Rising Gas Prices Affecting Housing

As the cost of gasoline continues to rise, the housing market in outlying areas is impacted.

Rising gas prices may be the latest ailment afflicting the housing market, as figures released Monday showed Southern California home prices plunging 27% in May from a year ago and falling even more precipitously in distant suburbs.

Outlying areas like the Antelope Valley and the Inland Empire have long appealed to people who were willing to accept a burdensome commute for the chance to own a better house. But buyers are increasingly factoring gasoline costs into their purchase decisions, said Dan Griffith, a Rancho Cucamonga-based real estate agent.

This 27% drop in prices has nothing to do with mortgages or the banking industry. It has everything to do with fuel prices and how people make consumer decisions.

In economics, we say that people make buying decisions "at the margin." That means that the consumer looks at the facts presenting them at the moment and makes the best decision in their favor at that time. Applying this reality to the housing situation, when gas was cheaper folks were willing to trade a long commute for a bigger, cheaper house in the outlying areas. That decision made sense when fuel was much cheaper.

But now that fuel prices have doubled in the last year or so, the dynamics of those decisions have changed. Since it costs a lot more now to make that long commute, housing closer to the employment centers to cut the commute cost is now more affordable. So demand has dropped for the outlying areas and the housing prices drop accordingly.

Overall, you have a re-evaluation going on in the economy due to fuel prices. As fuel prices have increased the dynamics have changed on other consumer goods and services and that will continue to happen for a while. Consumers are re-evaluating how much things are worth to them and trying to save cost. I think you will see further changes in the types of vehicles people buy, for example. I just returned from Ireland and gasoline there is approximately $10 a gallon (adjusting for currency differences and liter versus gallon measurements). The average car in Ireland is much smaller than in the US (also because the roads are also much narrower), almost all cars are stick shift (which is more fuel efficient than automatic transmissions) and most of them have at least six forward gears. I rented a Renault for several days with six forward gears and got about 48 mpg over several days of driving. A relative I visited had a Ford station wagon with stick shift and six forward gears as well and was getting about 38 mpg.

The upshot of all this is I expect to see a shifting of demand for housing closer to employment centers with a corresponding shift in pricing.