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Wednesday, May 23, 2007

Housing market trend analysis

Long-term outlook seems attractive

It may seem counterintuitive to talk about strength in the housing market, but by most measures, the long-term outlook is good, even though near term adjustments are beginning to restore the balance between supply and demand.

Home building and prices outran long-term demand in recent years. After this current adjustment period passes, the housing and mortgage markets should resume their growth in keeping with long-term trends.

And in many ways, we are fortunate that the rest of the economy, driven by corporate profits, consumer spending and stable interest rates, is fueling growth during this period.

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The net result of this is that GDP growth excluding housing has been running at 2.1 percent over the past four quarters, while housing has reduced this by about 1 percent. Like most economists, I believe that this underlying economic strength will keep us from slipping into a recession.

We are in a housing downturn. House prices were flat to down throughout most of the U.S. for the twelve months ending in March, with particular weakness in the most recent quarter. Most of this weakness is on the coasts and in the East North Central states being offset by strength in the Southeast and oil-producing states.

Price declines came after a period of unprecedented appreciation between 2003 and 2005, when the average home in the U.S. gained approximately 27 percent in value.

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These facts, together with continued low unemployment, suggest that this is not the beginning of a collapsing housing market, or the leading edge of a broad economic downturn but rather a working off of some of the excesses from recent years.

Inventories of existing homes increased significantly in 2006.
While the current months-of-supply is high by recent experience, it remains well below the levels seen in prior downturns.

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As would be expected, many of these problems are focused in the condo market, where vacancies are roughly four times that in the single family detached market, and in previously-hot areas like San Diego, Boston and Miami.

Increased supply in markets such as these will clearly cause a continuing drag on prices in periods to come. But again, this isn't surprising given the level of price appreciation we experienced in the past few years, and the fact that home prices so significantly outpaced wage growth.

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While this trend benefited many homeowners, in recent years, accelerating prices reduced affordability – making it more difficult for first time homebuyers.

Job loss or unemployment has been the primary reason for delinquencies that have led to the subprime crisis. Over the next decade, demographers expect there to be some 15 million new households in the United States.

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Approximately 10 million of them will be minorities, and recent immigrants will likely account for 5 million. Many of these will be first time homeowners. GSEs should help provide financing for these families as this will help our long-term growth.

In sum, a growing economy, low unemployment, and favorable demographic trends all point to attractive long-term growth rates in mortgage debt outstanding.

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