Weak Outlook for Housing Market Recovery

June 23, 2010

New data show that new home sales reached a record low last month, and sales of previously owned homes unexpectedly fell 2.2 percent as well, even as mortgage rates remained near an all-time low.  Ted Gayer says the numbers show the housing market is still weak and that various policy interventions have had mixed results.


Impact of Policy on Housing Market

We saw a significant drop in new home sales today (about 33%) and we saw a very large drop in existing home sales earlier in the week. Both are suggesting (or pointing to the fact) that we have a very weak housing market. Part of these data are just showing that we had a pull forward in housing sales from the first-time homebuyer tax credit. Now, as that expires, we would expect some of that to be replaced with a reduction in housing sales. I think mostly what we are seeing here is a fundamentally weak housing market. A large excess inventory of homes still exist, putting downward pressure on prices, and so I think it portends to continued weakness in the housing market for the second half of the year.

Slow and Painful Market Adjustment

The housing market is weak based on some core fundamentals. We had a huge build-up in housing construction during the boom and then prices came crashing down, so you have a combination of two things. One is you had an enormous number of homes being built. Then when we had a recession, with the downturn in the economy you had a slow-down in household formation. So there is less demand for homes also. So the combination of those two things, essentially, leads to a glut of houses which really puts downward pressure on prices.

Over the past year (or even more than a year) there has been enormous government effort to try to sustain this, but, at the heart, we still have a fundamental problem in the housing market. It is a slow and painful adjustment. Some of the government programs have tried to delay that, and some of them have tried to boost demand or even restrict supply through preventing foreclosures, but what we are seeing now is just the working through of this fundamental problem of excess supply.

Mixed Success through Intervention

I would give different grades to the different government interventions. In one sense you had an enormous intervention from the Federal Reserve supporting the mortgage finance market, which I think was a wise policy. That was, I think, rather successfully phased out without a significant jump (in fact, without much of a jump at all) in mortgage interest rates.

Other policies I would give lower grades. On the first-time homebuyer tax credit, I think at its heart it was poorly targeted and it really didn’t get at the fundamental problem of what we have in the housing market. It created some activity in housing sales, but ultimately we still have an excess supply of houses, and that really didn’t address it.

Foreclosure prevention – it is hard to know how to grade that. With HAMP (the key Treasury program to prevent foreclosures), they are not stellar numbers, they are rather weak I think. But not unexpectedly so when you have this many people underwater on their mortgages, and with the elevated unemployment that we have, it is really hard to know what exactly you can do to prevent foreclosures from occurring. Perhaps what the program has done is it has kind of drawn out the process. Whether or not that is a good thing or a bad thing I think is up for legitimate debate. What we are seeing, I think, as this HAMP program continues, is we are somewhat seeing the playing-out of the inevitable, which is that although it is slow in the process, these are still homes that are (for the most part) going to be hard to prevent from going into foreclosure or some sort of distress sale.