What is the market price of a house? It depends on decisions made by bank managers as to how much they are prepared to lend to the prospective buyers.

I left out much of your paragraph on purpose. That is because the primary driver of housing prices are the banks and their lending criteria. As GIs came home from WWII in large numbers with government subsidies for purchasing homes the housing market adapted with row upon row of cookie-cutter boxes of less than 600 sq ft. Banks would gladly lend for those poorly constructed and tiny homes because doing so was risk-free.

As the next generation produced far fewer qualified buyers the housing market responded by upgrading homes to adapt to the more affluent and demanding consumer able to qualify for financing. Each recession took its toll on that number of qualified buyers as hard times always impact the population from the bottom up. Also, many homes built in the 50s had deteriorated rapidly and became less desirable than older homes, prompting both banks and municipalities to tighten up size restrictions and building standards.

The results of a combination of factors involving banks, builders, and community standards have created a housing market where single family unit homes are all but unthinkable for any except the most affluent 25% of potential buyers and their size/prices reflect the demands of that sector. Housing to accommodate the bottom 75% of the population measured in earnings is now supplied almost entirely by rentals or co-ops. It would be easy enough to divide those multi-family dwellings into single units and offer them for sale, but they would find few qualified buyers by today’s lending criteria.

This is especially true since the collapse of the market in ’08 and the reluctance of banking to lend back into the single-family home market. The market for much smaller and cheaper homes has always been there numerically, but that market simply doesn’t meet bank standards in a percentage large enough to entice builders to cater to it.