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188 PART • Producers, Consumers, and Competitive Markets E XA MPLE 5.8 THE HOUSING PRICE BUBBLE (II) Informational cascades may help to explain the housing bubbles that occurred in the U.S and other countries For example, from 1999 to 2006, home prices in Miami nearly tripled Would it have been completely irrational to buy real estate in Miami in 2006? In the years prior to 2006, some analysts projected large increases in the demand for housing in Miami and other parts of Florida, based in part on a growing number of aging retirees that want to move to someplace warm, and in part on an influx of immigrants with family or other roots in Miami If other investors acted on the belief that these analysts had done their homework, investing might have been rational Informational cascades may also help explain the housing bubbles that took place in other parts of the U.S., notably Arizona, Nevada, and California (See Figure 5.11.) There, too, some analysts had projected large increases in demand On the other hand, few analysts projected large demand increases in cities like Cleveland (not exactly a retirement paradise), and indeed such cities experienced little in the way of a bubble Was it rational to buy real estate in Miami in 2006? Rational or not, investors should have known that considerable risk was involved in buying real estate there (or elsewhere in Florida, Arizona, Nevada, and California) Looking back, we now know that many of these investors lost their shirts (not to mention their homes) 500 450 Home Price Index of Cities 400 350 300 250 200 150 100 50 1987 1989 1991 1993 Los Angeles 1995 Miami 1997 1999 Year 2001 Las Vegas 2003 2005 New York 2007 2009 2011 Cleveland F IGURE 5.11 S&P/CASE-SHILLER HOUSING PRICE INDEX FOR FIVE CITIES The Index shows the average home price for each of five cities (in nominal terms) For some cities, the housing bubble was much worse than for others Los Angeles, Miami, and Las Vegas experienced some of the sharpest increases in home prices, and then starting in 2007, prices plummeted Cleveland, on the other hand, largely avoided the bubble, with home prices increasing, and then falling, only moderately
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