Seiders on Housing

Builders Have Not Lost Touch With Demand

The demand for single-family homes and condo units peaked during the second half of last year and has moved downward since then. This change of direction has occurred as record-high house prices and rising mortgage rates have taken a heavy toll on affordability. Eroding expectations of future house price appreciation may also be contributing to the erosion of demand, particularly among investors/speculators.

On the supply side, we see that total housing starts averaged 2.21 million units (annual rate) for the January-February period, higher than any quarterly average for the entire expansion period, and the same can be said for the single-family component which averaged 1.82 million for the first two months of this year. The strong forward momentum of housing starts kept residential construction put-in-place on a strong upward trend through February, particularly for new single-family units.

Maintenance of strong production in the face of eroding final demand for homes has resulted in record levels of unsold new-home inventories and a large increase in the months’ supply--from 4.1 last July to 6.3 in February. Furthermore, these inventories don’t include homes handed back to builders when sales contracts are cancelled!

Our surveys show that builders are well aware of the downshift in housing demand as well as the recent upshift in cancellations, and many builders are offering special incentives to maintain sales volume and limit cancellations. At this point, I’m attributing the overly exuberant housing starts of early 2006 largely to unseasonably good weather, and I expect the starts pace to fall back in the near future. Having said that, it’s clear that many larger builders have large backlogs of home sold but not yet started (largely because of land-use and regulatory delays) and I expect starts to hold up better than new sales in 2006.

There Is Nothing Wrong with Homeowners' Finances

Anti-housing forces, including many in the media, have been insisting that heavy borrowing against housing equity has been pushing homeowner finances to the brink of disaster.  And yes, Federal Reserve Chairman Alan Greenspan has just unveiled Fed research showing home equity “extraction” of about $600 billion in 2004, and borrowing against equity should be even bigger this year.

These are staggering numbers, of course, but they don’t actually mean that something has gone wrong. Indeed, the Fed’s own national balance sheets show that homeowner equity grew to $10.5 trillion by mid-2005, up by 18 percent from a year earlier. Furthermore, the aggregate housing debt-to-value ratio stood at 43 percent at mid-year, lower than at any time in recent years.

It's also clear that mortgage debt repayment is not placing an undue burden on the income of America’s homeowners -- partly because mortgage debt has been substituting for a lot of shorter-term, higher-cost, consumer debt. Indeed, the Fed’s Financial Obligations Ratio for homeowners was only 16.37 percent in the second quarter, compared with 28.87 percent for renter households.

While the media may be able to find and highlight debt-strapped homeowners, the overall picture shows remarkably healthy current homeowner finances and a housing equity nest egg that could withstand very large unforeseen shocks. Even Chairman Greenspan concedes these points.

Now What Do We Do?

S. Robert Kaufman’s comment on my contention that it’s “Time to Applaud Rather Than Condemn Greenspan’s Housing Boom” places some blame for rapid house price increases on the shoulders of builders and asks what builders should do when aggressive price appreciation seems to be peaking out. 

It’s important to note that most local housing markets are highly competitive, with prices determined at any moment by the supply of and demand for units on the market -- new and existing homes combined. In recent times, price appreciation has been driven by robust demand coupled with regulatory constraints on the supply of land for development. It may seem that builders have been able to push up prices all they want, but it’s primarily been a demand-pull situation.

At some point, soaring house prices take a real toll on affordability at the margin, particularly when mortgage rates stop falling. That’s the situation Mr. Kaufman senses in the D.C. area, and we’ve seen affordability indexes weaken substantially in regions where price increases have been relatively strong -- such as the West and Northeast.

A survey of builders around the country, conducted by NAHB in early September, identified growing buyer resistance to home prices. Nearly seventy percent of builders in the survey noticed some price resistance in their market areas, and close to 10 percent characterized the resistance as “significant.”

So what’s a builder to do when price resistance gets serious? We actually asked that question in our September survey. One-fourth of the builders were trimming prices, thirty percent were shifting their production mix toward lower-priced models, and about forty percent were strengthening non-price sales incentives -- such as free amenities or payment of closing costs.

These types of builder reactions should help promote the kind of “simmering down” process that Chairman Greenspan predicted. There’s no reason to expect the sky to fall.

Time to Applaud Rather Than Condemn Greenspan's "Housing Boom"

On August 26, Federal Reserve Chairman Alan Greenspan characterized the current "housing boom" as one of America's major "economic imbalances." The Chairman blamed the housing boom for everything from a low national savings rate to a burgeoning trade deficit, and he obviously wants the boom to end before long.

Greenspan's perspective are hard to fathom. The housing sector has been the brightest star in the economic skies and that star is still shining. For years, home sales and housing production have powered both GDP and job growth, and house price increases have created large amounts of wealth for America's homeowners-- fueling consumer spending in the process. Everything considered, housing has been responsible for as much as half of U.S. economic growth in an era when other components of the economy have turned in lackluster performances.

Chairman Greenspan once applauded housing's dramatic contributions to the economy and he steadfastly argued against charges of price "bubbles" in the U.S. housing markets. Maybe the Chairman has just become frustrated by the Fed's inability to raise long-term interest rates and take the starch out of housing despite more than a year of monetary tightening. Whatever the reason, perhaps the Chairman should take a step backward and recognize yet another benefit to be reaped by the "housing boom."

Hurricane Katrina seriously damaged the energy production and transmission infrastructure in the Gulf region, all but promising historically high energy costs for the foreseeable future. At a time like this, large amounts of housing equity-- created by those dratted price increases-- is a Godsend, providing a buffer to household finances and helping the economy weather the storm.