The small number of economists who argued forcefully for a bubble often did so years before the housing market peak, and thus lost a fair amount of credibility, or they make arguments fundamentally at odds with the data even ex post. For example, some economists suggested that cities where new construction was limited by zoning regulations or geography were particularly “bubble-prone,” yet the data shows that the cities with the biggest gyrations in house prices were often those at the epicenter of the new construction boom. We conclude by arguing that economic theory provides little guidance as to what should be the “correct” level of asset prices —including housing prices. Thus, while optimistic forecasts held by many market participants in 2005 turned out to be inaccurate, they were not ex ante unreasonable.From the abstract to the Federal Reserve of Boston Public Policy Discussion Paper No. 10-5, "Reasonable People Did Disagree: Optimism and Pessimism About the U.S. Housing Market Before the Crash" by by Kristopher S. Gerardi, Christopher L. Foote, and Paul S. Willen.
From the complete discussion paper, which is available here:
From our review of the pre-crisis housing literature from the early-to-mid-2000s, it is apparent that well-trained and well-respected economists with the best of motives could and did look at the same data and come to vastly different conclusions about the future trajectory of U.S. housing prices. This is not such a surprising observation once one realizes that the state-of-the-art tools of economic science were not capable of predicting with any degree of certainty the collapse of U.S. house prices that started in 2006. The asset-pricing literature does not yet have a firm grasp on when and why prices can deviate from market fundamentals for long periods of time.
