Despite the sharp slowdown in home price growth and housing in general, Capital Economics remains bullish on the U.S. housing market and mortgage growth.

Paul Diggle, property economist with Capital Economics, says that he sees such things as the decline in home price growth and the anemic August jobs report as outliers.

“With economic growth seemingly running at more than 3% annualized, we suspect that the modest gain in payrolls in August was an isolated blip,” he says. “The 142,000 increase in non-farm payrolls in August, which was well below the consensus forecast of 230,000, was probably just an isolated blip rather than a sign that the economic recovery is coming off the rails. After all, other indicators such as initial jobless claims suggest that labor market conditions are still strengthening.”

He notes that the ISM manufacturing index hit a three-year high in August, while the non-manufacturing index improved to a nine-year high.

His optimism is itself a bit of an outlier.

“On the face of it, these indices are now consistent with GDP growth of as much as 5% annualized in the third quarter. We don’t anticipate that growth will be that rapid, but 3.0% to 3.5% annualized during the second half of the year look within reach,” Diggle says.

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Mortgage affordability, Diggle argues, is very favorable, and thanks to the slight decline in house prices in the second quarter the valuation picture improved.

Mortgage interest rates continued to inch lower in August. The MBA’s measure of 30-year mortgage rates fell to 4.25% by the final week of the month.

“That was below the average of 4.32% during July and the lowest level since June last year. This decline has been driven by lower Treasury yields, although concern about the future of Fannie Mae and Freddie Mac means that mortgage rates have not fallen as far as Treasuries,” he says.

Diggle concedes that the slight decline in mortgage rates wasn’t enough to meaningfully alter the mortgage affordability picture. The typical mortgage payment in August accounted for 16.3% of the median income, unchanged from the previous two months.

Diggle also concedes that mortgage lending and new home sales are flat, but notes that existing home sales have risen back to historical norms.

“Mortgage applications for home purchase fell for the third consecutive month in August, to their lowest level since 1995,” Diggle says. “Yet these data don’t sit comfortably with the net balance of 45% of respondents to the Fed’s Senior Loan Officer Survey who saw mortgage demand strengthen in the third quarter. The same survey showed that a net balance of 18% of lenders loosened mortgage credit conditions.”

Either way, new home sales have been flat.

Sales dropped by 2.4% in July from June, and at 412,000 annualized they are no higher now than they were in January 2013.

“The moribund new homes market may reflect? tight lending standards. In which case, the?latest loosening in lending should help new 25 home sales to strengthen. Indeed, we believe?that the majority of the increase in housing?market activity over the next few years will?come from the new homes sector,” Diggle says.

Existing home sales, which represent about 90% of all sales, are faring better, Diggle points out.

“They increased by 2.4% month over month to 5.15 million annualized in July, the fourth consecutive rise. Existing home sales per capita are now in line with long-run norms,” he says.

House price inflation has slowed down markedly. Indeed, the new Case-Shiller national measure is reporting month-on-month declines in house prices.

The Case-Shiller monthly measure of national house prices – which will more-or-less replace the 20-City measure as the best read on monthly prices – reported that seasonally- adjusted prices fell in each of April, May and June. This is a dramatic reversal from the average 0.7% monthly gain of the previous two years.