Why Price-To-Rent Ratios May Not Be Accurate Indicators of a Housing Bubble

Despite a widening price-to-rent ratio mirroring a pre-bubble housing boom, central bankers may be sounding a false alarm about a heated but stable market, suggests Bloomberg. Housing prices are quickly rising above model prices, but model price-to-rent ratios don’t factor in normal and healthy market fluctuations caused by a number of economic factors.

Heightened inflation, unwavering demand, and a nationwide housing shortage are all key factors of market volatility, but that doesn’t necessarily mean that variability from aggregated numbers is a sure sign of a housing bubble or bust.

A longer-term look at the housing price to rent ratio shows that it arguably predicted two of the housing downturns since 1975, but it also predicted three that did not happen. It also predicted two of the last six recessions but missed four and incorrectly predicted three others. It’s certainly worth paying attention to rapidly increasing housing prices given the damage of the last similar event, but not to issue sky-is-falling alarms. This tendency to fight the last war is just one of three dangerous tendencies common among central bankers.

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