Is the U.S. Federal Reserve Trying To Bludgeon the Housing Market?

by | Sep 22, 2022 | News

The housing market has been on fire for the past two years as home prices shot up into the stratosphere. Now the U.S. Federal Reserve is trying to bring them back down to Earth, part of its avowed war against the nation’s runaway inflation. But it’s using a move that could inflict even more pain on struggling homebuyers.

The Fed hiked its short-term interest rates by three-quarters of a percentage point on Wednesday as it continued its war against surging inflation. This is expected to push mortgage interest rates even higher as they tend to follow the same trajectory of the Fed’s own rates. And that’s expected to price additional would-be homeowners out of the market and make purchasing a home even more expensive.

“Housing is an interest-rate-sensitive sector of the economy,” says Robert Dietz, chief economist of the National Association of Home Builders. “When interest rates increase, housing often feels the pain first. Tightening is going to require some pain.” Mortgage rates have topped 6% on 30-year fixed-rate loans, the highest they’ve been since 2008, according to Freddie Mac. In the past year alone, monthly mortgage payments have swelled nearly two-thirds higher mostly due to a more than doubling in mortgage rates as well as higher prices. That means buyers today are paying roughly 66% more than they would have a year ago.

“Mortgage interest rates have not yet hit their peak,” says Dietz. “They’re going to go higher than where they are right now.”

Rates were up to 6.5% this week for 30-year loans, says mortgage broker Rocke Andrews, of Lending Arizona in Tucson.

“It’s getting harder and harder for people to [secure] a loan,” he says. Some are considering adjustable-rate mortgages, which offer lower introductory rates and then reset over time.  “They’re trying anything to lessen the pain a little bit.”

Many real estate experts predict that home prices will fall as a result of the higher rates. After all, there is only so much that buyers can afford to pay for housing every month.

“We expect some limited price declines nationwide,” says Dietz. Areas that saw the biggest price increases and the greatest influx of investors could fall even harder. “Some of the previously hot markets could see double-digit price declines playing out over this year and the first half of next year as the market adjusts to the new mortgage interest rates.”

Ironically, the Fed’s goal of slowing down the housing market may wind up making the dire housing shortage even worse.

Dietz now expects single-family home construction to fall by 10% this year, the first time it’s gone down since 2011. This will keep prices high as the supply of homes stays low.

“Most single-family homebuilding is financed with loans. When interest rates increase, the cost of financing for land developers and homebuilders increases. That reduces the number of homes built,” says Dietz.

In addition, many people who would have put their properties on the market as they traded up or down likely won’t do that with rates so high. If they buy something else, they’ll wind up spending so much more due to higher rates that it may make more financial sense to stay put.