Is the Real Estate Market Gearing Up for Another Major Correction?
By Kelly Giraud, PhD (Resource Economics)
This morning, I saw yet another news article online from some so-called expert, predicting a “correction” in the real estate market. As an economist, I find this is incredibly frustrating. Let me tell you why.
The short answer: we are in a global economy and there are too many unpredictable variables that impact our economy from around the world. Because of this, economic forecasts are notoriously wrong. There is still a lack of inventory and an abundance of buyers. We have a long, long way to go before the housing market runs a risk of a major correction.
The long answer: let’s think about supply and demand.
The United States demands about 2 million new housing units each year. Construction was falling short of that for a few years before COVID, and the pandemic made that shortage worse. Freddie Mac estimated a shortage of 3.8 MILLION housing units in the U.S. a year ago.
Interest rates have come up sharply since this time last year. That has slowed the rapid increase in prices. This would tend to decrease demand since many buyers are now priced out of the market.
There are two opposing forces here – a demand overload because there aren’t enough housing units, and a decrease in demand because mortgage rates have gone up. You probably have a sense of which effect is stronger, right?
If you get a new listing today in decent condition and priced right, how long would it sit before going under contract?
Did you answer in months or minutes?
Some of us remember the hiccup in the early 1990’s and the major market correction in 2008. A lot of people look at the graph of average sales prices of homes sold in the U.S. and start to worry. If prices went up so fast, there must be some sort of bubble. Right? Let’s think about it.
In the early 1980’s, 30-year mortgage rates went up to 18%! Thankfully, they came down, and buyers came out. Builders responded a little too enthusiastically and built more than enough housing to meet that demand. Then there was a recession and unemployment increased. Prices made a correction, but mostly stopped increasing so quickly. The stock market declined significantly, but housing prices remained relatively stable.
We saw prices start to increase rapidly in the early 2000’s. This happened for a few reasons, but a big one being the subprime (=risky) mortgage market domination. It doesn’t take a rocket scientist (or economics professor) to figure out that was a recipe for disaster.
Today, there are regulations to keep the mortgage industry much safer. Builders would love to increase construction, but the labor shortage and supply chain issues with building materials is slowing that down. For a “housing bubble” to exist, there must be some sort of overcompensation from some sector, and we just aren’t seeing it.
With 30-year mortgage rates getting close to 6%, our buyers are having an even tougher time. Believe it or not, there is some good news in all this muck. It was easy to get used to the too-good-to-be-true 3% mortgage rates, but adding those to a housing shortage put so much upward pressure on prices. The 6% mortgage rate is what we need to SLOW DOWN the rapid increase in housing prices. If we can take a step back and look at history, we see that 6% is really not that high compared to historic figures.
Yes, 6% feels painful and that rate is pricing a lot of buyers out of the market. The good news is that mortgage rates move around more than housing prices. Which is better for a buyer? High housing prices, or high mortgage rates? It’s generally easier (and less expensive) to refinance a mortgage than it is to move.
Do I see a housing bubble that will burst? I can’t predict the future, but what I see today is that there is still a severe housing shortage, and builders still can’t get the labor or materials to build enough to compensate. For a bubble to burst, there would need to be too many sellers that need to sell and not enough buyers. We are nowhere near that. We needed something to release that incredible pressure in the market without causing a painful correction. An increase in mortgage rates may be the most gentle way to do that.
One final note: most states have laws that prohibit real estate licensees from predicting the future values of property (in New Hampshire, it is RSA 331-A:26). I don’t know exactly what the future market is going to look like; none of us do. Maybe that is why the law is there.