The State of Housing Supply and Demand
This story originally appeared in the Winter 2019 issue of On Common Ground.
What a difference a decade makes. After being awash in housing amid the Great Recession, the country is struggling through a dry spell. At the low point of the housing bust in July 2010, there was an 11.9 month supply of homes (including town homes and condominiums) for sale, according to the NATIONAL ASSOCIATION OF REALTORS® (NAR). Then inventory began to fall … and fall … and fall. A six month supply of housing is considered a balanced market, but inventory didn’t stop skidding until it hit a low of 3.2 months in December 2017.
Rental housing followed a similar — if less steep — decline in supply. Vacancy rates fell from a high of 11.1 percent in the third quarter of 2009 to a low of 6.7 percent in the second quarter of 2016, according to the U.S. Census Bureau.
Now it appears the pendulum is finally swinging the other way. Since hitting their post-bust bottoms, the supply of homes for sale and the vacancy rates for rental housing have stabilized and are inching up again. The inventory of homes for sale stood at 4.3 months as of August 2018 and the rental vacancy rate was 6.8 percent as of the second quarter of this year. Lawrence Yun, NAR chief economist, says “With inventory stabilizing, buyers appear ready to step back into the market. But higher interest rates will cut into affordability, so the supply of moderately-priced homes will become more important in satisfying demand.”
Underpinning the growth in supply is a rebound in housing production. Before the housing crash, housing starts and completions consistently exceeded one million units per year for four decades, but during the crash they plunged well below one million units and stayed there for several years.
After starts hit a low of 554,000 units in 2009 and completions bottomed out at 584,900 units in 2011, starts are now on track to reach 1.3 million units in 2018 while completions are on track to reach 1.2 million units, according to the U.S. Census Bureau.
Encouraging? Yes, but a slew of data suggests there’s still plenty of ground to make up before housing supply and demand are in sync. “While inventory continues to show modest gains, it is still far from a healthy level and new home construction is not keeping up with demand,” said Yun. “Homes are selling rapidly, often within a month, indicating that more inventory — especially moderately priced, entry-level homes — would propel sales.”
“This is a unique period in housing today,” said Jessica Lautz, director of demographics and behavioral insights research at NAR. “The demand for housing is outpacing the current supply — especially at entry-level points in the market. For first-time homebuyers, for millennials, for (baby boomers) who may want to downsize, that housing inventory has become incredibly restricted.”
While a projected 1.3 million new housing units — single-family and multifamily — will hit the market in 2018, there is demand for 1.5 million units, according to a 2018 Housing Market and Mortgage Market Review from Arch MI, a mortgage insurance company based in Greensboro, N.C.
The report compares new supply (measured by the annual rate of housing starts) to new demand (measured by the annual rate of new household formation plus the number of new units needed to replace obsolete housing). By that yardstick, new supply has lagged new demand by an aggregate 1.5 million units since 2009.
The roots of underproduction may stretch even farther back. Research by a coalition of housing developers, Up for Growth, calculated that from 2000 to 2015 the nation constructed 7.3 million fewer units of housing than it should have based on a matrix of historic demand indicators such as home prices, population and income.
A total of 23 states — primarily in the west and northeast — whiffed on meeting housing demand during that time period, according to Up for Growth’s calculations. California was by far the biggest underachiever with a shortfall of 3.4 million units followed by Arizona (505,000 units), Massachusetts (329,000 units) and New Jersey (320,000 units).
Up for Growth also analyzed the relationship between housing starts and new household formation going back more than 50 years. On average, the nation added 11 units of housing (allowing for units lost to obsolescence) for every 10 new households between 1960 and 2016. However, the nation added just seven units of housing for every 10 new households during the 2010 to 2016 timeframe.
That ratio didn’t budge in 2017. Although the nation gained a net 802,000 units of housing last year (1.24 million new units minus 422,000 units lost to obsolescence), the net gain fell 348,000 units short of matching demand from the 1.15 million new households formed, according to U.S. Census Bureau data and estimates from the Urban Institute (UI), an economic and social policy think tank in Washington, D.C.
Entry-Level Housing “Not Readily Available”
The deficit is magnified at the low end of the housing market — especially for single-family homes. “Homebuilders are not seeing great value in constructing homes at low price points,” Lautz said. With housing production tilted toward the high end of the market, the imbalance between supply and demand is squeezing entry-level housing the hardest. “That supply is not ready and available,” she said.
Although beginning to pick up, entry-level housing (under 1,800 square feet) accounted for just 22 percent of single family home construction in 2017 versus an average of 33 percent between 1999 and 2007, according to the 2018 State of the Nation’s Housing report produced by the Joint Center for Housing Studies (JCHS) at Harvard University.
The report, which crunches U.S. Census Bureau data and other government and industry statistics, cites a number of housing headwinds that have nudged builders to construct more expensive homes — as well as apartments — to offset rising costs.
The cost of construction material, for example, rose 4 percent between 2016 and 2017, led by the rising cost of lumber after recent tariffs. Labor shortages have inflated wages while land continues to grow scarce and more expensive amid restrictive land-use regulations — including lids on density.
“It basically makes it very difficult to build anything affordable, anything lower end,” said Laurie Goodman, vice president at the UI. “That’s why most of the new homes are higher end.”
The imbalance between housing supply and demand may get worse before it gets better. The NAHB forecasts only a slight uptick in housing starts to 1.31 million units in 2019 and 1.34 million in 2020. Meanwhile, another 1.4 to 1.5 million households are projected to form each year, based on U.S. Census Bureau data mined by the Federal Reserve Bank of San Francisco for a 2016 Housing Formation Among Young Adults report.
“Inventory is still going to be a problem,” said Dan McCue, senior research associate with the JCHS. “It’s a ship that’s hard to turn around quickly.”
The Millennial Effect
The wild card in any housing forecast is the millennial generation, which has been slower to form new households than in the past and could unleash a wave of pent-up demand for housing when more millennials finally do leave the nest.
While the total number of young adults ages 25-34 rose to 20 million in 2016 from 18.6 million in 2000, the share that headed households decreased by 3.6 percent from 49.2 percent in 2000 to 45.6 percent in 2016, according to U. S. Census Bureau data crunched by the Federal Home Loan Mortgage Corp. (Freddie Mac) for its 2018 Young Adults and Household Formation Report.
If young adults were moving out and forming households at the same rate of young adults in 2000, the United States would have had 1.6 million additional households in 2016, according to the report.
Instead, an all-time high 26 percent of young adults ages 25-34 were still living with their parents or another relative in 2017. In addition, an all-time high nine percent were doubled up with nonfamily members, according to the JCHS report.
Like household formation rates, millennial homeownership rates also signal pent-up demand. The 2018 Millennial Homeownership report by the UI found that the homeownership rate of millennials between the ages of 25-34 was 37 percent in 2015. That’s approximately 8 percent lower than the rate of Gen Xers and baby boomers at the same age.
One big reason why is that millennials are waiting longer to tie the knot. The likelihood of owning a home increases by 18 percentage points among young adults if they are married, but the marriage rate for young adults fell to 39 percent in 2015 from 52 percent in 1990, according to the UI report, which relied on U. S. Census Bureau data. If the 2015 rate had been the same as 1990, the millennial homeownership rate would be about 5 percent higher.
Another noose around the millennial homeownership rate is affordability. Thanks to tight supply and rising interest rates, home prices in third quarter 2018 were at the least affordable level since third quarter 2008, according to a quarterly Home Affordability report from ATTOM Data Solutions, an Irvine, Calif., market research company.
The High Price of Homeownership
The report calculates an affordability index based on share of income needed to buy a median-priced home relative to historic averages. An index above 100 means homes are more affordable than historic averages and an index below 100 means they are less affordable.
This year’s third quarter index dipped to 92 as 344 of the 440 U.S. counties analyzed in the report posted an affordability index below 100 — driven at least in part by a mounting disparity between home prices and wage growth.
According to the same report, the median home price of $250,000 in third quarter 2018 was up six percent from a year ago — double the-year-over-year growth in average wages. U.S. median home prices have increased 76 percent since the first quarter of 2012. Meanwhile, average weekly wages have risen just 17 percent.
As a result, 23 percent of homeowners were considered cost-burdened in 2016, meaning they paid more than 30 percent of their income for housing, according to the JCHS report. Nearly half — 47 percent — of renters were considered cost burdened.“Cost burdens are their highest in some high-cost areas like Miami and LA, but they’re everywhere,” McCue said. There are very few places with low cost burdens.”
Adding to that burden is the heavy load of student debt, which weighs on both household formation and homeownership rates. About 45 million people owe more than $1.5 trillion in student loans and the average debt per borrower among the class of 2016 was $37,172 — up $10,000 from 2011, according to the Federal Reserve and the website Student Debt Relief.
“The share of young adult households with more than $25,000 in student debt went from … three percent to 28 percent,” McCue said.
In terms of what type of homes are in demand, Lautz pointed to several generation-based shifts. Instead of downsizing, more and more older boomers are looking for similar size but more affordable homes in the suburbs farther from the city center but still close to friends and family.
Meanwhile, younger boomers and Generation Xers are increasingly seeking larger homes with room for their aging parents and/or children over the age of 18.
Millennials are more likely to purchase in suburban areas and small towns than they have been historically because of affordability but also because of better schools and a desire to maintain personal ties.
“Millennials are as likely to want to buy a home close to friends and family as they are to want a short commute,” Lautz said. “That really speaks to a different family dynamic and a different way generations are organizing where we live and what our priorities are.”