The prospects for housing are good, but affordability is a growing concern

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With soaring home prices and rising mortgage rates, the housing industry has now reached a “tipping point,” and for many Americans, the challenges associated with expensive homes are unlikely to end anytime soon.

That’s according to a new report, The State of the Nation’s Housing in 2022, released Wednesday by the Harvard Joint Center for Housing Studies. The report addresses the economic factors shaping the current landscape for home buying and renting.

And while there is some positive news — rising prices are a boon for existing homeowners, rising interest rates will cool the market — the general consensus is that affordability remains a serious problem in the US, even if housing itself looks bright.

what exactly is going on

In short, both house prices and rents have skyrocketed in 2021. The report states that house price inflation actually hit an all-time high of 20.6 in March 2022, surpassing the previous all-time high set last August. The report goes on to note that “the rise has been widespread, with 67 of the top 100 housing markets experiencing record high rates of appreciation at some point in the past year.” Finally, the report called the recent trend in house prices “unprecedented”.

Rents also rose, rising 12 percent year-over-year across the country in the first quarter of 2022.

Photo credit: Harvard

According to the report, all of this is happening thanks to “serious supply shortages.”

Curiously, the report notes that while home prices have increased over the past year, “historically low interest rates” have offset those increases, meaning “home buying remained relatively affordable in 2020-2021.”

But thanks to rapidly rising interest rates and mortgage rates, that is now changing.

Who suffers the most?

The report explains that the rise in interest rates between December and mid-April (and they have continued to rise since) is equivalent to “a 27 percent rise in house prices” for buyers.

The result is that first-time home buyers are currently the hardest hit.

“At today’s prices, the down payment a first-time buyer would need to pay for a home at the median price – typically 7.0 percent of the sale price – was $27,400 as of April 2022,” the report reads. “Without help from family or other sources, that requirement alone would exclude 92 percent of renters, whose average savings are only $1,500.”

Alternatively, rising prices have been “a boon to current homeowners,” many of whom have managed to tap into some of their real estate wealth thanks to low interest rates.

The bottom line is that this situation has widened the wealth gap between homeowners and renters.

Why can’t the new building solve the problem?

The report notes that there is a “strong pipeline” of new construction that should ultimately “help slow house price and rent increases.” In fact, new construction hit a 30-year high in 2021.

For several reasons, new construction alone will not necessarily make the residential landscape more manageable or affordable in the short term. First, most new homes are being added at the higher end of the market, the report notes. It’s a fairly common phenomenon, and new homes eventually become more affordable homes as they age, but it still means new builds won’t solve the problem immediately.

Second, there is an ongoing labor shortage that has been exacerbated by the pandemic.

Finally, local land use regulations make it difficult to construct new, densely built housing. Some places, like California and Massachusetts, have chosen to force local communities to accept higher-density housing, the report notes. So far, however, “only a minority of states have taken steps to override local land-use regulations that limit the size, location, density and affordability of new housing.”

The report concludes that reforms to enable higher density housing are “essential”.

What about inflation?

The biggest economic story of 2022 was inflation, which is now at its highest level in four decades. The Fed’s attempts to curb this inflation are the reason interest rates and mortgage rates have risen.

According to the report, inflation has “increased the pressure” on cash-strapped households, making it harder to afford housing and driving up the cost of materials to build a home.

What does the future hold?

Finally, while affordability remains a major challenge for US housing, the report concludes that assuming the Fed can control inflation, “the near-term outlook for housing demand is broadly positive.” Challenges will continue and it will take time for new construction to catch up with demand, but the report ultimately shows the housing industry is not headed for disaster.

“Demographic changes are favourable, unemployment is low and wage growth remains strong,” says the report. “Supply-side conditions are also encouraging as supply chain delays ease and a record number of homes are expected to be completed in the coming months.”

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