HOME BUILDERS and buyers are feeling hesitant. Residential fixed investment has dragged back GDP growth in each of the past three quarters; in October sales of existing homes were 5.1% below their level a year before and new ones down by 12%. Since March price rises have slowed. As housing has historically been seen as a canary in the coal mine for the American economy, this wooziness is worrying. But it is not yet cause for panic.
The wobble invites two questions. Why is it happening? And does it matter? Answering them gains importance as chatter about a possible economic slowdown gets louder. The corpse of the last yellow finch is still fresh. In August of 2007 Edward Leamer of the University of California, Los Angeles highlighted the predictive power of residential investment and home-building when forecasting downturns, in a paper called “Housing is the Business Cycle.” Eight of the ten previous recessions had been preceded by serious problems in housing, he pointed out, before forecasting that “this time troubles in housing will stay in housing”. They did not.
When identifying the causes of what is happening it is better to consider a brew of factors than any single ingredient. Robert Dietz, chief economist at the National Association of Home Builders, refers to five “L”s that have been pushing up builders’ costs and so constraining the pace of new home-building: labour, lots, lending, laws and lumber. Construction workers are scarce, and are therefore seeing faster wage increases than the general workforce. These burdens might not matter so much if the sector were managing to squeeze more from its inputs. But it is struggling to do so. As a result, the incentive to build many new homes has been reduced.
With the possible exception of a 20% tariff on Canadian lumber, which led to a spike in prices this summer, these pressures are not new. For several years they have been used to explain why building has been so slow in the face of strong demand and rising prices (aside from the hangover from over-building in the mid-2000s). Mr Dietz says that for cheaper, entry-level homes, the fixed costs of building are most crippling, which helps to explain why their supply has been particularly squeezed.
Over the summer something else seemed to change. Aaron Terrazas, an economist at Zillow, a price-listings website, has noticed a tilt in favour of buyers. He has seen less evidence of bidding wars; fewer examples of buyers waiving contingencies, such as forgoing the option to pull out if something about the sale goes wrong; fewer multiple offers, and fewer homes that sell for very much more than their asking price. While the priciest points of the market have been chilly for a while, now the bottom end is catching a cold, too.
The next likely explanation is that demand is being constrained by an affordability crunch. House prices are rising nationally just as, according to Freddie Mac (a government-backed mortgage insurer), the effective rate on home loans has risen by 0.8 percentage points since 2017. As Jerome Powell, chairman of the Federal Reserve, pointed out, on average housing is still more affordable than it was before the financial crisis, and mortgages are still historically cheap. But in this case the change matters, and more expensive houses coupled with more expensive mortgages can still weigh on demand.
The buyers most vulnerable to this dynamic are young. Home-ownership rates for those under 35 collapsed following the recession, and although they have recovered a bit since 2016 they are still well below their historical average, and around seven percentage points below their pre-crisis peak. The young are the most likely to buy cheaper, entry-level homes. To buy an average starter home with a 10% down-payment, the National Association of Realtors estimates that a first-time buyer would need to fork out $1,099 per month in the third quarter of this year, $120 more than a year ago.
On November 14th Mr Powell noted the sensitivity of the housing sector to interest rates, and said that he and his fellow monetary-policy makers were watching it carefully. But elsewhere the economy is doing well, particularly the labour market, which is in ruder health by the day. In a speech on November 28th Mr Powell said that interest rates now are “just below the broad range of estimates” of neutral, the level at which they neither speed up nor slow down growth. Although investors interpreted this as a doveish statement, most still expect another interest-rate rise in December, and at least one more next year.
Mr Powell did not seem too concerned about housing, noting that the sector is less of a motor for the economy than it has been in the past. Mr Terrazas warns of overreaction to “any slight news of softness”. For his part, Mr Leamer is relatively relaxed. Although he agrees that the market is cooling, there are few signs of the over-building that characterised the 2000s—if anything, the opposite. “We haven’t built up a mountain that would create a cliff,” he says. Besides, in historical terms the recent dip in housing starts is small. In the four quarters preceding the peak of an economic cycle, housing starts have fallen by 22% on average (see chart). Over the past four quarters home starts have fallen by 2%.
Overall, recent noises from the canary sound less like a cry of distress than a chirp as the atmosphere changes. There are reasons to worry about housing. The fact that a generation is being largely shut out of one of America’s most common forms of wealth accumulation is genuinely troubling. If what is happening in housing is an early sign of a broader decline in consumer confidence, that could spell trouble. And if construction and the spending that accompanies home-building are not driving demand, that may leave the economy more fragile when other stimuli fade. But it is too soon to call this a crisis.