Fires out, California housing still burns: James Saft

By James Saft

LONDON (Reuters) - The fires that scorched California may be out, but a bigger man-made disaster, the housing market, burns away, threatening the U.S. economy and holders of billions of dollars of debt backed by homes.

The housing conflagration is fed by its own 100 mile-an-hour winds; impossibly high housing prices - the legacy of a binge of irresponsible borrowing - a credit crunch and rising repossessions.

And with some analysts predicting top to bottom falls in prices of as much as 40 percent, California looks headed for a recession. Don't be surprised too, if in six months the question angry bond holders ask is not "Is it subprime?" but "Is it Californian?"

Make no mistake: California matters. It's the world's 10th biggest economy, it generates 13 percent of U.S. GDP and its homes are collateral for billions of bonds held by investors around the world.

The recent flow of news has been poor, to put it kindly. Foreclosures rose 34.5 percent in the third quarter to a record 72,571, tracker DataQuick said last week, while median prices fell 7.5 percent in September from the month before. Sales too, are falling off a cliff, falling 26.8 percent from August to September.

The situation has worsened dramatically since a freeze in global capital markets in August made it much tougher and more expensive to get a subprime or large loan.

And with unemployment rising in the state, in part because of job losses in construction, finance and real estate, things could get a lot worse.

"We are heading into a state recession and that will take an already horrendous mortgage problem and take it over the top," said Christopher Thornberg, of Beacon Economics in Los Angeles.