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Address Lelivered Before the
American Finance Association
Meeting in Atlantic City, N.J.
January 25, 1947

Homer Hoyt,
ssociate Professor of Urban Land Economics
Massachusetts Institute of Technology


Importance of Real Estate Cycles in Finance

The most important cause of fluctuations in the gross and net
income of real estate and consequently the chief factor in producing
drastic changes in the capital value of all the different species of
urban property is that group of interacting forces which is called the
real estate cycle.

As a result of the rigidities of operating costs such

as real estate taxes, fuel, maintenance labor, and also as a result of
interest and amortization charges, the combined effect of falling rents
and increased vacancies will reduce the net income of rental real estate
much more sharply than the gross income.

Thus, when the total income of

a Chicago office building dropped from $764,000 in 1928 to $564,500 in
1932, a decline of 26.2 percent, the net income fell from $315,000 to
$81,000, or a fall of 74*3 percent.i/
A net income that would cover interest and amortization charges
of $100,000 by a 3 to 1 ratio in 1928 would have failed to meet those
requirements in 1932.

The widespread defaults on the interest payments

on the bonds and mortgages of office buildings, apartments and hotels
during the 1930’s indicate that the above example is a typical and not
an extreme case.

The average price of office building bonds had fallen

from their $1,000 issue price to $187 in 1932. ix/
The debacle culminating in the 1930’s affected every species
of real estate from the large office buildings to single family homes.
The vital question for lending institutions now is whether the pattern
of the real estate cycle from 1914 to 1933 will repeat itself and whether

\ / H o m e r Hoyt, One Hundred Years of Land Values in Chicago.
of Chicago Press 1933. p. 379.
?/ Amott-Baker, Price Averages of Real Estate Issues.


mortgages now being made are subject to the same risks as the mortgages
of the 1920's.

In considering this question, the basic underlying forces

behind these cycles are of greater significance than the patterns them­
selves .
The Real Estate Cycle Described
Heal estate cycles result
and national forces.

from the interaction of both local

The magnitude of the fluctuations and their duration

vary in different cities and even within different neighborhoods in the
same city, because the demand for housing, for store and office space or
for industrial sites is local.

It comes from those who want to live or

work in that particular urban community and not elsewhere.

The general

course of a real estate cycle may be briefly described as follows.!/


upturn in real estate activity is usually started by a spurt in population
growth, caused generally by an influx of families in response to jobs
offered at that particular place and also by an increase in the rate of
family fomation on the part of the resident population.

This increase

in the number of families causes a demand for more dwelling space, with the
result that vacancies are absorbed and, in the absence of rent control,
there is a rise in gross rents which produces an even greater increase in
the net returns of existing buildings.

The increased net income causes a

marked increase in the selling prices of existing buildings.

The point

is reached when it becomes profitable to erect new structures and a
building boom is started.

The rapid absorption of vacant sites for new

structures leads to speculation in lots and in subdivisions.

At a certain

critical point, the supply of new homes begins to exceed the rate of new
family formation.


A surplus of homes, offices, and factories is being

Hoyt, o p T cit., Ch. VII




built up, which is not apparent as long as general business prosperity
prevails, but which suddenly

reveals itself when a business recession

forces families to double up or to move from the larger cities to smaller
towns or country districts.

Then declining rents and increasing vacancies

sharply reduce net incomes and capital values, bringing new construction
to a standstill and causing wholesale defaults and foreclosures.

Real Estate Fluctuations Vary Greatly Between Cities

The basic factor which puts this whole cyclical process in
motion and which expands the building supply - namely, population growth,
varies tremendously between different cities,

l&hile the population of

Los Angeles increased nearly 150 times and that of Miami over 100 times
from 1900 to 1940, the number of persons in Charleston, S.C., increased
only 13 percent, and those in Fall River, Massachusetts, only 11 percent
in that 40~year period.

In every State of the Union, the variation in

the rate of growth between cities of 10,000 and over is enormous.


towns where the population is declining there is scant demand for new
dwelling units, except to replace wornout structures, whereas cities like
Corpus Christi, Texas, which more than doubled in numbers from 1930 to
1940, require a great increase in their housing supply.
The risk of loss on mortgages of course depends not upon the
rate of growth, whether slow or fast, but upon whether the economic forces
causing the growth or the new job opportunities are permanent or transient.
No greater declines have taken place than in mining and lumber towns, which
had their sudden boom and then collapse when the natural resource on which
they were based was exhausted.

On the other hand, rapidly growing Chicago

in the 19th century and Los Angeles of the 20th century had the expanding

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and varied economic resources to sustain their population expansion.


magnitude of real estate oscillations in rapidly growing cities is much
greater, however, than in slowly growing centers.

Differences in Timing of the Cycle

The economic forces which cause a variation in the rate of growth
of different cities also cause a difference in the timing of the real estate

A series of charts on real estate activity prepared by Mr. L. Dur-

ward Badgely of the Mutual Life Insurance Company, shows that real estate
booms practically always occur in periods of general business prosperity
and that real estate activity everywhere declines in a serious business

However, some cities have only moderate real estate activity

at times when other cities are experiencing booms.

This is due to the

rapid expansion of economic forces in particular periods.

Akron, Ohio,

was the most rapidly growing city in the United States from 1910 to 1920,
expanding from a population of 69,067 to 208,435 as a result of the growth
of rubber tire factories, but it suffered a decline from 1930 to 1940 when
the employment in the tire factories dropped.

That was the very decade

when Corpus Christi had a great expansion due to the growth of the oil in­

Gary, Indiana, grew rapidly from 1905 to 1930, as the result of

the establishment of the U. S. Steel mills there.
A generalized national real estate cycle like that prepared by
Mr. Roy Wenzliek serves a useful purpose in indicating broad trends but
it is nevertheless an over-simplification or an averaging of differences.*
Thus, while Wenzliek indicates a peak in national real estate activity
in 1888-1889, it was actually reached in Los Angeles in 1887, in Kansas
City in 1888, in Chicago in 1890 and in Essex County, New Jersey, in

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Nor is there any exact time interval between major cycles for all

Real estate cycles have a number of component parts, which do
not always coincide in point of time.
indices that may be measured are (1)

Different types of real estate
deeds recorded or mortgages recorded,

number of new buildings as measured by permits, (3)

subdivided, (4)

rents, (5)

land prices.

number of lots

In Chicago, in one cycle, the

peak in activity wSs reached in 1890, the peak in the number of lots
subdivided and land values in 1891 and the amount of new construction in

In the cycle reaching its peak in the 1920’s, the peak in new

building, land values, and real estate transfers was reached in Chicago
in 1925, and this was the peak year for many other cities throughout the

Yet Mr. Badgley’s charts show Newark reached its peak in 1921,

Los Angeles in 1923 and New York City as late as 1930.
Measured by real estate activity - that is by deeds recorded —
there is no definite time interval between major peaks in the same city or
different cities.

I'hus in Chicago, major peaks of real estate activity

were reached in 1836, 1856, 1872, 1890, and 1925, which represent intervals
respectively of 20, 16, 18 and 35 years.

In Los Angeles, according to

Mr, Badgley’s charts, peaks were reached in 1887, 1906, 1920 and 1923, which
indicate intervals of 19, 14 and 3 years.

In New York, the chart of the

Lawyer’s Title Corporation shows major peaks in realty values in 1836,
1857, 1893, 1906, 1921 and 1930, or intervals respectively of 21, 16, 20,
13, 15 and 9 years.

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Even these charts for individual cities are generalizations,
because real estate activity usually varies greatly in the same urban
region at the same time among different sections and types of property.
The 1890 boom in Chicago chiefly affected the South Side near the World*s
Fair grounds and central office sites; while the Chicago boom of 1925 was
largely an outlying business center, apartment and suburban boom.

National Forces Affecting All Real Estate

Notwithstanding these variations in real estate activity due to
local conditions, nearly every type of real estate is adversely affected
by a national business depression*

The declines in real estate prices

are greatest in cities where there was excessive speculation, or extreme
over-building or in durable-goods-producing cities like Detroit or
Pittsburgh where unemployment is greatest, but the effect is felt every­

Even in stable cities, real estate values are forced down by

reductions in family purchasing power which lower the amount that can be
paid for rent and also reduce the purchases in retail stores.


costs of buildings are lowered by a decline in material prices, by some
reduction in building wages and by a greater efficiency of labor, and this
reduces the values of existing structures.

The increase in vacancies and

a lowering in rents due to doubling up or a decline in family incomes
increases the foreclosures on heavily mortgaged properties, while the sale
of properties acquired by banks and financial institutions depresses
prices still more.
Long Range Forces
ihere are deeper long range forces which are underlying causes
°f the real estate cycle itself and which may moderate or change its future





The real estate cycle will not automatically repeat itself, for

there are deep seated social and economic forces which are changing the
entire setting in which it operates.

The Rate of Urban Growth is Slackening.

Application of the inventions

of the Industrial involution to the iron, coal, petroleum, copper and other
mineral resources which were the source of power and material for the
machine age, development of new fertile agricultural areas with machinery,
and freedom from major world conflicts before 1914, helped American cities
grow at the extraordinary average rate of 51 percent per decade up to 1930.
From 1930 to 1940, the average rate of urban growth was only 7.6 percent
or one-seventh of the former rate of growth and 51 cities with a population
of 50,000 and over actually declined in population.

"With the prospect of

a stationary population of 155,000,000 to 160,000,000 by 1970, our present
urban population of 75,000,000 can hardly expand to more than 85,000,000,
permitting an average decennial rate of urban growth of 5 percent or less
with a greater number of cities showing population losses.

Hence there

will be fewer real estate booms caused by spurts in population growth.


Urban Decentralization.
Most cities are losing population at their cores, gaining

slightly on their outer edges and in their incorporated suburbs and
experiencing their most rapid growth in the open unincorporated fringe
which has been made accessible by the automobile and the bus.

From 1930

to 1940, the blighted areas of Chicago lost 9 percent in population, the
other city areas gained 4.5 to 6.5 percent, the incorporated suburbs
increased 8 percent and the unincorporated suburbs 75.6 percent.

In 66

metropolitan areas, the central cities gained 3 percent, the incorporated
suburbs 9 percent and the unincorporated suburbs 27.7 percent.

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All of our

cities today occupy less than one percent of our land area, and the old
scarcity value of central urban sites or of strips adjacent to subways,
street cars or mass transportation lines has been lessened by the automobile,
the concrete highway and the airplane.

With the superabundance of land

accessible by automobile on the periphery of most cities, speculative land
booms based on expectations of conversions of farm to urban sites have less
and less justification.

Likewise, there are ever increasing areas of

decaying structures in which real estate booms are not likely to take place.


Increase in the Public Debt, Prices, Wages.

Major wars, by increasing

government spending, have pushed up wholesale prices and wages.

This, in

turn, had had a profound effect on construction costs and building values.
In the Civil War, the federal government debt was increased from $65 million
to $2,436 million from 1860 to 1870; in World War I it rose from $1 billion
to $24 billion between 1914 and 1920; in World War IX it* shot up from $40
billion to $270 billion from 1939 to 1945.

In the Civil War and World War

I average wholesale prices more than doubled and, while held somewhat in
restraint by price control in ^orld War II, wholesale prices advanced over
50 percent.

The important fact is, however, that while wholesale prices

receded after every war, labor doubled its wages during each war period
and held most of its gains.

As a result, construction costs, which are

chiefly wages for manufacturing materials and wages of workers on the site,
have advanced to ever higher levels, because these labor costs have not
been offset by use of machinery as in other industries.

Consequently fewer

and fewer families have been able to buy new homes, because housing costs
have increased faster than incomes over long periods of time.





The Interest Rate,

real estate cycle.

Changes in the long term interest rate affect the

Interest rates declined from 8 percent on the best

real estate security in Chicago in 1873 to 3J- percent in 1900, and then
rose slowly to 5^ percent in 1920, from which they declined to 4 percent
in 1927.

The rates from this point rose to 5-| percent in 1932, and they

have since declined to 3 percent in 1946.

The changes in the long time

capitalization rate has affected all real estate values through the capital­
ization rate.
The Real Estate Cycle-1914 to 1932

With these brief references to some of the fundamental factors
affecting the pattern of real estate cycles, let us examine the inter­
action of the factors in the real estate cycle of 1914 to 1932 and note
their similarities or differences with the situation after World War II.
In World War I, there was a drastic curtailment of residential
buildings, so that after the War*, there was a great shortage of dwelling

The return of 5,000,000 soldiers and sailors to their homes,

deferred marriages, and the post-war industrial boom to manufacture civilian
goods created a great demand for urban housing and absorbed every vacancy.
Construction costs had more than doubled during World War I and rents had
remained stationary until Armistice Day.

There was a period of uncertainty

and delay in starting new building after the first World War, however,
because building at double 1914 costs was not profitable so long as rents
remained constant.

A sharp rise in residential rents began in 1920 and

continued until they had risen 65 percent.
advanced sharply.

Office and store rents likewise

Construction costs fell 25 percent in 1920 and a new

profitable relationship was established between rents and building costs.


The value of nearly all existing buildings doubled as a result of the
higher rents and higher reproduction costs*

Consequently, a total of

6,800,000 private non—farm dwelling units were erected between 1921 and
1929 inclusive.

Apartment buildings, office buildings, hotels and stores

were built in large volume.
The significant fact to be noted in this period of high level con
struction was that new buildings of all types — homes, apartments, hotels
and stores - could be constructed and rented at approximately the same
rentals as the existing structures with but a slight premium for newness
or more modern design.

Consequently, the building of new structures was

sustained by a filtering up of families from the older to the newer build­

This construction volume was aided by liberal bank loans, and by the

sale of mortgage bonds based on somewhat inflated values,

fthile business

prosperity continued, and family incomes were high, relatively high apart­
ment, office and store rents were paid.

After 1924, the rate of building

new dwellings was exceeding the rate of new family formation and vacancies
were beginning to increase.
have empty space.

Likewise, office buildings were beginning to

This type of building from 1926 to 1929 was the added

space financed by easy credit that was to bring disaster later.

In the

entire decade from 1920 to 1930 there was an increase of 5,541,000 non­
farm families, but 7,035,000 new non-farm dwelling units were built.
The stock market crash of October 1929 ushered in that severe
depression which lowered the national income from the $83.3 billion of 1929
to the $40 billion of 1932, increasing unemployment from 1.5 million to
11.9 million in the same period.

The debacle caused a drop in the number

of new non-farm dwelling units from 937,000 in 1925 and 509,000 in 1929
to only 93,000 in 1933, a drop of 90 percent from 1925.




New office, hotel

and apartment construction came to a complete halt.
rents dropped 43 percent by 1933.

National residential

T'he vacancies in office buildings rose

to 27.6 percent and in hotels to 40 percent in that bottom year.


vacancies in multi-family, apartments in New York was 13.72 percent in 1934.
ks a result of vacancies and falling rents* net incomes dropped drastically

and foreclosure rates rose sharply.
save home owners.

The H.O.L.C. made 1*000,000 loans to

Real estate values dropped from 50 percent in the case

of single family homes, to from 60 to 75 percent in the case of apartments
and office buildings and to as much as 90 percent in the case of vacant
urban sites.
The Real Estate Cycle 1935 to 1947
Now let us see whether these are the seeds of the same disaster
in the present situation.

The forces making for ultimate real estate

recovery began in 1933, with.the beginning of the rise in the national
income and in employment.

With new construction at very low ebb, the rate

of family formation began to outstrip new construction.

In the entire

decade from 1930 to 1940, there was an increase of 4,503,000 non-farm
families but only 2,734,000 new non—farm dwelling units were built.
Relatively high building costs in comparison to family income had restricted
the proportion of families who could afford new homes to not over one-third
of the total.

The total amount of new office building construction was

negligible becasue rents were not high enough to yield a return on con­
struction costs, which were not appreciably below those of the 1920's.
Gradually vacancies in apartments, hotels and offices were being absorbed.
Office rents continued to fall in New York City to 1943, however.


number of new non-farm homes had steadily increased from 93,000 in 1933 to
715,000 in 1941 but had not yet reached the 1925 peak of 937,000 when World

War II Intervened to halt all construction except for war workers.
The expenditure of nearly $400 billion for war increased the
national income from $71 billion in 1959 to $160 billion in 1944, 1945
and 1946.

Average factory earnings were doubled in the same period.

Estimated construction costs rose only 50 to 60 percent, and building wages
only 15 percent but actual costs, inflated by a sharp decline in the
efficiency of labor, by delays in securing materials, by black market prices,
a nd by high profit margins were almost double pre-war.

Wenzlick*s stand­

ard six-room house which cost $6,000 to build in St. Louis in 1940, cost
over $12,000 to construct in 1947.
Meanwhile as a result of a lack of construction, practically all
office buildings, hotels, apartments and houses were 100 percent occupied.
Several million families were doubled up*
developed in residential real estate.

A paradoxical situation had

Rents were frozen at levels pre—


vailing in 1942 in most areas, which was on the average only 8 percent
above 1935 to 1939 levels.

Owners of single family houses, however^ could

dispossess tenants by selling.

With practically no new construction, and

no apartments for rent,millions of families were forced to buy.

The price

of existing single family houses had more than doubled by the Spring of
1946, selling frequently for considerably more than reproduction cost of
new houses.

Meanwhile houses for veterans built on priorities and limited

to a $10,000 ceiling, sold at or near the ceiling in most cities, a price
which only 4 percent of the employed veterans in New York can afford to
Meanwhile, the prices of apartments have advanoed in expectation
of a modification or removal of rent control, but the prices are still far
below the reproduction cost of new apartments.




There is a most signi—

ficant difference between the situation prevailing now and that of the

At the present cost of new apartments minimum rentals of $80 to

$100 a month must be obtained for them.

In some cities this is 50 to 100

percent more than the O.P.A. ceilings on the same type apartments in older

If O.P.A. ceilings are maintained, on a rise of no more than 15

percent is permitted in older buildings, then there will be no extensive
filtering up into newer structures.

Families as a rule will not pay a

substantially higher rent to move into a new building.

Hence the values

of all existing buildings will not be jeopardized by building more structures
at the same or slightly higher rents,
practically 100 percent occupied.

¿he older buildings will remain

The chief risk will be in loans on the

new buildings, rented to the families in the top 10 percent in the income
brackets, which will be the first to decline in a depression.
situation applies to existing office buildings.

The same

Rents in the old buildings

in Chicago have risen to $3.50 a square foot, but it w'ould take a rent of
$5.50 a square foot to pay a return on present construction costs.


existing office building will not be faced with the competition of new
buildings at the same rents until their rates rise to $5.50 a square foot
or construction costs come down.
If rent control is removed on residential properties and if
office and hotel rates continue to rise the point will be reached where the
rents paid for these older quarters will yield a return on new buildings.
The rents, however, will be on so high a level, that not over 5 or 10
percent of our families can afford to pay them.

Then we will be all set

for another boom and bust with overbuilding at extremely high cost levels,
followed by a collapse when family incomes no longer can be stretched to
meet them.

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This pattern might be varied by a general inflation of all family
incomes except those of building labor.
It is also very possible that a greatly expanded program of public
housing and subsidized housing will be projected when the average family
finds it cannot meet the cost of new housing.
The simplest method of developing a sound prolonged period of construction activity would be to lower building costs by every known method,
pre-fabrication, greater labor efficiency, lower hourly pay but a
guaranteed higher annual wage, large scale operations, lower interest rates,
lower operating costs, lower profit margins, mass production of lighter and
more efficient building materials.

This might bring new housing down within

the means of the bulk of the population, accelerate filtering up, hasten
the clearance of our worst slums, and enable more families to enjoy public

his does not mean lowering costs to pre-war levels, but if they

are reduced to 50 percent above pre-war while average family incomes are
doubled over 1940, all will be well.

The building of a million or more

homes a year, besides office buildings, hotels and stores, and all their
accompanying utilities might well sustain a high level of business activity
for a decade.
Lower building costs would, however, jeopardize loans made on a .
higher percentage of the costs of being erected, or loans
made to finance recent sales of single family homes.

Such lowering of

costs would prevent, however, any sharp increase in rents on old buildings
even after rent control is removed.

Any short-run mortgage loan losses

would be more than offset by the gains of basing the entire mortgage
structure on the ability to pay of the majority of American families.

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