deflated by the CPI) increased by 4.4 percent per year. I chose 1980 because Morris told me the data has some problems previous to that year, and 1997 because that was the year of the first inflection point in the movement of house prices (an even more impressive inflection began around 2002). The 4.4 percent rate is thus almost certainly fundamental, and does not reflect any bubble.

The question I wanted to ask is whether land is now over-valued or under-valued based on a 4.4 percent long-term real growth path. Unfortunately, Morris' data ends with 2007. For land values to have returned to a 4.4 percent long-term growth path, land values would have needed to have fallen about 1/3 since the end of 2007.

Actually, it is plausible that they have fallen more than this. From the end of 2009 to the end of 2009, the Case-Shiller house price index fell by 20 percent. But the value of structure changes very slowly, while the value of land changed quite rapidly. Land makes up about 1/3 of house values, implying that for house prices to fall by 20 percent, land prices must have fallen around 60 percent. Let's say that falling labor costs and commodity prices meant that construction costs fell a little bit, and that land value fell by only 40 percent. This still means that relative to its long term fundamental trend, land values overshot on their way down.

[Update. Morris has more recent data on the Lincoln Institute Web Site. His estimate is that land prices fell by 53 percent just between the end of 2007 and the beginning of 2009. This suggests that relative to long term trends, land prices overshot downward.]