Sep 27, 2005 4 min read

By Jeannine Aversa AP Economics Writer

WASHINGTON (AP) – While the high-flying housing market still holds risks, especially for the financially stretched, most homeowners are in a fairly good position to weather a shock if prices drop, Federal Reserve Chairman Alan Greenspan said Monday.

“The vast majority of homeowners have a sizable equity cushion with which to absorb a potential decline in house prices,” he said in remarks delivered via satellite to a banking conference in Palm Desert, Calif. Less than 5 percent of home borrowers were highly leveraged, according to one measure, he said.

Still, Greenspan, who has repeatedly warned about the potential perils if the housing market were to suddenly go south, also made clear that there are several factors – risky mortgages and speculative activity in particular – that warrant close scrutiny.

The quicker turnover of second homes – such as for investment or vacation purposes – appears to be feeding the surge in house prices, Greenspan said.

“Speculative activity may have had a greater role in generating the recent price increases than it customarily had had in the past,” he said.

Greenspan’s latest thoughts on the housing market came after the National Association of Realtors reported that sales of previously owned homes in August posted their second-highest level on record. Home prices, meanwhile, increased by the largest amount in 26 years.

Sales rose 2 percent in August to a seasonally adjusted annual rate of 7.29 million units; that was second only to the all-time high pace of 7.35 million units in June.

Low mortgage rates have been powering home sales, which hit record highs four years in a row and are expected to set a new record this year.

Median house prices climbed to a record of $220,000 in August, a gain of 15.8 percent from the same month a year ago. That was the biggest 12-month increase since July 1979.

Sales were up in all regions of the country except for the South, where they dipped. Because Hurricane Katrina hit in late August, its full brunt was not completely captured in the August sales figures, the association said.

Although his speech was devoted almost totally to the housing market, Greenspan did briefly mention that the Fed will be keeping a close eye on the aftermath of hurricanes Katrina and Rita.

“In the weeks and months ahead, the Federal Reserve will continue to closely follow the consequences of the recent devastating events in the Gulf Coast region in order to assess their implications for our economy,” he said.

Citing a research paper he co-wrote, Greenspan said the run-up in house prices has left households with a substantial pool of available home equity. Four-fifths of the increase in home-mortgage debt has come from people taking cash out of their appreciated homes through refinancings, home-equity loans and other things, he said.

“After discussing all the risks, Greenspan summed up by saying the share of households who are very highly leveraged is lower than expected and is not correlated closely with high home price states, other than California,” said Doug Duncan, chief economist at the Mortgage Bankers Association.

Greenspan continued to register concerns about soaring house prices and risky mortgages on expensive homes. He also repeated his warning about signs of “froth” developing in some local markets that may be driving house prices to “unsustainable levels.”

But Greenspan said it was unclear whether such exuberance would spread to more local markets.

“It is still too early to judge whether the froth will become evident on a widening geographic scale or whether recent indications of some easing of speculative pressures signal the onset of a moderating trend,” he said.

An end to the housing boom could have a silver lining, the Fed chairman added, because it probably would be accompanied by a moderation in the growth of consumer spending. That could lead to a boost in Americans’ personal savings rate, which has been dismally low, and could curb Americans’ insatiable appetites for foreign-made goods, helping to narrow the United States’ bloated trade deficit, he said.

“Housing is a fault line in the economy that Greenspan is indeed worried about, but he doesn’t think a housing (slowdown) will undermine the expansion,” said Mark Zandi, chief economist at Economy.com.

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On the Net:

Federal Reserve: http://www.federalreserve.gov/

AP-ES-09-26-05 1622EDT