Economist: Here’s why mortgage supply and demand isn’t normal

What has recovered or is close to being recovered?

As the Bipartisan Policy Center 2014 Housing Summit approaches, it is evident that there are differing opinions about the state of housing in the U.S.

“Bears” are claiming the recovery has stalled and is showing signs of another decline, while “bulls” point to continuing momentum and indications of fundamental strength and growth ahead. But a straight reading of all the data leads to the conclusion that we are by no means fully recovered, and we could do better for the economy and the majority of households in the U.S. 

While the economy is now performing at better levels after a weak first quarter start, we have seen a less-than-stellar economic recovery since the end of the 2008-10 “Great Recession” compared to prior recoveries, and housing has been a big part of the problem.

What has recovered or is close to being recovered?

Jobs, home prices, non-distressed existing home sales, multifamily new construction, and rents.

However, the recovery we have seen so far in home sales is reflective of well-heeled households that are easily able to get credit or can afford to purchase with cash.

What is far from recovery or way off normal levels? Single family new construction, mortgage applications and originations, household formation and home ownership.

The most negative sales signal comes from the new home market, where new home sales came in at an estimated annualized rate of 412,000 in July, the second lowest rate in the last 10 months. Correspondingly, permits and starts have not been able to sustain a pace above 1 million. The only consistent annual gains are in multifamily, where the rate of starts in July was at its highest level in eight years.

Peering into the financial side of housing, we see another troubling conundrum — mortgage applications at the beginning of September were at the lowest level in 14 years, even though mortgage rates are not far from the lowest levels on record.

Mortgage applications are considered a leading indicator for future home sales, but I believe the decline is not so much a signal of another downturn in demand but rather an indication of a seriously hobbled housing credit market.

Mortgage market analysts describe the problem the market faces as a very small credit box — only consumers with easily-documented income (favoring individuals with salaries over the self-employed or seniors receiving retirement income), strong credit scores, and big down payments can get financing.  Banks with plenty of capital are not eager to create mortgages in fear of penalties and pushbacks from government-sponsored mortgage entities such as Fannie Mae and Freddie Mac. 

Today’s demand and supply are not normal. Affordable homes aimed at the first-time buyer segment are not being built. Hedge funds bought up most of the affordable distress inventory over the last three years and have turned them into rentals. Home values have recovered the least in affordable price points, resulting in higher numbers of existing owners with negative equity and therefore unable to sell.

New households and young households cannot afford to buy or cannot qualify for a mortgage at today’s incredibly low rates. At the end of the second quarter, the nation had the highest level of renter occupied housing on record.

At the same time, rents are now increasing at a pace higher than home prices, so a higher percentage of income is now being spent on housing in the form of rent. This is a vicious cycle—burdened households cannot save for the down payments required and are more likely to continue to have less than perfect credit histories.

The full housing ecosystem is not back to healthy conditions, and the continuing decline in home ownership portends bigger problems ahead for the U.S. economy. While it has become popular to deride home ownership in this post-crisis era, home ownership is a keystone of success and financial stability in the U.S.

Indeed, the recent report “Housing America’s Older Adults,” from the Harvard Joint Center for Housing Studies, highlights homeowners are the least-likely seniors to face financial distress as they age. That is a key lesson for everyone with enough time to prepare for retirement.

Without a strong housing policy, the mortgage market is incapable of adequately addressing risk-appropriate access to credit that supports home ownership. This pushes up demand for rentals, prevents home builders from creating affordable single-family supply, and ultimately constrains supply, leading to higher prices and rents.

Left to these dynamics, affordability will be challenged across the ecosystem, leading to more and more households being burdened by housing costs and unable to break the cycle that prevents them from improving their overall condition.

We are also reaching a critical demographic juncture. The population tidal wave that is the Baby Boomer generation will all be 55 and older by 2019. That, combined with increasing longevity, means the number of people 75 to 84 will almost triple by 2040, according to HJCHS.

The vast majority of seniors say they would prefer to remain in their homes as they grow older, yet our housing stock is in woeful need of improvements to meet their accessibility challenges.

Meanwhile, the even-larger Millennial generation could be the key to the future strength and vitality of the housing market—if only they could find high-quality jobs and affordable housing. Their credit, employment, and income challenges have depressed household formation.

When they do form households, they have been more likely to rent, but with ever-increasing rents, they cannot save or improve their credit profile to qualify for a mortgage—assuming they could even find an affordable home to buy in today’s market.

Being no policy wonk, I don’t presume to have the answers to these ills, but I can say that from both a housing and an economic perspective, we could do better.

The housing ecosystem is immensely complex and highly local. What’s needed in Houston and Dallas looks very different than what’s needed in Chicago and Philadelphia. That’s why we need bipartisan leadership to work at national, state and local levels.

But fundamentally, we need new directions for national housing policy to address the broken credit market, find solutions for affordability housing across all income levels, reinforce home ownership as the cornerstone of financial security, and fulfill the housing needs of older households.

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