Why Is The US Housing Market Frozen & What Are The Implications Of That Predicament
Despite the sky high costs and lack of available supply, existing or being built, the biggest issue in the housing market at present is likely structural in nature.
Cyclical cost pressures are hurting the real estate market. Structural forces are breaking it.
The main structural issue is that the housing market is largely frozen.
By frozen we mean that there are two broad dynamics occurring across the country at the moment:
House prices are high in historic terms. They are more likely to fall than rise.
And yet very few people are taking advantage of those prices to sell their homes. In fact, they are doing the very opposite.
The lack of available homes may have kept prices elevated and yet should have also encouraged homes to be built by developers and homebuilders keen to cash in on the large number of buyers.
That hasn't happened and, even worse, the current high rates are counterintuitively discouraging homeowners from selling their houses.
Why?
Because many of them have locked in epically low mortgage rates around the pandemic and during the two years that came afterwards. Their housing payments are lower and affordable than ever as a result and they are, unsurprisingly, very reluctant to move when any new home would come with a new and far more elevated interest rate and therefore a higher cost.
For most people therefore, to sell would mean to trade down, not up in terms of their house. A smaller house with a higher mortgage payment. Not ideal.
Therefore the US housing situation bears all the hallmarks of a frozen market.
What would fix this?
Lower rates of course.
As we mentioned earlier, we have gotten a taste of this in the last month as mortgage rates have fallen as the Federal Reserve has indicated that they will adopt a less aggressive pace in interest rate hikes going forward.
This has made houses more affordable. It has also led to a rise in homebuilder stocks we have seen since the peak of mortgage rates in the autumn (early November when the inflation data came in low).
These house building companies are experiencing all the pleasure of better affordability with none of the supply chain issues or labor scarcity of 2020 and 2021.
See here:
And here:
The expectation from speculators is that they can build homes for cheaper than recent years and sell them for a decent price and therefore their profit margins will rise.
But despite this recent (small) shift as mortgage rates moderate, the housing market is still in a very negative overall situation.
As the "lower rates leading to better homebuilder stocks" correlation demonstrates, it would seem that our residential real estate industry only works when there are (very) low rates to help new homebuyers afford the high prices and entice existing homeowners into selling and buying a new home.
There are two problems with this:
Our habit of using low interest rates to smooth out the business cycle has significantly negative consequences.
It may not be easy for monetary policy (or any other branch of economic policy) to reverse this.
In other words, if we are correct in our argument that inflation will stay elevated and the higher rates era is here to stay then we might have a sclerotic housing market for years.
That is no bueno.
Without any real discussion - before or now - we have created a structurally unsound residential real estate market and a serious trap where a huge part of our economy only functions in one type of interest rate environment.
The fact that this was accidental doesn't make it any better. In many ways it makes it worse.
We can't have a major part of our economy in complete disarray and permanent dysfunction just because we don't build enough homes. Issues such as zoning, regulation and labor supply are all difficult but surmountable with the right policies and commitment.
However, a monetary policy that has subsidized the cost of capital for tens of millions homeowners is a whole other beast. Shifting those incentives will not be easy and certainly won't be easy to do without possibly creating other unintended and very negative consequences.
Time - or a brutally deep recession - will perhaps heal all wounds but it is far more likely that the housing market will be broken for quite a stretch.
We may not know how long it will last but we do now feel more confident about the consequences. In the end, a frozen housing market means that thousands of wannabe homeowners are unable to take the step towards homeownership with many unpleasant and unintended consequences.
Here are a few:
Less family formation.
Less economic mobility.
Less population growth.
Less productivity.
None of the above is great.
We need people to be able to have children and families. "Making it difficult to procreate" can't be one of the core tendencies in American society. Further, one of the great historic strengths of America's economy is the ability of people to move from regions of less economic opportunity to places with more vibrant job markets.
And we should remind you that this frozen market was achieved by the Federal Reserve keeping rates too low for too long. As of this time last year we were still buying mortgage backed securities at the rate of $30 billion a month for reasons that are pretty hard to fathom considering the red hot housing market in 2020 and 2021.
This is a crisis and one that has been manufactured by our own policies and decisions. We are not anti-Quantitative Easing or anti-Federal Reserve but we do find the lack of accountability and humility (or even discussion) of these problems to be pretty shocking.
Letting inflation out of the bag was bad, could the frozen housing market prove worse?
*******
Have questions? Care to find out more? Feel free to reach out at contact@pebble.finance or join our Slack community to meet more like-minded individuals and see what we are talking about today. All are welcome.
