by Calculated Risk on 11/27/2007 02:59:00 PM

The S&P Case-Shiller National home price index was released this morning. (See note at bottom).

The reported Case-Shiller numbers are nominal; not adjusted for inflation. Most people think in nominal terms, but it's also important to look at real house prices.

Click on graph for larger image. The first graph shows the nominal Case-Shiller index. The index peaked in Q2 2006, and nominal prices have declined about 5% from the peak.

The second graphs shows real prices according to the Case-Shiller index (adjusted using CPI less Shelter). Real Prices peaked in Q1 2006, and are off about 8% from the peak.

The second graph probably provides a better first estimate of how far prices still need to fall (for the Case-Shiller universe). If prices fall to 120 (in real terms) that is about another 25% from the current level.

This could happen with falling nominal prices, or from several years of inflation, or a combination of both. Say nominal prices fall 15% over the next three years, with a 2% per year inflation rate, then real prices would fall to about 130 on the Case-Shiller index.

This suggests to me that price declines have just started, and that the process will last several years. It's important to remember that different areas will see different percentage price declines - the bubble areas will see the largest declines - and the time frames for each location will be different.

NOTE: There are significant differences between the OFHEO HPI and the Case-Shiller National index. This is an excellent summary by OFHEO economist Andrew Leventis: A Note on the Differences between the OFHEO and S&P/Case-Shiller House Price Indexes. The OFHEO note suggests that the primary reason for the difference between Case-Shiller and OFHEO price indices is geographical coverage (not the loan limitations for OFHEO).