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Eye on the Economy: Housing Trends Down, Slowing Growth
 The employment report for September was quite a mixed bag. Payroll employment rose by only 51,000, but August was revised up substantially and average monthly job growth for the second quarter was a respectable 121,000. Furthermore, the unemployment rate slipped back to 4.6% in September, equivalent to the previous cyclical low registered in both May and June.
Everything considered, labor market indicators are consistent with the evolving slowdown in economic growth (real GDP), but the evidence does not argue for a cut in short-term interest rates by the Fed in the near term — particularly in view of ongoing upward movements in average hourly earnings along with evidence of limited labor market “slack.”
The housing production boom that ran from mid-2003 through early 2006 generated strong growth in employment in this sector (residential builders and specialty trade contractors), and the recent downswing in housing starts and residential construction put-in-place has been taking a toll on this part of the job market since March. But a recent resurgence of private nonresidential construction has generated rapid job growth in that sector, essentially offsetting the falloff in the residential component. This general pattern is likely to persist as the housing downswing runs its course.
The Federal Reserve Is Focusing Hard on the Housing Sector
On Oct. 4, Fed Chairman Ben Bernanke told the Washington Economic Club that the housing market is in the midst of a “substantial correction,” a characterization that certainly sounds more serious than the “cooling” referred to in the September 20 FOMC statement! The chairman went on to say that the falloff in housing construction will subtract about a percentage point from GDP growth in the second half of this year and that the drag on growth is likely to extend into 2007. These comments were refreshingly straightforward and quite explicit, and Bernanke’s estimate of the drag on GDP from the ongoing contraction in housing production is in line with NAHB’s estimates.
Later on Oct. 4, Fed Vice Chairman Donald Kohn delivered an address that devoted a lot of attention to housing. Governor Kohn noted that the adjustment in housing markets has proven to be “more rapid and deeper” than many economists had predicted, and he expressed a good deal of uncertainty about how the adjustment process will “work itself out.” In this regard, he suggested that housing starts may now be “closer to their trough than to their peak,” a proposition that squares with NAHB’s outlook. He also noted that the speed of the necessary rebalancing of supply and demand in housing markets will depend largely on the speed of adjustment to house prices.
The former Fed chairman, Alan Greenspan, also weighed in on the housing downswing during the early part of October. Greenspan suggested that “…we are coming to the end of this downtrend…the worst of this may well be over.”
Home Builder Sentiment Stabilizes in October
The NAHB/Wells Fargo Housing Market Index (HMI), based on large monthly surveys of single-family builders, hit a cyclical high of 72 at mid-2005 and retreated rapidly to a low of 30 in September — the lowest level since early 1991. During that period, the overall HMI was dragged down by systematic declines in its three major components: current home sales, expected home sales and buyer traffic. The downswing also showed up in all major regions of the country.
The HMI for October edged up from 30 to 31, halting the dramatic downslide but leaving this measure of builder sentiment in a historically low range. The stabilization apparently reflected recent declines in mortgage rates and energy prices, along with a strengthening stock market and a good job market. These factors also led to a nice rebound in consumer sentiment during the early part of October (University of Michigan series). It’s also apparent that price cuts and non-price sales incentives provided by builders have helped buoy buyer demand — an essential precondition to a fundamental rebound in housing market activity.
Mortgage Applications Also Firm Up as Home Buying Conditions Improve
Applications for mortgages to buy homes (Mortgage Bankers Association series) peaked out around the middle of last year and then contracted substantially through August of this year — consistent with movements in NAHB’s HMI as well as in measures of new and existing home sales. However, this series perked up a bit in September and held reasonably steady during the first half of October (on a four-week moving average basis).
The recent stabilization of the NAHB and MBA survey measures during the early part of October hopefully signals a near-term bottom for home sales, a process undoubtedly fostered by welcome declines in interest rates and energy prices, along with deepening sales concessions in the markets for both new and existing homes. Indeed, the University of Michigan’s home buying conditions index actually moved up nicely in early October, reflecting a surge in the number of respondents who think that now is a good time to buy because prices are relatively low and good deals are available.
Housing Production Still Is Trending Down, Despite a Recent Bounce in Starts
Housing starts unexpectedly bounced upward in September, rising by nearly 6% from the revised August level. But issuance of new building permits continued to decline in September, falling by 6.3% to a level that stood 28% below the reading a year earlier.
The September bounce in housing starts, in the face of the continuing downslide in permit issuance, reflected a large draw-down of the backlog of unused permits obtained earlier by builders; the draw-down was one of the largest on record. This development possibly was provoked by relatively good weather conditions in some parts of the country, and the starts presumably were based on order backlogs accumulated earlier by builders.
We’re viewing the September bounce in housing starts as a temporary phenomenon that probably will be reversed (wholly or partly) in October. The ongoing slide in permit issuance and the reduced backlog of unused permits are likely to keep seasonally-adjusted housing starts on a declining trend through the balance of the year.
Household Balance Sheets Remain in Good Shape
The Federal Reserve recently released its estimate of the household sector balance sheet as of the middle of this year. In a nutshell, the estimate showed ongoing growth in household assets as well as net worth (assets less liabilities), although at a slower pace than earlier in the economic expansion. The ratio of household sector net worth to disposable personal income fell a bit in the second quarter but remained close to the record level of the first quarter of the year — showing that household finances (in the aggregate) still are in great shape.
With respect to housing, the Fed’s balance sheets show a year-over-year gain of 10.5% in the market value of homes owned by households, a 12.6% rise in home mortgage debt and an 8.7% gain in owner’s equity — to a record $10.982 trillion. The ratio of mortgage debt to the market value of homes moved up to 45.9%, compared with 45.1% at the middle of last year, although neither the change nor the level is of concern at this point.
The “holding gains” on household real estate from mid-2005 to mid-2006 came to nearly $1.7 trillion, although the quarter-to-quarter changes decelerated during this period. A further slowdown is inevitable in coming quarters as house prices continue to slow and possibly even decline to some degree, and lower housing production levels will also take some growth out of household real estate holdings. As a result, the powerful housing wealth effect that’s been propelling consumer spending for several years will be losing strength over time, although the weakening process should be gradual and spread over an extended period.
NAHB Chief Economist David Seiders analyzes the economy from the point of view of the housing market every other week in the free e-newsletter, “Eye on the Economy.” The preceding is a reissue of his Oct. 18 edition. To subcribe to “Eye on the Economy,” click here.
 Attend the NAHB Construction Forecast Conference in Person or on the Web
Don't miss NAHB's fall Construction Forecast Conference for the latest economic news about the housing industry. Join NAHB on Oct. 25 for the Construction Forecast Conference — Fall 2006 in Washington, D.C.
If you can't attend in person, sign-up for the Webcast.
To register for either, visit www.nahb.org/cfc.
 Want to Know the Housing Starts Through 2015?
Find out in HousingEconomics.com’s Long-Term Forecast.
HousingEconomics.com includes downloadable Excel tables featuring the housing starts forecast, GDP, demographics and more.
To learn more, visit www.housingeconomics.com.
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