e c o n o m i c r e p o r t p r e s i d e n t

The Run-Up to the RecessionThe rise in house prices during the boom was remarkable. As Figure2-1 shows, real house prices almost doubled between 1997 and 2006. By2006, they were more than 50 percent above the highest level they hadreached in the 20th century.Index (1900=100)200Figure 2-1House Prices Adjusted for Inflation17515012510075501909 1919 1929 1939 1949 1959 1969 1979 1989 1999 2009Sources: Shiller (2005); recent data from http://www.econ.yale.edu/~shiller/data/Fig2-1.xls.Stock prices also rose rapidly. The Standard and Poor’s (S&P) 500,for example, rose 101 percent between its low in 2002 and its high in 2007.That rise, though dramatic, was not unprecedented. Indeed, in the fiveyears before its peak in March 2000, during the “tech bubble,” the S&P 500rose 205 percent, while the more technology-focused NASDAQ index rose506 percent.The run-up in asset prices was associated with a surge in constructionand consumer spending. Residential construction rose sharply asdevelopers responded to the increase in housing demand. From the fourthquarter of 2001 to the fourth quarter of 2005, the residential investmentcomponent of real GDP rose at an average annual rate of nearly 8 percent.Similarly, consumers responded to the increases in the value of their assetsby continuing to spend freely. Saving rates, which had been declining sincethe early 1980s, fell to about 2 percent during the two years before the recession.This spending was facilitated by low interest rates and easy credit, withhousehold borrowing rising faster than incomes.40 | Chapter 2