Housing affordability has improved significantly due to the fall in both interest rates and home prices in the past year, which may be why home sales have stopped declining of late. Does this mean the housing market is beginning to recover? Yes, but only in regions where those prices conform to reasonable personal income or rent multiples.
As of the April stats, the typical existing home cost 3.4 times annual household incomes, while median new-home prices equaled almost 3.8 times family incomes. These are down from the peak of 4.2 times reached in the bubble year 2005, although they remain above the 2.8 figure that prevailed in the 1980s, when housing sold at a brisk pace.
Two housing price surveys highlight why some regions are recovering. The Case-Shiller index that tracks all same-home sales that include jumbo loans in 20 metropolitan areas has fallen 14 percent from Q1 2007 to Q1 2008, whereas the Office of Federal Housing Enterprise Oversight (OFHEO) saw it prices for homes with conforming loan amounts fall just 1.7 percent in Q1. These are homes that require a maximum $417,000 conforming loan amount, hence have lower prices.
The National Association of Realtors (NAR) has a Housing Affordability Index that corroborates this trend. It increased from April 2007 through this February, but has since reversed course as median existing-home prices have begun to rise again along with interest rates.
The index is still at 130, however, indicating that a household with a $60,185 median annual income can afford a home that is 130 percent of the median price, whereas a median household could afford one just 112 percent of the median price in April 2007.
There may be some improving economic factors buttressing the prospects of homebuyers as well, from higher factory orders (read exports), higher labor productivity that is also pushing up wages, and a service-sector in the expansion mode.
LABOR PRODUCTIVITY—So-called non-farm businesses’ productivity increased 2.6 percent in Q1 and is up a huge 3.3 percent in 4 quarters. This means workers are producing more at lower cost, but also making more money. Q1 hourly compensation was up 4.8 percent. Higher productivity raises the standard of living. Sustaining a productivity rate over 2.5 percent means a doubling of the standard of living every 25 years for a household.
ISM NON-MUFACTURING SURVEY—So-called service-sector activity increased almost 3 points in May, mainly due to a 5.5 point increase in new export orders. And this is with its financial services component (read ongoing credit crunch) weighing down the averages.
So given the enormous head winds generated by soaring food and energy prices, with banks cutting back on lending activities, we have to say that the ship of state is weathering this storm fairly well.
But banks’ profits are still hurting from all the credit losses, and new banking regulations are slowly wending their way through the congress. Until those issues are resolved it will still be a bifurcated real estate market, with some high-priced areas in Florida and California taking longer to recover.
As a footnote, it is generally agreed that sloppy underwriting and regulation led to the sub-prime debacle. A new NBER study highlights why. It was in fact those loans sold to so-called “unafilliated” entities that had the higher default rates—meaning hedge funds and so-called ‘shadow’ banking entities not regulated by the Federal Reserve and Treasury Department. So look for greater regulation of financial markets down the road.