House prices are skyrocketing. Is this the Fed’s problem?

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Robert S. Kaplan, chairman of the Federal Reserve Bank of Dallas, nervously scrutinizes the real estate market as he considers the way forward for monetary policy. Home prices are rising at a double-digit rate this year. The typical house in and around the city he calls his home sold for $ 306,031 in June of this year, Zillow estimates, up from $ 261,710 a year earlier.

Several of Mr. Kaplan’s colleagues have similar concerns. They fear the real estate boom will end up looking like a bubble, threatening financial stability. And some fear the big central bank bond purchases may help inflate it.

“It makes me nervous that you have this burgeoning real estate bubble, with anecdotal reports supported by a lot of data,” said James Bullard, chairman of the Federal Reserve Bank of St. Louis, on a call with reporters on Friday. . . He doesn’t think things are at crisis levels yet, but he does think the Fed should avoid fueling the situation any further. “We had so many problems with the housing bubble in the mid-2000s.”

Policymakers don’t have to look far to see prices go up, as housing is getting more expensive almost everywhere. Buying a typical home in Boise, Idaho cost about $ 469,000 in June, up from $ 335,000 a year ago, according to Zillow’s estimate of local home values. A typical house in Boone, North Carolina is worth $ 362,000, compared to $ 269,000. Prices nationwide have risen 15% over the past year, according to data from Zillow, in line with the closely watched S&P CoreLogic Case-Shiller Index of home prices, which has risen. a recording 16.6 percent of the year through May.

Bidding wars frustrate buyers. Agents find it difficult to navigate the fierce competition. About half of small bankers in a recent industry survey said the current state of the housing market poses “a serious risk”To the economy of the United States. Lawmakers and economic policymakers are hoping things will calm down – especially as sparkling home prices could potentially spill over into rent prices, further making affordability worse for low-income families as they face downturn. end of moratoriums on pandemic-era evictions and, in some cases, months of rent owed.

Industry experts say the current spike in house prices was born out of a cocktail of low interest rates, booming demand and supply bottlenecks. In short, it is a situation that many feel acutely with no single policy to blame and no easy solution.

Fed officials face a particularly delicate calculation when it comes to housing.

Their policies certainly help stimulate demand. The Fed’s bond buying and low interest rates make mortgages cheap, causing people to borrow more and buy bigger. But rates aren’t the only factor behind the house price craze. It also goes back to demographics, a pandemic-spurred desire for space, and a very limited supply of new and existing homes for sale – factors beyond the central bank’s control.

“Interest rates are a factor supporting demand, but there really isn’t much we can do on the supply side,” Fed Chairman Jerome H. Powell said in a recent testimony. in Congress.

It is an unattractive prospect to withdraw monetary support to try to curb housing in particular, as it would slow down the overall economy, making it more difficult for the central bank to promote full employment. The Fed’s policy-making committee voted on Wednesday to keep the policy in full support mode, and Powell told a subsequent press conference that the economy was falling short of the target for central bank jobs.

But central bank officials are also monitoring financial stability, so they are watching the price spike carefully.

Demand for housing was strong in 2018 and 2019, but it really took off early last year, after the Fed cut interest rates to near zero and started buying government-guaranteed debt to appease markets at the start of the pandemic. Mortgage rates have fallen and mortgage applications have skyrocketed.

This was in part the point the Fed fought for to keep the economy afloat: Buying a home spurs all kinds of spending, on washing machines, curtains, and kiddie pools, c is therefore a key lever for raising the economy as a whole. Feeding it helps revive struggling growth.

These low interest rates hit just as housing entered an ideal area for society. Americans born in 1991, the country’s largest group by year of birth, just turned 30. And as Millennials – the largest generation in the country – began to think about swapping that elevator-free fifth floor for a house of their own, coronavirus lockdowns took hold.

Suddenly, having more space has become essential. For some, several rounds of government stimulus checks have made down payments more feasible. For others, remote work has opened the door to new markets and domestic possibilities.

Reina and David Pomeroy, 36 and 35, were living in a rental in Santa Clara, California with their children, ages 2 and 7, when the pandemic struck. Buying at California prices seemed like a pipe dream and they wanted to live close to their family, so they decided to move to the Boulder, Colorado area near Mr. Pomeroy’s brother.

They closed at the end of July, and they are moving in a few days. Ms Pomeroy was able to take her job at a remote start-up, and Mr Pomeroy is hoping that Google, his employer, will allow him to move to his Boulder office. The couple saw between 20 and 30 homes and made – and lost – six offers before finally closing the deal, going over their original budget and $ 200,000 above the asking price of $ 995,000 on their new 5-bedroom.

Their experience underscores the other key issue driving prices up: “There isn’t enough inventory for everyone looking,” said Corey Keach, the Redfin agent who helped the Pomeroys find their. House.

The housing supply fell in the residential real estate market after the real estate crisis of the mid-2000s, when construction collapsed thanks in part to zoning bylaws and strict funding standards. Shortages of lumber, appliances and labor have arisen since the pandemic took hold, making it difficult for builders to produce units quickly enough.

“The rapid price appreciation that we are seeing is the Econ 101 happening in real time,” said Chris Glynn, economist at Zillow.

There are early signs that the market could come under control. New mortgage applications have slowed this year and existing home inventories have got up somewhat. Many housing economists believe price increases should moderate later this year.

And while the heady U.S. housing moment has echoes of the run-up to the 2008 financial crisis – the Fed made cheap borrowing allows for ambitious buying, and investors are starting more and more the market – the differences can be even more critical.

Homeowners, like the Pomeroys, have been able to afford the homes they buy more than they were in 2005 and 2006. People who get mortgages these days tend to have excellent credit scores, unlike that earlier era.

And much of the problem in the mid-2000s lay on Wall Street, where banks chopped up and sliced ​​wads of mortgages into complex financial structures that eventually collapsed. Banks held a large chunk of these inventive titles on their balance sheets, and their implosion caused widespread pain in the financial sector that brought an abrupt end to lending – and thus to business expansion, hiring and employment. expenses.

Banks are now much better regulated. But that doesn’t mean that there is no financial stability risk lurking in the current boom.

Soaring house prices could also help keep inflation high. The government measures inflation by capturing the costs of what people consume on a regular basis – so it counts housing expenses in terms of rents, not house prices.

But a skyrocketing housing market is linked to rising rents: it makes it harder for people to own property, which increases rental demand and drives up rents. This can be very important for inflation data, since housing costs related to rents are about a third of a key metric.

So what can the Fed do about it? Officials, including Mr Bullard, have suggested that it might make sense for the Fed to slow down its monthly purchases of Treasury debt and mortgage-backed securities soon and quickly, in order to avoid slashing the debt. unnecessary thumbs up to housing by keeping mortgages so cheap.

Discussions about how and when the Fed will cut back on buying are ongoing, but most economists expect bond buying to slow at the end of this year or early next year. This should push mortgage rates higher and slow the booming market a bit.

But borrowing costs are likely to remain low by historical standards for years to come. Long-term interest rates have come down even as the Fed plans to cut its bond purchases as investors are increasingly gloomy about the outlook for global growth. And the Fed is unlikely to raise its key interest rate – its most powerful tool – far from its lowest level anytime soon.

Ideally, officials would like to see the economy return to full employment before rates hike, and most don’t expect that time to come until 2023. They are unlikely to speed up the plan just to cool it down. housing. Fed officials have argued for decades that bubbles are hard to spot in real time and that monetary policy is not the right tool to burst them.

For now, the boom in your local real estate market will likely be on its own, meaning that while first-time homebuyers will end up paying more, they will also have an easier time financing it.

“We felt a little more comfortable paying more for the house to ensure low interest rates,” Pomeroy said, explaining that they could have compromised on the amenities they wanted but did not.

“The interest rates are so low and the money is cheap,” he said. ” Why not do it ? “


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