How Do The Events of 1971 Affect Real Estate Today?

by admin | December 20, 2022 | Real Estate

Something seismic happened in 1971 that drastically changed the economic climate, the effects of which you can still feel to date.

1946 saw the introduction of the post-war international monetary order, the Bretton Woods Agreement, which lasted till 1971. They decided that the US dollar would be a reserve currency that foreign governments could redeem for gold.

The US dollar was tied to gold, pegged at an exchange rate of $35 per ounce, the so-called Gold Standard. All the other international currencies were pegged to the dollar, which they hoped would be an effective hedge against competitive devaluation of currencies and boost global economic growth.

In 1971 however, the US government stopped the Gold Standard after learning it had insufficient gold to cover all the dollars in circulation. President Nixon temporarily decided to pause gold redemption, but the system collapsed entirely in 1973.

Since a lack of gold supply couldn’t stop them from printing more money, they couldn’t resist the temptation to print more money. That saw the US system change to a fiat currency system, which devalued the dollar.

As a result, more people decided to diversify their assets by investing in stocks, real estate, and bonds, which were relatively safer. That saw a rise in GDP and real estate prices, but wages remained the same, a trend that persists.

Real GDP, Real Wages, and Trade Policies

Studies show that home prices correlate with GDP per capita by 95%. In the long run, their growth trends correspond. After 1971, the real GDP rose due to increased productivity, but there was no change in the worker’s wages, and there was a rise in the real estate price.

Government tax policies can also boost or impede demand for real estate. Real GDP growth affects real estate as it is the primary driver of fees and rates. Real estate, finance, and insurance investments contribute directly to GDP growth by 21%. Since 1971 the GDP trend has been high, leading to increased real estate investment.

Home values change vs. Income change

The house value change has risen compared to income change since 1971. From 1971, productivity increased, the inflation rate increased, and home prices increased due to inflation, but wages stagnated.

Government tax policies can also boost or impede demand for real estate. Real GDP growth affects real estate as it is the primary driver of fees and rates. Real estate, finance, and insurance investments contribute directly to GDP growth by 21%. Since 1971 the GDP trend has been high, leading to increased real estate investment.

Home Values Change vs. Income Change

The house value change has risen compared to income change since 1971. From 1971, productivity increased, the inflation rate increased, and home prices increased due to inflation, but wages stagnated.

 

Interest Rates

When considering investing in real estate, one of the key factors to consider is interest rates. Demand is affected by a change in interest rates: demand increases when interest rates go lower and vice versa. You should note that a rise in interest rates leads to an increase in the cost to obtain a mortgage, lowering demand as before 1971.

Income Gains

Since 1971, the gap between the average American and the affluent seems to grow even wider. The income inequality and wealth since 1971 are due to massive asset appreciation. Wealthy individuals decided to invest in real estate due to its profitability, but the less affluent couldn’t keep up, further widening the inequality once appreciation kicked in.

The consumer price index vs. Real Estate Measures Inflation

Inflation leads to high mortgage rates due to increased interest rates by the Central Bank, which will lead to an increase in rental rates; increased inflation since 1971 has increased the consumer price index. This is good for real estate investors.

The graph below illustrates how house prices are compared to minimum wage. The minimum wage adjusted to inflation shows that it has declined over the past few decades. Less than 2% of the people in the workplace earn minimum wage.

Interest Rates

When considering investing in real estate, one of the key factors to consider is interest rates. Demand is affected by a change in interest rates: demand increases when interest rates go lower and vice versa. You should note that a rise in interest rates leads to an increase in the cost to obtain a mortgage, lowering demand as before 1971.

Income Gains

Since 1971, the gap between the average American and the affluent seems to grow even wider. The income inequality and wealth since 1971 are due to massive asset appreciation. Wealthy individuals decided to invest in real estate due to its profitability, but the less affluent couldn’t keep up, further widening the inequality once appreciation kicked in.

The Consumer Price Index vs. Real Estate Measures Inflation

Inflation leads to high mortgage rates due to increased interest rates by the Central Bank, which will lead to an increase in rental rates; increased inflation since 1971 has increased the consumer price index. This is good for real estate investors.

The graph below illustrates how house prices are compared to minimum wage. The minimum wage adjusted to inflation shows that it has declined over the past few decades. Less than 2% of the people in the workplace earn minimum wage.

Hyperinflation

Financial asset inflation is today’s most significant cause of inequality, hence monetary expansion. Because investors need an asset with an intrinsic store of value is essential, there was a decline in using fiat money and an uptake in financial assets investment such as stocks and real estate.

Many hold their wealth in financial support, which causes wealth stratification because most people cannot access financial assets. Due to higher productivity, the GDP rose, and real estate prices soared.

It thus meant an increased rate of hyperinflation. When inflation rises, some investment vehicles, such as real estate, appreciate, which is an advantage for real estate investors.

How Long it Takes to Save for a House

With the increased GDP and real estate prices, most people used their savings for real estate values due to their stable income. The personal savings rate fell, and people had to work more and longer to save for a house.

Most younger people are starting at a disadvantage. It is more expensive to get an education or assets that increase in value because of inflations, such as real estate or stocks. Many build their financial base by storing it in depreciation currency in the short term.

In 1971, for instance, a new house cost an average of $25,200 while the average annual income was $10,622. In 2022, the median house price is over $400,000, but the average income is slightly above $54,000 annually. Even if you were to use the current GDP per capita calculated by the World Bank, that figure is $69,287, well below the 1971 figures.

Income Growth vs. Income Inequality

Moving away from the gold standard incentivized the government to print more money, encouraging investors to find other ways to store their wealth. That increased asset price inflation since 1971 due to people holding their wealth in assets.

Investing in stocks, bonds, and real estate is the best financial tactic because the more assets you invest in, the better because, during inflation, you will gain.

This system affected the balance of economic equality since it made the rich wealthier and the poor poorer. The rich will gain during inflation due to their investments, while an average American will spend most of their dollars on rent, groceries, and insurance.

Since 1971 income inequality has increased significantly, meaning those who invested in stocks and real estate became richer.

Final Word

Because the US shifted from the Gold Standard in 1971, which allowed the government to pursue a fiat currency system that allowed them to print money at will. That created some instability, so most investors opted for more solid investment options such as stocks and real estate.

These promised more reliable paths for wealth growth because of asset appreciation. Even though wages stagnated, real estate investors can rely on real estate investments as a store of value because they hold intrinsic value and likely will appreciate.

By Gurpreet Singh Padda, MD, MBA

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