Housing May Have
Finally Turned Around
in 2012
The Atlanta Fed's Kristopher Gerardi and Jessica Dill discuss the encouraging trends and persistent headwinds in the U.S. housing market in 2012.
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After six years in the doldrums, the U.S. housing market finally appeared to reach a turning point last year. Several key indicators trended up, including house prices, home sales, and construction activity. Despite these and other encouraging trends, the road to recovery is long. The housing market still faces numerous headwinds, including tight lending conditions, slow economic growth, and high unemployment. In addition, millions of homeowners are still "underwater," meaning they owe more on their mortgages than the value of their homes.
Nevertheless, many indicators were at least moving in the right direction at year's end. The general consensus among housing experts, including those at the Atlanta Fed, is that the market ended 2012 on the mend and was finally poised to act as a tailwind to economic growth. Indeed, residential fixed investment was one of the contributing factors to the 2.2 percent increase in real gross domestic product in 2012. The recovery under way in housing engages what has typically been a powerful engine of recovery, even if not at full throttle.
By mid-2012, house prices had become a bright spot in the economy—a welcome development after suffering a 30 percent decline from their 2006 peak. National home price indexes, including the closely watched S&P/Case-Shiller House Price Index, began to show annual gains in June (see chart 1). That increase sparked a six-month run of year-over-year increases in home prices, lending support to the claims that house prices had finally reached a bottom.
Rising prices are a key ingredient to the housing market recovery, an improvement that has been slow to manifest. According to Atlanta Fed research economist and associate policy adviser Kristopher Gerardi, a sustainable increase in home prices could help fend off several headwinds plaguing housing markets, including the negative equity problem. Falling home prices and negative equity damaged household balance sheets and sapped an important source of housing demand by preventing current homeowners from "trading up" to larger or more expensive homes. Rising prices more generally help boost consumer confidence and spending through the so-called wealth effect (see the video).
Other housing indicators, including home sales and construction activity, have also shown gains. The National Association of Realtors (NAR) reported that existing-home sales totaled 4.65 million in 2012. Sales of new homes, tracked by the U.S. Census Bureau, ended the year on a positive note. An estimated 367,000 new homes were sold during the year, the most since 2009.
Meanwhile, construction activity also improved, albeit from depressed levels. Residential construction was up 37 percent in 2012 from the previous year. It remained low by historical standards, which contributed to the tight supply of homes seen in some markets. Indeed, a smaller supply of homes for sale contributed to the price increases in 2012. The inventory of existing homes for sale totaled 1.82 million in December, the NAR reported. That figure amounted to a roughly 4.4-month supply, the lowest since May 2005.
In addition to still-weak construction activity, other factors helped hold down the supply of new homes. Many potential sellers were waiting for house prices to increase further, and millions more were still underwater.
To support the housing recovery and stimulate economic growth more generally, the Federal Reserve announced in September that it would purchase mortgage-backed securities at a pace of $40 billion per month. Those purchases, along with the Fed's previous large-scale asset purchases (LSAP), were intended to put downward pressure on longer-term interest rates and support the housing recovery by encouraging people to finance home purchases with mortgages.
Mortgage interest rates had trended downward for several years. The average interest rates on 30-year and 15-year fixed-rate mortgages reached historically low levels in the latter part of 2012. Low rates, combined with lower prices, helped make homeownership more affordable than it had been in decades. However, tight lending conditions and still-weak household balance sheets meant that existing homeowners were the biggest beneficiaries of the low rates. Refinance activity was strong in 2012, which allowed those homeowners to free up precious disposable income. Meanwhile, mortgage applications for home purchases came in at a slow pace. Mortgage lenders tightened standards in 2007 and had yet to ease them significantly. Borrowers with lower credit scores and smaller down payments were the most affected by tighter standards.
The year 2012 may have marked a turning point for housing markets, but the recovery still faced several risks. The tight credit standards combined with a still-weak economic recovery suppressed demand for housing. Further, the weak job market and depressed home values mean that the risk of foreclosure remains high. Although the pace of foreclosures peaked in 2010 and has decelerated in many markets, a steady stream of foreclosures continued to work its way through the pipeline. According to data from LPS Applied Analytics, about 3.3 percent of all first liens were in foreclosure as of December 2012—slightly below year-ago levels. The share of all first liens that were seriously delinquent (90 or more days past due, plus foreclosures) stood at 6.4 percent—also slightly below year-ago levels (see chart 2).
The Southeast was hit hard by the bursting of the housing bubble and the Great Recession. The pain was especially acute in markets that experienced a dramatic run-up in construction and home prices during the boom years. Since the slump, the region's housing markets have recovered at a slower pace than the nation's.
Much like the housing recovery elsewhere in the nation, progress in the Southeast has been uneven. Some markets last year were still exhibiting early signs of stabilization, while others were experiencing a more solid recovery. The south Florida market, for instance, proved to be a bright spot in the region as the year ended. Among other factors, sales of condominiums and single-family homes in the area benefited from strong demand from foreign investors.
Feedback from the Atlanta Fed's monthly poll of residential brokers and builders supported the claim that southeastern housing markets were recovering. According to the December poll, brokers and builders ended the year with positive reports of increasing sales, declining inventories, and rising home prices.