How the Federal Reserve is Helping the Housing Market

At first glance, it might seem intuitive that rising interest rates will have a negative effect on the housing market. However, with a little more thought, the opposite is more likely to be true. Interest rates rising today and for the next several months is probably good for the housing market. Specifically for home buyers and real estate agents in need of more inventory on the market and at more stable prices. Is the Federal Reserve the answer?

In his remarks to reporters on June 13, Federal Reserve Chairman Jerome Powell said…

“Obviously, we are watching that quite carefully [prices and mortgage rates]. … It’s a very tight market. … So, it’s a complicated situation and we watch it very carefully. … We need to get back to a place where supply and demand are back together and where inflation is down low again, and mortgage rates are low again.”

Realistic Mortgage Rates Return

Historically low interest rates for the past couple of years have enabled housing prices to soar at an astonishing rate. Desperate buyers bid up prices to unaffordable levels in a race to get a purchase locked in before prices went even higher. At the same time, potential sellers delayed listing houses on the market in hopes that prices would go higher. That is all ending now with higher and still rising interest rates, which when combined with peak prices have drawn an unaffordability line in the sand that many potential buyers cannot cross.

That means fewer buyers in the market – which also means lower demand. At the same time, prices are close to the peak in this market cycle. For sellers that want top dollar, now is the time to sell. That means more inventory is entering the market. With rising interest rates, we can expect supply and demand to move towards a more balanced market.

Should barely qualified buyers be frightened out of the market with interest rates now averaging around 6%? The answer is NO, but professionals such as real estate agents and mortgage brokers probably need to help first-time millennial buyers understand that 6% is a realistic interest rate. Here is the story of how we are returning to realistic interest rates…

The industry is coming off historically low-interest rates. In December of 2020, thirty-year mortgages hit a low of 2.68%, according to Freddie Mac. For a brief time in 2021, mortgages were being written at a slightly lower rate of 2.65%.

The basic question many millennials are asking today is should we buy a home with interest rates as high as they are? The industry needs to keep today’s interest rates in perspective. Too much emphasis is being placed on modestly rising interest rates. Many baby boomers remember the 18% mortgage rates of the 1980s –and 8% during the 1990s. We didn’t even see 6% 30-year mortgages until 2002. Historically, people would probably say today’s 6% is a good mortgage rate. However, someone who bought a home last year at 2.65% might not think 6% is a good rate today. The message is that during the pandemic, mortgage rates hit historic lows. We will probably never see interest rates that low again in our lifetimes. A 6% interest rate is a realistic average going forward.

Why Housing Prices Should Stabilize

This is not just a story about historically low interest rates that are now becoming realistic. It is also a story about the unprecedented rise in home prices. It’s about how fast we got here. We’ve seen month-over-month price increases that are close to what we expect year-over-year. We’ve seen year-over-year price increases consistently in double digits and often in the high 15% or 18% range and one or two regions that hit above 20%. The fact is it only took 24 months for U.S. home prices to soar a staggering 37%. Few if anyone is expecting a housing crash soon but for comparison, the two years before the housing crash of 2008, saw prices increase by (only) 29%. The recent increase is a historic record for at least the past two generations of home buyers.

The inventory problem is getting better, but it is not going to become a fully balanced market in the immediate future. Numbers from the National Association of Realtors say that inventory increased slightly in May to 1.03 million houses. But millennial home buyers need that number to get up towards 1.52 million to 1.93 million units. The trend is already going in the right direction but there are still regions of the country that are at only about 50% of the needed inventory to reestablish a balanced market.

The Federal Reserve Plan Goes Well into 2023

The fed isn’t only trying to improve the housing market. Slowing inflation, watching changes in the supply chain, and keeping interest rates low enough to encourage business growth are also high priorities. June’s interest rate hike of 0.75% was a bold move for the feds. The plan is to watch the economy, as a whole, with plans for several more rate hikes depending on evolving conditions – maybe 0.5% next month and then tapering down to 0.25% or maybe no change in some months. Interest rate changes are nothing new. It just feels new when the policy changes from near 0% to multiple jumps of 0.5% and 0.75%.

Right now, inventory remains very tight. Some regional markets might even continue to see prices rise for another month or so. Sellers probably have no more than two months remaining at the pinnacle of the market peak. As the fed plan continues to roll out, we should soon expect to see month-to-month price increases at or near 0%. But that doesn’t mean a swarm of buyers will soon be back in the market. As interest rates continue to increase, higher monthly mortgage payments will have the same effect as rising prices have had in the recent past. Affordability will continue to limit the number of buyers able to qualify in this emerging market. Federal Reserve policies operate in broad strokes. The housing stabilization plan is to reduce buyer demand while increasing seller inventory until balance returns to the market.

What do you think of the Federal Reserve’s plans for interest rates? Please leave your comments.

Also, our weekly Ask Brian column welcomes questions from readers of all experience levels with residential real estate. Please email your questions, inquiries, or article ideas to askbrian@realtybiznews.com.

Brian Kline

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