Homebuilders sent two-by-fours to the Fed Chair in the early '80s in order to get the central bank to relax its inflation fight. The inflationary spike that began a decade earlier was tamed by the 1981 recession.
The Federal Reserve fights inflation with housing. This is how it goes. The central bank applies pressure on mortgage rates. Existing home inventory goes up and home sales go down. Homebuilders begin to reduce their production. Demand for both commodities and durable goods falls. The economic contraction helps to rein in inflation by spreading throughout the economy.
The Fed raises rates to fight inflation the most often. The leading indicator for this type of recession is housing, according to Bill McBride. Housing is not the target but it is the target.
The chain of events has begun.
The U.S. housing market has already been pushed into a sharp slowdown due to the jump in mortgage rates. Some economists call it a correction while others call it a recession. On a year-over-year basis, mortgage applications are down in comparison to last year.
The National Bureau of Economic Research stated that a housing recession is good news for the inflation fight. He doesn't think we're in a recession at the moment, but he does think that the Fed could cause one. He says that the housing market is slowing.
Home building is one thing standing in the way. On a year-over-year basis, sales of single- family homes are down while starts are down. Homebuilders aren't done yet. Over the past year, a combination of supply chain constraints and an eagerness to cash in on the housing boom led homebuilders to ramp up production vastly. A record number of U.S. homes are being built. If builders and contractors stay busy, there won't be a spike in construction job cuts.
There are a record number of homes being built in the U.S. Rick Palacios Jr., head of research at John Burns Real Estate consulting, tells Fortune that there will be more cold water on the housing market.
"You can make a strong case that the last 10% of home price appreciation was purely aspirational and irrational, and that will come off the top really fast," Palacios says. We're all seeing that right now.
John Burns predicts a dip in US house prices and a Fed-caused recession. There's a reason. The failures of the 1970s have taught the Fed to not relent until inflation is slayed.
They messed up when they read Paul Volcker's article. The psychology of inflation will get out in front of you if you have this red-light-green-light mentality.
Supply chain constraints and labor shortages prevented a greater ramp up in homebuilding. We could have gotten a housing bust instead of just a housing correction.
It was luck that builders couldn't add as much supply as they wanted in real-time. We would've oversupplied the market if they'd done that. Right now, we are in a different place. The supply chain made it hard and put a governor on it, but now we're glad it happened.
The research paper "Housing Is the Business Cycle" was published by Edward Leamer in 2007. The Great Recession of 2007, which was caused by a bursting housing bubble, was one of two recessions since then. Nine out of the past 12 recessions have been preceded by a housing downturn.
The exceptions weren't caused by the Fed. The housing recession began long before layoffs or the actual recession hit. If we are headed for a recession, it could take us some time before unemployment starts to rise.
Mark Zandi of Moody's is of the opinion that the Fed-caused recessions are caused by the contraction of the economy that is sensitive to interest rates. It's housing that does it. He expects a 45% chance of a recession over the next year. He predicts that the U.S. will not see a recession and that house prices will stay the same. If a recession hits, house prices in overvalued markets could fall as much as 20%.
Why is there a reluctance to predict a decline in house prices? Home prices are sticky because home sellers don't want to give up gains. During most recessions, US house prices increase.
This time might be different. The boom in U.S. house prices was detached from fundamentals. This is the third time in the past fifty years that US home prices have become detached from economic data. It happened during the housing boom of the '90s.
The previous two housing booms resulted in falling home prices, but they were different. The '00s housing bubble led to falling home prices for a number of years. During the '70s boom, home prices only dropped for a short time.
Developers built a lot of homes, but they weren't enough. By the end of the decade, the U.S. home prices had gone up 161%. There was a wave of inflation that happened during that time. The Federal Reserve raised interest rates to tame inflation. In 1982, those spiked mortgage rates pushed the housing market into a brief year-over- year nominal price decline. It wasn't a house crash. After several years of strong income growth, housing was able to return to a balanced market by the mid 1980's.
It is likely that we will see something similar to what happened during the early 80s. He predicts that the U.S. house prices won't go up over the next year. He thinks that there will be a period of "stalled" nominal house price growth and falling "real" house prices. The "fundamentals" would return closer to historic norms if that happened.
What does that mean for the two parties? It's going to be friendlier for home shoppers.
"I think we get back to people having open houses and nobody showing up."
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