Housing market: household formation is the most “under-reported” factor
Bill McBride, author of the economics blog Calculated Risk, said there is a key reason why growth in rents and home prices are slowing amid the US housing correction unfolding today.
In a live Twitter space hosted by Fortune Magazine on Friday, McBride called it the most “underreported” factor.
What is that? Household formation – both due to its acceleration amid the COVID-19 pandemic and its current slowdown.
Last year, “the housing price boom made sense for a number of reasons,” he said, given that many millennials were aging into homebuying age. a house. “But what was surprising was the rapid increase in rents at the same time, which means that we are getting demand for both buying houses and renting.”
It was a puzzle that McBride called the “domestic mystery” in a series of blog posts. In an article published in May, McBride cited a paper by researchers at the Federal Reserve Bank of San Francisco and another by Federal Reserve economists drawing a parallel with the rise in popularity of remote working amid the pandemic and a dramatic rebound in household formation soon after an initial shock from when COVID-19 first hit the United States
While Census Bureau data shows the number of households initially fell in 2020, McBride wrote that it also shows the number of households rose sharply in 2021 and the number of people per household fell.
“Was this a one-time increase in household formation as the pandemic subsided? Or will we see further increases in household formation even with low population growth (perhaps due to an increase in working from home)? This is a key housing issue,” McBride wrote. “I suspect household formation will slow significantly, reducing pressure on demand.”
Recently, the Federal Reserve Bank of San Francisco released an economics letter titled “Remote Work and Housing Demand,” which showed that remote work was driving more than 60% of the surge in housing prices on the US housing market. This study “really helped to understand what happened,” McBride said.
While rent and house prices are still up from 2019 levels, price growth is slowing and beginning to decline as the Federal Reserve’s fight against inflation takes its toll and mortgage rates swing now around 7%.
During the pandemic housing frenzy, rising home prices also put pressure on the rental market, crushing renters and first-time buyers as prices hit record highs. But now, with higher mortgage rates tempering demand to buy homes, McBride doesn’t think that will translate to even more pressure on the rental market.
“With low household formation, I don’t think that will happen,” he said.
Now, as the dust settles from the pandemic, “what we’re seeing is household formation really slowing down dramatically,” McBride said.
“It’s completely because we’ve had this huge increase in household formation primarily due to working from home,” McBride said. “That’s why rents don’t explode more with high mortgage rates. In fact, everything cools down because household formation cools down.
However, while the rise of working from home was a “big driver”, McBride added that he doesn’t think it’s “going to reverse”. I’m not saying that.
“But what we’re seeing is rent growth slowing down and slowing down quite sharply,” he said.
This slowdown in household formation, combined with high mortgage rates, is compounding the impacts on housing demand, which could help explain how quickly and sharply house prices are starting to correct, especially in the markets. of Western housing that have become ground zero for the pandemic real estate frenzy. . These include Boise, Idaho; Austin, TX; and Salt Lake City, Utah.
Meanwhile, McBride noted that a record number of housing units are under construction and are expected to come online next year, which could also have big supply-versus-demand implications.
“So we’re going to see some very unusual dynamics,” he said. “We’re going to see a slowdown in both home buying and apartment renting.”