Housing Bubbles & Housing Market Crashes

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Table of Сontents

  1. What Is a Housing Bubble?
  2. What Is a Housing Crash?
  3. Why Do Housing Bubbles Burst?
  4. What Causes a Real Estate Bubble?
  5. What Happens When The Housing Market Crashes?
  6. Mid-2000s U.S. Real Estate Bubble & 2007 Crash
  7. How To Tell If We’re In a Housing Bubble?
  8. Bottom Line

When real estate values are much higher than historical norms, a housing bubble develops. Learn about the effects of market collapses and housing bubbles on the economy.

What Is a Housing Bubble?

Inflated real estate values are a defining feature of a housing bubble. These conditions are typically brought on by a combination of a strong demand for housing and a lack of properties on the market, which drives up prices. Economic prosperity, cheap interest rates, and easy access to finance are further factors that contribute to housing booms.


Note: The U.S. economy has seen two housing bubbles during the previous 20 years. That occurs rather regularly. Real estate has typically maintained relatively stable prices, nonetheless. This is partially due to the fact that real estate is a non-liquid asset and that there are additional costs involved in purchasing and managing the asset. But it’s also a really sought-after asset.


What Is a Housing Crash?

A housing crash is a period of sharply falling real estate values that usually occurs after an increase in home prices. A sluggish economy, stricter lending requirements, or higher interest rates are the usual causes of housing crises, all of which can result in a drop in demand.

Why Do Housing Bubbles Burst?

Because the economic factors that inflated the housing bubble are no longer there, the bubble bursts. For instance, as loan rates increase, the cost of property ownership increases as well, pushing prices lower.

Homeowners who lose their jobs may be unable to pay their mortgages, which will increase the number of foreclosures. Financial institutions tighten loan criteria to lower risk, which drives away some potential purchasers and lowers housing demand.

What Causes a Real Estate Bubble?

Too much money vying for too few homes typically results in real estate bubbles. Long-term economic growth, a time of low-interest rates, easy credit availability, buyer excitement, and heightened speculation are further factors that can lead to bubbles.

A real estate bubble may be caused by:


    • Economic prosperity: Higher spending is influenced by economic factors including low unemployment, a booming stock market, and comparatively low rates of inflation.
    • Low-interest rates: Reduced borrowing costs make homes more accessible to purchasers, but they also give greater space for price growth without materially raising monthly mortgage payments.
    • Easy access to credit: Mortgage firms may slacken lending requirements in order to compete in a booming real estate market and draw in a broader pool of customers.
    • Buyer euphoria: Rising real estate prices can encourage additional purchasing because investors and purchasers think prices will keep going up forever, creating a situation where “FOMO” (fear of missing out) is more prevalent than a concern for exorbitant costs.
    • Speculation: Investors and speculative purchasers will frequently enter the market if real estate values climb quickly. Building homes before finding a buyer is another form of speculation for builders.
  • What Happens When The Housing Market Crashes?

a cascade of risk-taking that starts with a peak and spreads across the housing market even as demand declines. Building contractors speculate by constructing homes without purchasers, while investors continue to speculate by “flipping” properties.

Softening demand is followed by failures of the housing sector, such as defaults and foreclosures, which increases the housing supply, along with other factors like rising interest rates and a slowing economy. Lenders tighten lending criteria, which decreases the number of purchasers when such risk and failure permeate the housing sector.


Mid-2000s U.S. Real Estate Bubble & 2007 Crash

After the 2001 recession, the Federal Reserve decreased interest rates in an effort to revive the economy, which led to the mid-2000s US real estate bubble, which was one of the main causes of the Great Recession (federalreservehistory.org). Real estate values, therefore, started to increase. Borrowers with bad credit were also more likely to be approved for loans thanks to easy credit and so-called “subprime mortgages.”

Exotic financial instruments such as “credit default swaps” allowed institutional lenders to keep lending credit to people who would not otherwise be able to buy a home since they provided protection against the possibility of default on these mortgages. Due to the rise in demand and prices, the housing bubble was inflated.

Speculative investors ceased purchasing when it became evident that there was a possibility of a housing bubble and eventual crash.


How To Tell If We’re In a Housing Bubble?

The indications of a housing bubble can be comparable to those of a stock market bubble, such as exorbitant valuations, but there is no simple method to determine if we are in one.

Among the warning indicators of a housing bubble are:


  • Inflated real estate values
  • Persistently high demand for housing combined with a low supply
  • Rising interest rates

Bottom Line

When real estate values have significantly increased, typically as a consequence of a combination of strong demand and inadequate supply, a housing bubble has formed. Economic growth, low-interest rates, and cheap financing are related factors to housing booms. Although they are uncommon, housing bubbles can trigger a housing market crash and a recession.

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