Purchasing a property is becoming more and more challenging.
The National Association of Realtors reported earlier this month that its index measuring housing affordability dropped to its lowest level ever during the second quarter. In the second quarter, the reading was 101.8, down from 92.7 in the first. It is also considerably lower than the 180.4 level attained in 2021.
A score of 100 indicates that households with median incomes have enough cash on hand to pay the median property price. The reading below indicates that the median household income is insufficient for home purchase. The data is from 1986.
Unbelievably, housing is currently more expensive than it was before the Great Financial Crisis when a complete collapse in lending standards sparked a speculative frenzy that resulted in a 33% peak-to-trough drop in housing prices (depending on the S&P Case-Shiller 20-City home price index) via July 2006 to April 2009.
Should we be alarmed by this?
According to data from Freddie Mac, mortgage rates have significantly increased and are currently hovering around 7.2%, which has undoubtedly had a significant impact on the reduction in house affordability. Comparatively, from the end of the financial crisis in 2009 until the end of 2021, there was an average growth rate of 4%.
In fact, mortgage rates are now over three times higher than they were at the end of 2020 and the beginning of 2021, when they reached a low of 2.7%. Unsurprisingly, the most affordable period for housing turned out to be the first quarter of 2021.
Despite the sharp rise in interest rates since then, property prices are up 28%. The median household income is currently increasing at a rate that is similar to that of pre-Covid, but it has not increased quite quickly enough to compensate for the jump in mortgage rates and the rise in housing costs. The result has been a drastic decline in home affordability to all-time lows.
I am aware of all the defenses.
“How High a Rate Can Housing Take?” was the heading of a Wall Street Journal story published on Wednesday. According to a survey on Wednesday from the National Association of Realtors, there were only 980,000 existing single-family houses listed for sale in the previous month. The number of properties sold in July, which is typically a busy season for home sales, was the lowest since records began in 1982.
Due to the severe shortage of housing, prices are still high. There are very few homes on the market because no one wants to leave their 3% mortgage behind. Another thing that keeps homeowners in their homes and lowers the supply of homes is the “work-from-home” trend.
Since the great financial crisis, there hasn’t been enough new home development, so it will take years to get the housing supply and demand back in balance. Since before the GFC, lending criteria have substantially increased.
Nowadays, the typical homeowner has a lot more equity than before. As it becomes more obvious that inflation is on a sustained path below the Federal Reserve’s 2% target, interest rates should start to decline. so forth.
All of this is probably accurate. Nevertheless, housing affordability is at its lowest level at least since 1986. If nothing changes, many would-be first-time buyers risk being permanently shut out of the market.
In the face of such a significant increase in borrowing rates, can the lack of supply alone keep house prices high? Is it reasonable to assume that everyone will stay put permanently merely to maintain their low mortgage rate and avoid a glut of supply hitting the market? Will the Fed be under political pressure to reduce rates more quickly, enhancing affordability?
I don’t have all the answers to any of these significant queries. My suspicion is that the Fed’s interest rate hikes will come to a halt sooner rather than later due to a combination of the deteriorating job market, tighter bank lending criteria, erratic capital markets, and rising mortgage rates. The Fed has always picked the route that causes the least suffering, and I don’t believe this time will be any different.
I believe that will happen if it means that the Fed will implausibly embrace an inflation target exceeding 2% for a brief period of time. But in the end, I still think that the Fed has raised interest rates enough already to slow the economy, bring inflation down to its target level, and perhaps even start a recession.
The “long and variable lag” has turned out to be longer than anticipated, in large part because homeowners were shrewd enough to lock in extremely low mortgage rates when the opportunity presented itself. However, the impact of 525 basis points of interest-rate increases in a historically short period of time won’t be offset by fixed-rate mortgages.
A healthy housing market will probably be necessary as a prerequisite for establishing a relatively smooth transition to long-term economic expansion given its significance to the overall economy. The housing affordability dilemma is, and appears to remain, a risk factor that, if left uncontrolled, might not only limit the economy’s ability to grow but potentially trigger a financial crisis. So, give the Fed’s juggling act one more ball to juggle.