For release on delivery
9:10 a.m. EDT
March 24, 2022
The Red Hot Housing Market: the Role of Policy and Implications for Housing
Affordability
Remarks by
Christopher J. Waller
Member
Board of Governors of the Federal Reserve System
at
"Recent Fiscal and Monetary Policy:
Implications for U.S. and Israeli Real Estate Markets,"
a conference sponsored by
the Alrov Institute for Real Estate Research, the Coller School of Management,
the New Jersey-Israel Commission, and the Rutgers Center for Real Estate
(via webcast)
March 24, 2022
Thank you, Debra, and thank you to the Alrov Institute and the Rutgers Center for
Real Estate for the invitation to be part of this conference. Today, I would like to talk to
you primarily about developments in the residential real estate market since the start of
pandemic and then look ahead at the outlook for housing.1 I will consider how rental and
home prices have increased and how monetary and fiscal policy have affected these
prices.
As a member of the Federal Open Market Committee (FOMC), I watch real estate
trends pretty closely because they have a bearing on our pursuit of maximum
employment and price stability. Real estate makes a sizable contribution to gross
domestic product, from both housing investment and consumption spending on housing
services, which is what renters and homeowners pay for the shelter and amenities
provided by housing. Real estate also matters for inflation. Housing services represent
about 15 percent of the Personal Consumption Expenditure price index, and it represents
an even larger share of another well-known inflation yardstick, the Consumer Price
Index. Real estate is also a large and broadly held asset class, so it is important for the
Federal Reserve's mission of promoting financial stability. So, my colleagues and I on
the Board of Governors and the FOMC share your interest in what is happening and will
happen in real estate markets.
As we all know, a singular feature of the U.S. expansion since the COVID-19
recession has been the red-hot housing market. Trust me, I know it is red hot because I
am trying to buy a house here in Washington and the market is crazy. Both house prices
- 2 -
and rents are up significantly across the nation, while vacancy rates for rented and owner-
occupied homes are down.
Let's start with rents, because rents give us the most direct information on how
affordable housing services are.2 Early in the pandemic, rent growth slowed as demand
dropped to live in dense areas where rental housing tends to be concentrated while some
people, especially young adults, moved in with family and friends. However, more
recently rents have accelerated sharply. On net, rents have risen 6.5 percent since
January 2020, according to the prices tracked under the Consumer Price Index (CPI).
That is not out of line with the pace of rent increases seen in the CPI over the previous
five years. But there is good reason to think this number doesn't fully reflect the extent
to which rents have grown. CPI measures rents that people are currently paying, under
leases that can be slow to reflect market conditions. Meanwhile, measures of market rent
have increased a lot more than 6.5 percent over the last two years. For example,
CoreLogic's single family rent index rose 12 percent over the 12 months through
December, and RealPage's measure of asking rent for units in multifamily buildings rose
15 percent over the 12 months through February. Based on various measures of asking
rents, some recent research suggests that the rate of rent inflation in the CPI will double
in 2022.3 If so, rent as a component of inflation will accelerate, which has implications
for monetary policy.
- 3 -
Rent is a significant share of monthly expenses for many households, but lower
income households spend a larger fraction of their budget on housing, so rising rents hit
these households harder. In 2019, those in the lowest quintile of household income
dedicated 41 percent of their spending to housing, while those in the top quintile spent
only 28 percent. One piece of better news for low-income renters is that rent increases
have not been larger in the neighborhoods where they tend to live. Specifically, data
from RealPage suggest that asking rents rose 16 percent in both low- and moderate-
income neighborhoods from January 2020 to February 2022, the same as in higher
income neighborhoods.
That's the story on rents. What about the affordability of purchasing a home?
House prices are up a cumulative 35 percent since the beginning of the pandemic,
according to the Zillow Home Value Index. That rate of increase is much faster than the
previous five years and even faster than during the housing boom of the mid-2000s.
Looking over the past two years, one would think the large increase in home prices would
have made it more difficult for renters to become first-time buyers. Surprisingly, we
have not seen evidence of that yet. The fraction of renters aged 20 to 45 who transitioned
into home ownership last year was the highest since the Great Recession. It could be that
time spent at home during the pandemic made renters more interested in owning a home,
or that people are getting help from family or friends with down payments, or that some
- 4 -
people are choosing to buy smaller homes than they would have a few years ago when
prices were lower. Whatever the causes, the increase in first time buyers is clear.
Home buying during the pandemic has been strong among minority families as
well. In 2020, 7.3 percent of home purchase loans for owner-occupied properties were
taken out by Black families, the highest level since 2007 and well above the low of 4.8
percent in 2013. Still, the gap in homeownership rates between minority and white
families remains very wide. Moreover, according to Census Bureau data,
homeownership rates for Black and Hispanic families appear to have edged down during
2021. These trends may reflect that the negative economic effects of the pandemic were
felt disproportionately by minority households. Indeed, research shows that minority
homeowners were much more likely to miss mortgage payments and enter mortgage
forbearance than white homeowners. While federal and private sector forbearance
programs helped many households keep their homes, families experiencing more
permanent or severe income losses may have had to sell their homes and exit
homeownership.
Now, a household's ability to afford the purchase of a home is also a function of
borrowing costs. Monetary policy actions have had a noticeable effect on mortgage rates.
The Fed's primary tool, the target range for the federal funds rate, was reduced to the
effective lower bound in March 2020. And, it was expected that the policy rate would
remain low until the economy weathered the severe COVID-19 shock. This setting and
forward guidance on the target range put downward pressure on both shorter and longer-
term interest rates, including mortgage rates. The Fed also purchased Treasury securities
and agency mortgage-backed securities (MBS) to help foster smooth market functioning
- 5 -
and support accommodative financial conditions. Research shows that the marginal
effect of the agency MBS purchases in response to the COVID shock lowered mortgage
rates about 40 basis points.4 On net, rates for 30-year mortgages fell about 1 percentage
point from January 2020 to January 2021, which helped dampen the costs of rising house
prices over that period.
Through most of 2021 30-year mortgage rates held pretty steady around 3 percent
or less before beginning to rise at the end of the year. Today, 30-year mortgage rates are
well above 4 percent and are now somewhat higher than they were when the pandemic
began. This increase can be partly attributed to Fed communications and actions.
Specifically, communications at the end of 2021 indicated that, with substantial recovery
of the economy and elevated inflation, monetary policy accommodation would begin to
unwind. First, we acted by reducing and then stopping our asset purchases. Second,
earlier this month, we raised the target range for the federal funds rate above the effective
lower bound and signaled that more policy tightening is likely appropriate in coming
months. As a result of these communications, mortgage rates began to increase in late
2021. So, while lower rates may have made home purchases a bit more affordable early
in the pandemic, the more recent rebound in mortgage rates and the continued rise in
prices have made home purchases less affordable for many people.
In a nutshell, housing costs-measured either by rents or by the average monthly
payment by homeowners-have increased substantially during the pandemic. Economics
- 6 -
tells us that some combination of growing demand and limits on housing supply has
driven this change. Let me talk about each of these in turn.
Demand for housing space has been especially strong during the pandemic.
Lockdowns as well as remote work and school may have spurred people to seek homes
with more space, leading to an increase in demand for larger and otherwise better
homes.5 In fact, the average size of new single-family homes increased in 2021,
reversing a downward trend from 2015 through 2020. Retail sales at building supply
stores surged during the pandemic, as homeowners added space or made other
improvements that could increase the quality of their homes. In January, this spending
was 42 percent higher than the average for 2019, and even after adjustment for the sharp
increase in the price of building materials, it was still up 19 percent. One indication of
people trading up for housing is evident by comparing Zillow's Home Value Indexes by
housing type. The index for single-family homes has increased more than that for
condominiums since January 2020. In addition, purchases of second homes have
increased. Second homes averaged about 31⁄2 percent of home purchase loan originations
from 2014 to 2019 but about 5 percent of originations in 2021. The 2021 share was in
line with the peak seen during the last housing boom.
Meanwhile, changes in household formation may have been contributing to
increases in housing demand over the past year or so. While many households increased
in size during the early months of the pandemic, as young people returned to their
- 7 -
parents' homes, this change appears to have largely reversed by the end of 2021. The
fraction of adults aged 18 to 30 who are the heads of their own households is now back
near its 2017-2019 average. The surge in the number of households has pushed down
housing vacancy rates from already-low levels. Rental and homeowner vacancy rates fell
considerably during the pandemic, reaching lows in the fourth quarter of last year that
haven't been seen since the 1980s.
The pandemic-related changes in demand for housing, rented and owned,
coincided with a longer-run increase in demand to live in certain parts of the country.
For the past several decades, demand for living in cities with high-paying jobs and many
urban amenities has surged, pushing up housing costs in these areas. Among metro areas
in the top quartile of local housing demand, population increased 80 percent, and single-
family home prices rose more than 110 percent from 1990 to 2019 after adjusting for
inflation.6 For the nation as a whole, population only increased 32 percent and house
prices rose 59 percent.
While this trend towards urban living supported commercial real estate demand
and prices for years, post pandemic, more people are working at home and there has been
a corresponding decline in demand for office space, particularly in downtown areas.
Office entry card swipes are down 50 percent from pre-pandemic levels in large cities,
and office vacancy rates are up nationwide, from 12 percent in 2019 to 16 percent in the
fourth quarter of 2021. The increases have been larger in urban areas, and particularly in
the downtown areas of big coastal cities. We'll need to see if people continue working
from home. While low COVID case rates may induce some workers to return to the
- 8 -
office, some may only return part-time, while others may not return at all, as many
organizations have made adjustments to function effectively with remote workers.
That's the demand side. The supply side has been pushing in the same
direction-towards tighter housing markets and more expensive shelter. U.S. housing
supply has probably been more constrained lately than at any time since the end of World
War II. One estimate is that the current growth in the supply of new housing units is
about 100,000 less per year that would be needed to support trend increases in demand
from household formation and replacement of depreciating units.7 Supply adjusts to
changes in the economy more slowly than demand because of the time it takes to plan
and build. With workers at home and supply bottlenecks, there were pandemic-related
drops in the production and importation of many construction materials. These supply
shortages contributed to skyrocketing input prices. In January 2022, lumber prices
included in the Producer Price Index were 92 percent higher than the 2019 average. Even
with increased materials costs, suppliers have been unable to keep up with demand. The
volume of lumber now being sold is more than 150 percent higher than last August and is
similarly larger than the average volume over the previous ten years.8
Labor is also a key input in home construction. The supply of construction labor,
like other sectors, has been held down by pandemic-specific issues like early retirement.
One measure of labor market tightness for the construction industry increased steadily
from 2010 to 2019 and then in 2021 was more than double the level recorded during the
construction boom of the mid-2000s.9
- 9 -
Local land use regulations have also played a role in constraining housing supply
over the past several decades. Probably not by accident, these regulations have tended to
be more restrictive in areas with high housing demand. There has been a growing public
debate about these restrictions on local home building, not just at the local level, but
among governors and state legislatures. While some local regulations have been changed
to allow more housing construction in high demand areas, the effects will take time, and
it remains to be seen whether the increases in supply created by these regulatory changes
will be enough to satisfy local demand.
I've mentioned the impact of monetary policy on housing markets, now let me
touch on the role of fiscal policy. The rescue plan passed by the Congress in 2020,
consisting of stimulus payments, grants to small businesses to maintain their payrolls, and
supplemental unemployment benefits, surely helped many people who lost income during
the pandemic continue to pay their rent and mortgages. Rental delinquency only
increased a bit during the first year of the pandemic, and although mortgage non-payment
increased by a larger amount, it remained well below the level experienced in the Great
Recession. Another policy tool that was used quite effectively in the earlier stages of the
pandemic was mortgage forbearance. Borrowers with government-backed and federally-
insured mortgages were given up to 18 months of forbearance, and many private lenders
also offered forbearance. Indications are that the extra time this bought for borrowers
really helped. Many borrowers who exited forbearance in 2021 were able to resume
making payments, or, in the hot housing market, were able to sell their homes and walk
away with equity. For other borrowers, simple mortgage modification plans have helped
mortgage servicers to quickly and easily modify mortgages to help people stay in their
homes at a lower monthly payment.
That said, we must remember that there are institutions on the other side of the
mortgage forbearance process. Servicers of mortgages in MBS pools are required to
continue to make payments to the investors who hold these securities, even when they are
not receiving payments from the borrower. Banks were well-prepared to extend
forbearance because of their access to an array of liquidity sources such as deposits, the
Federal Home Loan Bank system, and the Fed's discount window. Moreover, many
banks entered the pandemic with a strong capital position and improved risk management
practices as a result of changes after the Global Financial Crisis. However, more than
half of mortgages are serviced by nonbanks, which do not have access to the same
liquidity sources as banks. So, the announcement of forbearance in 2020 caused an acute
concern about liquidity for nonbanks. Thankfully, a large wave of mortgage refinancing
helped to provide nonbank servicers the needed liquidity.10 In addition, a facility created
by Ginnie Mae to lend to nonbank servicers, as well as limits on the number of payment
advances required for loans by government sponsored enterprises, helped to further
mitigate the liquidity concerns. In the end, forbearance never reached the high level that
many analysts expected. But, looking ahead, this experience points to the importance of
building resilience among non-banks engaged in mortgage lending and servicing.
An important question I will keep my eye on is whether the sharp and ongoing
increase in home prices poses risks to financial stability. My short answer is that unlike
the housing bubble and crash of mid 2000s, the recent increase seems to be sustained by
the substantive supply and demand issues I have detailed-not by excessive leverage,
looser underwriting standards, or financial speculation. In fact, mortgage borrowers
entered the pandemic with stronger balance sheets than in the mid 2000s and are
therefore better prepared to handle a drop in home prices than they were in the last
housing downturn. As for banks, as I just said, large banks are substantially more
resilient today than two decades ago. In last year's stress test, which featured a severe
global recession that included a decline in home prices of over 20 percent, we projected
the largest banks could collectively maintain capital ratios at more than double their
minimum requirements-even after withstanding more than $470 billion in losses.
I am hopeful that at least some of the pandemic-specific factors pushing up home
prices and rents could begin to ease in the next year or so. The level of new housing units
completed in 2021 was higher than at any point since 2007. The demand for extra space
at home might level off, or even reverse if people start to spend more time away from
home again as the pandemic eases. That said, input prices continue to rise, with lumber
prices increasing past their eye-popping 2020 peak, even with much more supply.
Longer term, many issues will continue to put upward pressure on home prices
and rents. The strong demand to live in cities with tight housing supply is likely to
continue. Regulatory supply constraints may be starting to ease in some places, but they
will persist and continue to limit home building in many high demand areas. And while
prices for lumber and other materials may come down, with the economy already at
maximum employment and experiencing a shortage of skilled workers, labor supply will
likely continue to hold back the pace of new construction.
As housing costs continue to increase, housing will likely become an ever-larger
share of household budgets. This is not a recent development. In 1972-1973, the average
household spent 24 percent of expenditures on rent or imputed rent. This share rose to 27
percent in the late 1980s, and in 2019 that was up to 35 percent. No doubt the share in
2022 will be larger still. With housing costs gaining an ever-larger weight in the inflation
Americans experience, I will be looking even more closely at real estate to judge the
appropriate stance of monetary policy.