Housing Is Already in a Slump. So It (Probably) Can’t Cause a Recession. | Free Press from USA

Housing Is Already in a Slump. So It (Probably) Can’t Cause a Recession.

Housing Is Already in a Slump. So It (Probably) Can’t Cause a Recession.

The United States has had 11 recessions since the end of World War II. All but two were preceded by a big decline in the housing market.

Inside that bit of trivia lie some fundamental insights into housing’s outsize role in the business cycle, along with clues to suggest that the economy is on firmer footing than the increasingly pessimistic forecasts make it seem. The gist is this: The United States may or may not enter a recession this year, but if it does, housing is unlikely to be the cause, because it never really recovered in the first place.

“Housing is not in a position to lead this thing down,” said Edward Leamer, an economics professor at the University of California, Los Angeles.

How much it can help prolong the overall recovery is another matter. Home sales and prices have been sluggish in the face of rising interest rates. Still, the pace of construction, combined with pent-up demand from young adults, suggests that the sector should at least remain stable in the face of uncertainty elsewhere.

Why is housing so often a focus of anxiety as economic expansions run their course? Here are a few reasons.

Even though housing does not account for all that much of the economy, its role in recessions is huge, because it is highly cyclical and sensitive to interest rates. Think of expansions and recessions as the cycle of things that go up and down a lot. Housing is a big determinant of where that cycle is headed because, unlike many other sectors, it has wide swings.

The housing sector accounts for as little as 3 percent of economic output during recessions and about twice that during booms. Other pieces of the economy are much bigger, but they don’t change nearly as much from boom to bust. Government spending, for instance, has hovered between 17 percent and 20 percent of the economy for decades. The three-percentage-point swing is about the same in each case, but government accounts for much more of the economy. Translation: Housing punches way above its weight.

As a result, while housing has never accounted for more than 7 percent of total output, it has on average accounted for about a quarter of the weakness in recessions since World War II, according to a 2007 paper by Mr. Leamer titled “Housing IS the Business Cycle.”

After housing, the sector that has historically been second most important to recessions is consumer durables, or expensive purchases like cars, furniture and appliances. Those are often connected to the housing market’s prosperity because people usually buy other things when they purchase a home.

When economists talk about a recession in housing, they largely refer to construction, not home prices. Most of the industry’s contribution to annual gross domestic product lies in residential fixed investment, a category composed almost entirely of the building of single-family homes and apartment and condominium buildings (along with a small amount of home improvements and renovations).

Rising home prices help the economy in small but important ways, like making people feel richer and building up home equity that owners can tap and spend elsewhere. But increased spending from people feeling richer is not nearly as important as the pace of home sales and the volume of construction, since both of those create many jobs — for people like real estate agents and mortgage brokers on the sales side, and the architects, construction workers, electricians, plumbers and others who design and build new homes.

Home buying is weak and getting weaker, so that could be a concern. But construction is bordering on moribund. Total housing starts grew at an annual rate of 1.2 million a year in January, more than double the recession-era low of less than 500,000, but still well below an average of 1.5 million from 1990 to the start of the housing bust — despite an expanding population.

Clearly the need for housing is there, so why aren’t builders building more? That is a confounding question.

During conference calls to announce their earnings, publicly traded builders like D.R. Horton and PulteGroup have said much the same thing as real estate agents, which is that buyers are put off by higher prices and creeping interest rates. Many builders also cite local regulations that make it harder to build homes in denser areas closer to jobs, and higher labor costs in a tight job market.

The overall message is that builders cannot build homes at the prices people want in the places people want them, so they aren’t building much at all.

The largest demand for housing is at the lower end of the market, the hardest to serve profitably, although in conference calls a number of builders said they were shifting some of their building and land buying toward cheaper, smaller homes. This may or may not improve the pace of building.

The result is that the housing sector — the residential construction components of G.D.P., taken together — accounted for only 3.9 percent of the economy in the third quarter, and has helped drag down overall economic output for three quarters.

In other words: Housing is in recession already. It might not get better soon, but it probably won’t get worse.

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