"It's at Historically Low Levels": A Conversation about Housing Affordability


Tom Heintjes: Welcome back to the Economy Matters podcast. I'm Tom Heintjes, managing editor of the Atlanta Fed's Economy Matters magazine. It's not only the midpoint of the year, but it's also an eventful time in the economy and we have a lot to discuss today. I'm here with the Atlanta Fed's Domonic Purviance, a subject matter expert in the Bank's Supervision, Regulation, and Credit Division, and we're going to discuss housing affordability and, more broadly, the housing market, which has seen a lot of action in recent months—actually, it always sees a lot of action but has done so in particular recently. Welcome back to the podcast, Domonic. It's good to have you back in the studio.

Domonic Purviance: Thanks—it's good to be here.

Heintjes: Domonic, higher home prices and higher interest rates have combined to lead to record declines in home ownership affordability. How would you describe recent affordability trends versus, say, what we've seen in recent years?

Purviance: Our recent calculation of housing affordability shows that affordability declined by over 25 percent in our latest number, and that's the sharpest decline on record.

Domonic Purviance of the Atlanta Fed. Photo by Ted Pio Roda

The Atlanta Fed's Domonic Purviance. Photo by Ted Pio Roda

Heintjes: That's remarkable.

Purviance: Yes. As you said, it's a combination of higher home prices and rapidly rising interest rates since the beginning of the year. Nationally, it's declined by 25 percent, but when you look at specific submarkets, obviously there have been sharper declines—or less sharp declines, in some cases. But nationally, we're seeing significant changes in affordability.

Heintjes: Well, we'll touch on the Southeast specifically in a bit, so keep that in mind. Affordability is a measure of what a median-income household would need to spend, as a share of its income, to own a median-priced house. By that metric, where does affordability sit, in your view?

Purviance: Housing is considered "affordable" if the median-income household spends less than 30 percent of their annual income on housing costs. Housing costs, in our calculation, includes the principal interest payment, taxes, and insurance—so whatever you pay for the year shouldn't exceed 30 percent of your income. Our latest number, in April, is 41.2 percent of annual income needed to afford the median-priced house. So that's pretty extraordinary, in terms of affordability. So nationally, affordability is very low, based on our measure. And I will say that we're always looking backwards because of how we get data, so we already know that home prices in May and June have increased. And we suspect prices to have increased again in July, and also that rates will be a little bit higher than they were the last time we did this calculation. So when we get our new numbers for May and June, we expect affordability to be even lower than it is now.

Heintjes: Wow. Let me ask you: Is declining home ownership affordability having a significant impact on housing demand, both regionally and nationally? And is there a difference between what we see in the Southeast and across the broader US?

Purviance: The impact on demand is going to take some time to fully play out. Obviously, if you make the median income and you're going to get approved for a mortgage, higher interest rates mean that you may not be able to afford your monthly payments. And so what we are seeing is there is interest in buying houses for a variety of reasons—people are getting married, or they're starting a new job—but they're being priced out of the market simply because they can't afford it. And that's added to the strain on demand that's created by people having difficulty finding a house because inventory is so low.

So if you look at any measure that tracks the interest in the consumer to buy homes, it's at historically low levels—and that's a combination of a lack of affordability, and just the lack of available inventory to buy. Regionally, the Southeast tends to lag behind some of the national trends because we are a region that people tend to move to—because even though affordability has declined here as well, we're relatively more affordable than the regions where people are coming from. If you look at recent affordability activity in some of our markets, we've seen sharper declines than what we've seen at the national level because demand is stronger and inventories are tight. For example, in markets like Tampa and Nashville, affordability has declined by 35 percent year over year—and that's mostly because we've seen pretty sharp increases in home prices in both of those markets. And they are among the top five in the country, in terms of the decline in affordability.

Heintjes: You touched on something interesting. As you know, affordability depends on where you sit at the time. People coming here from California or New York don't think we have an affordability problem—they see great bargains. I guess from our regional point of view, it's a different matter.

Purviance: Yes. What ends up happening is, if you're selling a home from California or New York, if you had a lot of equity in that home you can come here and pay cash for a home. But if you are a local and you need to get a mortgage, it becomes a little bit tougher for you. It's pretty early, and what's happened since the beginning of the year is that people anticipated rates going up, and so a lot of people pushed forward their buying decision. And so if you look at sales, and days on market, and all those leading indicators—they still show a very tight market, and they show demand is pretty strong.

But what we're starting to see now is, throughout the pandemic the sales at list price—that means, what the home actually sold for compared to what it was listed for—was over 100 percent, meaning that people were paying higher prices when the house actually sold than what it was listed for. That's an indication of a very tight market and high demand. Now we're starting to see homes that are listed experiencing some drops in price, and so that's a very early indication that people putting a home on the market aren't getting the same price—or at least, not the level of demand that they were getting previously—and they're trying to adjust their pricing expectations. That will take some time to work through, but it is an indication that demand is lessened because of the lack of affordability and some of the other strains that we're seeing in the economy.

Heintjes: I know this is probably not a metric that is tracked formally, but I read a lot about cash-only offers—the bidding wars you referred to—with large amounts over asking price being paid. It seems like I hear about that more than I used to. Is that your observation?

Purviance: Yes. I think that the two things that are driving that are investors that typically pay cash—when you pay cash, you can close quicker. There are a lot of people that, when putting their homes on the market, they only want cash buyers because they can close quicker. So a lot of that is investor activity. Investor activity, particularly in the Southeast, and certainly in a market like Atlanta, has certainly increased over the past couple of years, and investors are a larger share of the market than they used to be. But the other driver of that is, of course, people moving from other areas that have a lot of equity. Again, if you are selling a house in New York and you owned that house for 30 years, and you take all that cash out—you're able to come to Atlanta, and if you're competing against several other buyers that are making offers, you can offer above the asking price and pay cash and not necessarily have to deal with having to get an appraisal. And so that's one of the drivers for this upward pressure on home prices we've seen.

Heintjes: Right. I know we often talk about the Southeast like it's a monolith, which is not really accurate at all, and I'm sure there's a wide variation in affordability, even within the region. I wonder if you could give some examples, as a frame of reference to show the variation regionally?

Purviance: Just relatively speaking, median home prices in the Southeast tend to be just below the national level. Nationally, the median home price is somewhere above $400,000 today. In our region, we tend to be lower than that. It's one of the reasons why, even though home prices have increased nationally, the Southeast still gets demand because we're relatively more affordable. But you're right—it's not a monolith. I mentioned Nashville and Tampa as examples of markets where we've seen a pretty strong collapse in affordability. In both of those markets, home prices increased by over 28 percent year over year in April—and that's one of the sharpest increases in prices we've seen in the nation.

When you compare it to other markets—like Miami in south Florida tends to be more expensive with a higher median home price, but we're not seeing the level of appreciation in a market like Miami that we're seeing in Tampa, Orlando, Nashville, or Atlanta. And then some of our other smaller markets, like New Orleans or Birmingham, are not seeing as much activity. Most of that is because the markets that are seeing pretty strong upward growth in home prices are generally markets that are seeing a surge in migration of people coming from other markets. And so big markets like Atlanta or Nashville or Tampa that are drawing buyers from all over the country tend to have stronger demand and stronger price appreciation than your smaller regions.

Heintjes: Domonic, you noted that the primary causes of the decline in affordability have been rapid price appreciation, and also the rise in interest rates since the beginning of the year. I wonder if I could get you to break that down. Can you talk just about the rate of price appreciation in recent months, and what has been the effect of rising rates on home affordability? I know those are two questions, and I want you to treat them separately.

Purviance: Okay. In terms of what we're seeing in home price appreciation since the beginning of the year, appreciation started to slow at the beginning of the year. In recent months it started to accelerate again. So we're not at the peaks that we saw last year. Last year home prices were up nationally at record levels—over 20 percent nationally. It dropped below 20 percent at the beginning of this year, and then over the past few months the level of appreciation is back up to 17 percent, which is the latest number we have. And I expect that to continue to go higher. What's driving that is what I mentioned before—it's sort of that "pull forward" effect. A lot of people wanted to get in before interest rates went higher, and so you had a lot more demand at the beginning of the year than usual, and that pushed the rate of home price appreciation a little bit higher. Sales matched that trend. Sales were positive, and then now—in the middle of peak selling season, and coming out of it—we're starting to see sales soften up a little bit because a lot of that demand was pushed to the beginning part of the year.

The other question was…

Heintjes: About rising rates, and their effect on home affordability.

Purviance: Right. So rates have an outsized effect on affordability—even more so than price appreciation, at this point. You could see just a marginal increase in interest rates, and it could cause a significant decline in home ownership affordability. The reason why affordability has declined so sharply recently is because rates have increased sharply, and so we've seen a sharp rise in rates, and that's showing up quite remarkably in the rate of decline in housing affordability.

Heintjes: Well, among the things the Atlanta Fed tracks is wages, and we've seen wage growth rising recently. In your view, has that had any role in affordability? Are wages keeping up with prices of houses? How do they tie into each other?

Purviance: You have to take wage growth by tier. Your top-tier earners—some of your professional-type jobs—are experiencing sharper wage growth than your middle-to-lower-tier wage earners. So if you've got a middle income or lower, you're not seeing as strong a wage growth as the top tier. But regardless of the tier you're in, if you look at wage growth and compare it to inflation, inflation is much higher. And so any kind of benefit you're experiencing from higher wages is being, in some cases, completely wiped out by higher inflation. To add to that, home prices are increasing at a faster rate than wages are, regardless of the tier, and so you have the combination of higher home prices and higher inflation that nullifies some of the benefits we're experiencing from wage growth.

Heintjes: Domonic, let me get you to address the supply of homes on the market. Has the law of supply and demand kicked in here? In other words, has higher demand resulted in a rush to meet it with new homes? What's your view on that?

Purviance: There are a lot of different angles you can come at that question, so first I'll talk about existing home supply—those are homes that people currently live in, and they are listing them on the market. With existing-home supply, typically we want to see somewhere between four to six months of supply. "Months of supply" is how many months it would take to absorb the current amount of inventory in the market, given the current rate of absorption. Four to six months is considered balanced, anything above six is considered oversupply, and anything below four is considered undersupplied.

Heintjes: Where do we sit now?

Purviance: We're at about 2.1 months' supply.

Heintjes: Oh, so well below.

Purviance: It's well below. It was further than that. Recently, it's dropped below two months of supply nationally, and in some markets—particularly some markets in our district—the months of supply is below one month. And that's why a market like Tampa has a very low months' supply of inventory, and that's one of the reasons why you're seeing sharp home price appreciation in those markets—there just isn't enough inventory. And part of the problem, in my view, is that so many people who refinanced their mortgages at rates as low as 3 percent over the past few years, now that rates are up at 6 percent there is a complete disincentive for anyone to sell today. Consumers understand that if they sell their home, they have to buy something, and whatever they buy, number one, it's going to be more expensive in terms of price, and then more expensive because of rates. And so people are sort of locked in at low rates because they refinanced, and now—because they're not willing to sell—that creates less churn of inventory on the market. So it's one of the reasons why inventory levels are so low.

I will say, as we've seen more buyers priced out of the market because of higher rates, we're seeing a lower level of demand. Inventory is starting to creep up a little bit, and like I mentioned—we were below two months, and now we're a little bit above two months of supply—just given what we know about pending home sales and mortgage originations, both are lower, which is a leading indicator of where sales are going to be in the future. And we can anticipate that inventory is going to continue to build. What that means is that if inventory gets to a point where its oversupplied—that's the condition where you would have downward pressure on price. But remember, an oversupply situation is when the months of supply is above six, and right now we're at two. So it would take a considerable amount of inventory on the market, or a pretty sharp contraction in demand, before we will get in a situation where the housing market is oversupplied and prices would actually decline. What's likely to happen is more inventory on the market will create more moderate price appreciation, in most cases. And so instead of home prices going up 15 to 20 percent, they may go up 5 to 10 percent—which is normal, so it's sort of the normalization of the market. We're getting out of a shortage situation. Supply—if it gets between four to six months—it'll be more balanced, and it creates more moderate price appreciation.

I'll mention just briefly, on the new home side: new home builders are still wrestling with supply chain disruptions and higher labor costs and higher materials costs. At the same time, you're in a situation where you're not able to push off those costs onto consumers, so there is more resistance from consumers to pay higher prices, given higher interest rates and everything else that the consumer is dealing with. So builders over the next year will have to contend with how to manage the higher moderation in demand and will have to figure out how to offer some incentives to get sales of homes to close over the next few months. And they also have the ability to slow the rate of construction to balance some of those imbalances that can be created, but it is something that they have to pay pretty close attention to. In my view, it's difficult to build your way out of a supply shortage situation because the level of new home construction that we would have to have in order to bring our supply into balance is more than what we have the capacity to do at the moment. And that's really a byproduct of us not really building enough houses since the last housing crisis. So we have a lot of building to catch up to in order for us to have a balanced level of supply.

Heintjes: I often wonder about younger people looking for starter homes, and what their supply is like these days. But let me ask you: Is it naïve of me to think that inventory might build up over time because of affordability declining? As you noted, a larger inventory means moderating prices—or is that sort of prepandemic thinking?

Purviance: No, I do think that as demand contracts because of lack of affordability, it is reasonable to expect—over time—there to be a build-up of inventory. When I say "build-up" I don't necessarily mean that inventory will be in an oversupply situation, but it will create some balances in inventory. As you see a contraction in demand, even if we're not building more houses, or more houses aren't being listed on the market, you just have less demand to absorb them and so that creates more balanced supply levels just by changing those factors.

Heintjes: Let's talk for a second about the lending side of the equation. What has the Fed seen in terms of loan demand, underwriting standards, and so on? Is demand growing stronger on that side?

Purviance: We are seeing less demand for mortgages, and that's residential mortgages, and you do see that play out in mortgage originations. In terms of underwriting, where there is loosening is in some of your non-QM—that's nonqualified mortgages—as well as some of your jumbo categories, and those are typically high net-worth individuals that banks have extended relationships with, and so there's a little bit of loosening of terms on that end. We haven't seen loosening in the subprime categories for some time, and I don't see that as an immediate risk. And in terms of LTVs [loan to value] and debt-to-income ratios and FICO scores—they're all pretty high in terms of credit standards, meaning that people getting mortgages now are people that are pretty high in the credit box. And if you think about everything that we've talked about, part of the reason for that is your entry-level buyers that tend to have more moderate incomes (and maybe weaker credit profiles) aren't able to get qualified for a mortgage today simply because the rates are higher and they're being priced out. What you're left with is people that make higher incomes, that tend to have a little bit stronger credit profiles, and as a result the originations we're seeing today are pretty strong from a credit perspective. But the downside is, you have a smaller box for people that are able to get in homes today, just because it's less affordable.

Heintjes: In preparing for our conversation today, you pointed me to a story noting that existing home sales have been declining after rising really rapidly during the pandemic. Do you think that what we saw during the pandemic was a blip, historically speaking, and that we'll see a return to a more historically average level of sales of existing homes?

Purviance: Yes, I think that the rapid increase in sales during the pandemic was a byproduct of several things, but most importantly it was a byproduct of very, very historically low interest rates. At one point, interest rates were around 3 percent, and that's just an historic low, and so you had a whole lot of people deciding that this was the time to buy, just to take advantage of low rates. The other driver of demand during the pandemic was people social distancing. People were spending more time in their homes, so they need a bigger home. They needed a home that had maybe an office, or space for their kids. And so there was a high demand for people moving out of high-density urban areas to more suburban areas where they can get more space. Some of those factors were just a byproduct of the pandemic. As we see more people working from home, if that becomes a long-term trend, more and more people would need to buy homes that actually give them the capacity to work from home. So that may be something that's with us.

The big factor that was creating that upward trend in home sales was primarily the very low rates, and so it did pull a lot of demand forward. A lot of people that may have bought this year or next year or a couple of years from now, bought during the pandemic just to take advantage of those low rates. And the last thing I'll add—because it's sort of like a self-fulfilling prophecy—is, low rates created high demand; high demand created a shortage of inventory; a shortage of inventory created greater equity for people; and people who had equity also wanted to extract that equity and invest it in real estate, and so that created even more demand. So the cycle that we were in just created this feeding effect for demand for housing. And so now what we're experiencing is sort of the normalization of demand. As rates become a little bit more normalized, demand will become more normalized and you'll see the sales go back to their historic long-term averages.

Heintjes: Since you're touching on what you see as future trends, I'm going to ask you to take out your crystal ball now and ask you: what do you foresee for housing prices? I guess it's too much to expect a decline in prices, but is it more realistic maybe to expect a slowing of price increases in the near-term?

Purviance: Yes, it's realistic to expect the level of appreciation that we've seen over the past few years to moderate. And that's just a factor of less demand, more supply. If you're putting your house on the market today, you may not get the multiple offers and the bidding wars that you got previously, just because the buyer pool has shrunk because of the lack of affordability. What I'm more certain of is that the rate of appreciation will moderate, but I cannot say for certain that there won't be some markets that may experience a decline in prices—and some markets may not be impacted at all. It just depends. And it may depend on what submarket you're in as well. Some submarkets may see more moderate moderation in price appreciation, some markets may see a decline in home prices altogether. Real estate is all "location, location, location," and so depending on where you are—and depending on the dynamics in that market—you may see different trends in home prices. But overall, because of the supply level situation nationally, it would take a significant contraction in demand before we see a major correction in home prices. And so, most analysts that are looking at the market today are anticipating more moderate growth and not necessarily price declines.

Heintjes: That's a good opportunity for me to refer listeners to your Home Ownership Affordability Monitor, or HOAM, which is a tool that you take care of here at the Atlanta Fed. It does break down changes regionally, even by city level, so it's really interesting to look at—so I hope listeners check out our HOAM monitor. And on that note, I want to say this has been such a fascinating conversation, Domonic, and I want to thank you for being our guest on the podcast again. With all the goings-on in the housing market, I'm sure I'll be asking you to come back again soon.

Purviance: I would love to.

Heintjes: Before we say goodbye, I do want to note that we'll have a link on the website to the Home Ownership Affordability Monitor that I just mentioned, one of the data tools that Domonic oversees for the Atlanta Fed. It's full of great information, and I hope you'll give it a look. And that's all for this episode of the Economy Matters podcast. Again, I'm Tom Heintjes, managing editor of the Atlanta Fed's Economy Matters magazine, and I hope you'll subscribe to the podcast to hear future episodes as they come out. Thanks for being with us today, and we'll look forward to being with you again next episode.