Last week I presented a graphic that illustrates the changing average price of homes by state. This week, I want to illustrate something that is more relevant to affordability. FRED provides data on both median salary and average home prices by state. That means that we can create an affordability index. Consider the equation for nominal growth where i is the percent change in median salary (s), π is the percent change in home price (p), and r is the real percent change in the amount of the average home that the median salary can purchase (h).
Indexing the home price and salary to 1 and substituting each the percent change equation (New/Old – 1) into each percent change variable allows us to solve for the current quantity of average housing that can be afforded with the median salary relative to the base period:
If h>0, then more of the average house can be purchased by the median salary – let’s vaguely call this housing affordability. Both series are available annually since 1984 through 2021 for all 50 states and the District of Columbia. The map below illustrates affordability across states. Blue reflects less affordable housing and green reflects more affordable housing since 1984.
Housing has become more expensive. Below is a figure that illustrates the change in housing prices since 1975 by state. By far the leaders in housing price appreciation are the District of Columbia, California, and Washington. The price of housing in those states has increased about 2,000% – about double the national average. That’s an annualized rate of about 6.7% per year. That’s pretty rapid seeing as the PCE rate of inflation was 3.3% over the same period. It’s more like an investment grade return considering that the S&P has yielded about 10% over the same time period.
The census data in particular is vast and relatively comprehensive. But, it’s not all perfect.
Consider three variables:
Labforce, which categorizes whether someone is employed
Occ1950, which categorizes occupation types
Edscor50, which imputes a relative education score based on occupation
These all seem like appropriate variables that a labor economist might want to control for when explaining any number of phenomena. There is a problem. Edscor50, and the several measures like it, are occupation based. Specifically, the scores use details about 1950 occupations to impute educational details. There are similar indices used for earnings, income, status, socioeconomic status, and prestige.
On Twitter, folks have been supporting and piling on to a guy whose bottom line was that we are able to afford much less now than we could in 1990 (I won’t link to it because he’s not a public figure). The piling on has been by economist-like people and the support has been from… others?
Regardless, the claim can be analyzed in a variety of ways. I’m more intimate with the macro statistics, so here’s one of many valid stabs at addressing the claim. I’ll be using aggregates and averages from the BEA consumer spending accounts.
Many of my classes consist of a large writing component. I’ve designed the courses so that most students write the best paper that they’ll ever write in their life. Recently, I had reason to believe that a student was using AI or a paid service to write their paper. I couldn’t find conclusive evidence that they didn’t write it, but it ended up not mattering much in the end.
Most economists know that the CPI is overestimated and therefore prefer the PCE price index. However, monthly CPI data is consistently released before PCE data for a given month. One would think that they move in the same direction and be highly correlated. Indeed, in the past five years, the correlation is 0.96. Therefore, it stands to reason that the there is less new relevant information on the PCE release dates than on the CPI release dates. Yes, CPI is biased, but it still contains some information about prices and it is known well prior to the more accurate PCE numbers.
Supply and Demand react to new information. Sometimes the new information changes our expectations about the future, and other times we learn that our beliefs about goods and assets were previously not quite right. So, with new relevant information comes new prices as people update their beliefs and expectations.
I’ve written previously about Pure Strategy Nash Equilibria (PSNE). They are the set of strategies that players can adopt in equilibrium – with no incentive to change their strategy. Students have an intuition that PSNE aren’t great because some outcomes that they identify depend on players making silly decisions in the past. In jargon, we can say that some PSNE depend on players choosing irrationally in a subgame while still reaching a PSNE.
See the extensive form game (below right). There are two players, each with two strategies per information set, and player two has two information sets. All PSNE will include a strategy for each information set. We can present the same game in normal form in order to make it easier to identify the PSNE (below left).
Player 1 (P1) can choose the row (B or C) and Player 2 (P2) can choose the column. Importantly, whether P1 might want to change his mind depends on P2’s strategy at the decision node in the alternative information set. Therefore, P2 must have two strategies, one per information set.
The four PSNE strategies and payoffs are underlined in the above table and they are noted in red on the below extensive form games. Again, the logic of PSNE states that no player can improve their payoff by changing only their own strategy, given the opposing player’s strategy. After all, a player can control their own strategy, but not that of their opponent. For example, note PSNE II. In the left subgame, P2 chooses M. His payoff would be unchanged if he changed his strategy, given the strategy of P1.
I suspect that Mises may have felt somewhat restless after writing Socialism. He had taken a very good stab at describing the socialist economy and its inadequacy for the promotion of human flourishing. By 1940 fascism had arisen in both Italy and in Germany, who Mises considered the clear antagonists of World War II. Further, the communist Soviets were allied with Germany at the time of writing Interventionism.
A communist-fascist alliance may seem strange to idealogues, but it appeared quite natural to Mises that the two distasteful versions of socialism should find cooperation convenient to achieve their own ends. In America, the revelations of German atrocities had yet to arrive and there were many sympathizers with both Russia and Germany. In Britain, union leaders were promoting the idea of socialism as a reward to the public who would be bearing the costs of the war.
Mises thought that the disfunction of socialism was adequate to describe its ultimate failure as an economic system. However, socialist tendencies were pervasive in the liberal market economies among both idealogues and demagogues enough to make the transition to socialism a very real threat. After all, while socialism may not be a stable regime in a dynamic world, certain features within specific market economies may nonetheless tend toward it. What is the cause of such tendencies?
One of my specializations in graduate school at George Mason University was monetary theory. It included two classes taught by Larry White who specializes in free-banking, Austrian macroeconomics, and monetary regimes. Separately, my dad was a libertarian and I’ve attended multiple Students for Liberty events. Right now, I’m writing from my hotel room at a Catholic/Crypto conference, where I learned that the deepest trench in Dante’s Inferno includes money debasers.
Everything about my pedigree suggests that I should have a disdain for the Federal Reserve and cast a wistful gaze toward the perpetually falling value of the US dollar. But I don’t. I certainly do have opinions about what the Fed should be doing and how our monetary system could work. But I’m not excited by the long-run depreciation of the dollar.
Let me tell you why.
Learning a little bit of theory is a dangerous thing. Monetary theory is especially hard because we examine the non-good side of the transaction: the medium of exchange. In frantic excitement, enthusiasts often point out that the value of the dollar has lost very much of its value in the past 100 years. They describe that loss by describing the lower quantity of something that a dollar can purchase now versus what it could have purchased historically. That information is incapsulated in the price of a good. The price of a good is the number of dollars that one must exchange in order to purchase the good. Similarly, the price of a dollar is the number of goods that one must give up in order to purchase the dollar.
We can consider a variety of goods. Below is a graph that describes the quantity price of the dollar where the quantities are CPI basket units, gold, and housing. In the 35 years following 1986, a single dollar purchases 60% less of the consumer basket, 74% fewer houses (not quality adjusted), and 76% less gold.
If you’re like me, then you are very fond of food. What determines the price of food? Supply and demand of course!
We can consider food as a commodity because just about anyone can buy and sell it. Almost all foods have partial substitutes. Therefore, the long-run price in the competitive market for food is largely dictated by the marginal cost. Demand has an impact on the price only in the short run.
A long-run driver of food prices are the costs that food producers face. The US Bureau of Labor Statistics divides the Producer Price Index into multiple categories that are relevant for a variety of sectors and points within the production process. Below is a table of the most fundamental, relatively unprocessed farm products and their weight among all farm products in December 2021. Cotton is a relatively large component for farm products even though it’s not a food and I include it for completeness. Fruits, veggies, and nuts makeup the overwhelming proportion of the cost of farm products. I was at first surprised that grains composed such a small proportion. But, being dirt cheap, it makes sense.
We all know that inflation has been in the news. It’s been elevated since the second quarter of 2021. Consumer prices tend to lag producer prices. One indicator of where food prices will be in the near future is where the producer prices are now. Below is a graph that displays the above seasonally adjusted farm product prices since the start of 2021*.