Housing affordability crisis worsens amid soaring prices and rising rates

The US housing market is facing a severe affordability crisis as home prices have skyrocketed to record highs and mortgage rates have climbed to two-decade highs. According to an industry executive, incomes would have to jump 55% to make the current market affordable for the average buyer.

Home prices outpace income growth

One of the main factors behind the housing affordability crisis is the rapid appreciation of home prices in the past year. According to the latest data from the National Association of Realtors, the median existing-home price for all housing types in August was $356,700, up 14.9% from August 2020 ($310,400). This marks 114 straight months of year-over-year gains.

Housing affordability crisis worsens amid soaring prices and rising rates
Housing affordability crisis worsens amid soaring prices and rising rates

However, income growth has not kept pace with the rising home values. According to the Bureau of Labor Statistics, the average hourly earnings of all employees on private nonfarm payrolls increased by only 4.3% from August 2020 to August 2023. This means that many potential buyers are priced out of the market or have to stretch their budgets to afford a home.

Mortgage rates add to the burden

Another factor that has eroded housing affordability is the increase in mortgage rates. According to Freddie Mac, the average rate on a 30-year fixed-rate mortgage was 7.99% in September 2023, up from 6.23% a year ago and 3.51% in February 2020, before the pandemic hit.

Higher mortgage rates mean higher monthly payments and lower borrowing capacity for home buyers. For example, a buyer who could afford a $400,000 home with a 20% down payment and a 3.51% interest rate in February 2020 would have to pay $1,437 per month. The same buyer would have to pay $2,367 per month for the same home with a 7.99% interest rate in September 2023, an increase of $930 or 65%.

Alternatively, the buyer would have to lower their price range to $254,000 to keep their monthly payment at $1,437 with a 7.99% interest rate. This means they would lose $146,000 or 36% of their purchasing power.

Extreme scenarios to restore affordability

According to Andy Walden, ICE vice president of enterprise research, the current housing market is so unaffordable that one of three extreme scenarios would have to play out for it to return to pre-pandemic affordability. He told CNBC in an interview this week that one of those hypotheticals would be a sharp spike in US incomes.

“If you look at home affordability itself, and what it would take to normalize the market today, it’s a 35% correction in price, or a 4% decline in rates, or a 55% growth in income,” Walden said. “Some combination of those. Those are massive movements we’re talking about, and none of them are going to happen in a vacuum, and none of those one single factors are going to make the move.”

He said there’s a large potential for movement, but the lack of inventory is keeping prices elevated when they should be pulling back amid rising rates. Walden added that the latest housing data was “red-hot” coming into August, and buying power remains down about 6%.

“Demand has hit its lowest point during the pandemic over the last three weeks, certainly constraining the market and affordability and its lowest level in 40 years,” Walden said.

He also said that higher mortgage rates have discouraged sellers from listing their homes, creating a gridlock in the market.

“That same interest rate lever that’s driving down demand, it’s pulling down supply,” Walden said. “We’re actually 8% below where we were last year in terms of supply. 70% of markets are down year-to-date on the seasonally adjusted basis. It is causing that gridlock in the market.”

No easy solutions

The housing affordability crisis has no easy solutions, as it is driven by multiple factors that are beyond the control of individual buyers or sellers. The Federal Reserve has signaled that it will start tapering its bond-buying program later this year, which could put more upward pressure on mortgage rates. The supply shortage is unlikely to be resolved anytime soon, as new construction faces challenges such as labor shortages, rising material costs and regulatory barriers.

Some experts have suggested that policy interventions such as expanding affordable housing programs, providing down payment assistance or reforming zoning laws could help ease the crisis. However, these measures would require political will and coordination among various stakeholders at different levels of government.

Meanwhile, buyers who are still hoping to enter the market may have to compromise on their preferences or wait for better opportunities. Sellers who are looking to cash out may have to factor in the higher costs of buying or renting another home.

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