Economic forecasts for the fourth quarter have been raised substantially in recent weeks, reflecting larger gains in international trade and a strong holiday shopping season. Expectations for 2011 have also been increased, particularly in light of the tax compromise reached between the Obama Administration and Republican leadership, which will extend lower tax rates on dividends and capital gains. The deal also includes a temporary reduction in “payroll taxes”, which will provide at least a slight boost to consumer spending during the first half of 2011.
Unfortunately home sales and new home construction are not sharing in any of this good fortune. Earlier stimulus programs pulled home sales forward into late 2009 and early 2010, which is depriving the market of the pent up demand that usually gets the recovery process rolling. The recent controversy surrounding the foreclosure process is likely delaying the recovery even further by lengthening the amount of time it will take to clear the mountain of foreclosures built up following the bursting of the housing bubble. If all this were not enough, mortgage rates have risen sharply following the announcement of the tax compromise.
We now believe home sales will show little to no improvement through the first half of 2011. With housing demand dead in the water and an onslaught of foreclosed properties coming to market after the start of the year, home prices are likely headed much lower. We expect the various measures of home prices to fall through the middle of next year. The closely watched S&P/Case-Shiller Home Price 10-City Composite Index is expected to fall eight percent by the middle of 2011, which would bring the peak-to-trough decline in this series to 34.4 percent. Declines in other price measures will likely be less dramatic, but will continue through at least the first half of the year. Lower home prices will push even more homeowners into a negative equity position, which means credit quality will remain a problem well into the New Year.
While our near term expectations have been reduced, we still believe a genuine recovery in housing will begin in 2011. Stronger job growth is expected to gradually lift household formations, which should lift home sales during the second half of 2011.
We have once again scaled back our estimate for new home construction for the next two years. Competition from foreclosures and other distressed transactions will keep builders largely on the sidelines until they have a better idea as to where prices will settle. With new home demand stymied through much of the peak home buying season, single-family starts are likely to total just 515,000 units in 2011. Even that level represents a healthy increase from the recent pace of around 442,000 starts over the past six months and marks an 8.6 percent increase from 2010 as whole.
Overall starts will likely total 680,000 units next year, with multi-family starts climbing around 40 percent. New apartment communities will account for almost all of the increase. Demand for apartments has been rising steadily for the past year, led by the resurgence in leasing by younger tenants, reversing the trend from a decade ago that saw many young people desert apartment communities for condominiums and townhomes.
Our outlook for 2012 has also been reduced, with starts expected to total 840,000 units instead of the 900,000 we had hoped for earlier. Housing starts should still move back above the key 1.0 million unit level in 2013 and continue to move higher in the following years. In many ways the stage is being set for a dramatic upswing in residential construction. Inventories of new homes have fallen to their lowest level in over 40 years and population growth and household formations are once again beginning to increase. The underlying demand for new homes in normal times is roughly 1.5 million homes, reflecting 1.2 million new households and replacement demand of 300,000 units. Vacation and second home demand can sometimes lift that a couple hundred thousand units higher, but demand for second homes typically does not improve until prices are rising on a consistent basis.
Unfortunately, all of the government involvement in the housing market has pushed the timing of a recovery further out. Tax credits for first-time homebuyers and trade-up buyers are now depriving the market of much of the pent-up demand that tends to drive sales up in the early stages of an economic recovery. The huge tide of foreclosed properties is another major hurdle, representing both competition for new homes and also a drag on the finances of potential buyers. The net result is likely to be a slow climb back to a 1.5 million (long run trend) unit pace sometime around the middle of the decade.
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Full report: Housing Data Wrap Up: December 2010
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