Household debt in the United States has now surpassed its 2008 peak. Meanwhile, housing inventory has plummeted and homeowners are increasingly refusing to budge from their homes.
What’s going on?
A perfect storm of economic forces are squeezing existing homeowners to stay put and preventing first-time buyers from purchasing. While longer ownership might seem benign enough, it comes with a host of problems, both on the individual level and for the economy as a whole.
And there’s a tipping point at which economists say we’ll reach a “lock-in effect.”
Here’s what real estate professionals should know about the current winds buffeting housing markets around the country.
In March, American household debts reached an all-time high of $12.73 trillion (that’s $12,730,000,000,000, to give it fair weight in zeroes). This surpasses the previous peak of $12.68 trillion, seen in 2008.
For better or worse, this debt looks different than it did in 2008. Less of it is composed of housing debt (mortgages and HELOCs), and more of it is student loans and auto loans. (I’ll leave it to you whether that’s a good or bad change.)
Credit card debt is also increasingly a problem. Last month, consumer credit card debt reached $1 trillion. While this figure remains lower than its 2008 peak, economists expect it to surpass 2008 levels within just two years.
Is all this new debt a cause for concern? Let’s choose one debt type to use as an illustration. Consider that student debt delinquencies spiked 17% last year, representing 4.2 million defaulting borrowers, up from 3.6 million in 2015.
Higher student debt also raises concerns about lower homeownership rates among younger adults. As debts rise for young adults, it can damage their credit and burden their budgets, making it difficult both to save for a down payment and to qualify for a loan.
As these young adults face ever-bloated student debt, they face another uphill battle on the supply side, with a shortage of starter homes available. But we’re getting ahead of ourselves.
Homeowners Aren’t Budging
Consider this statistic: the average homeowner tenure today is 8.5 years. Less than a decade ago, it was 3.5 years.
It turns out that moving is actually quite stimulating for the economy. First, it fuels the massive real estate industry: lenders, real estate agents, appraisers, furniture retailers, and home inspectors, to name a few, all rely on home moves.
The stay-put trend started simply enough: In the housing crash, many homeowners couldn’t move. They were underwater on their mortgages. Combine that with weak job prospects, and you have a recipe for far fewer moves.
So the Federal Reserve held interest rates low, and borrowing became dirt cheap. Homeowners locked in low, fixed interest rates. Buyers bought at cyclically low prices, with exceptionally cheap financing. Most housing markets recovered, as did most job markets.
But now home prices and interest rates have risen to a point where many homebuyers see no benefit in trading in their home for another. Why move when you’ve scored such a low housing payment?
Even among homeowners who do move, many are keeping their starter homes as rentals, taking advantage of their cheap mortgages. That’s great for the homeowner-landlord, but not so great for the real estate industry, or the supply of affordable homes for sale.
“People who buy a home and sell their home are the meat and drink of the real estate business, but increasingly, we’re only getting half the sales from them,” explains Glenn Kelman, chief executive of Redfin.
What happens when these starter homes never go on the market for sale? Enter: affordable housing supply shortage.
We recently looked at how homebuilders are largely shunning starter and trade-up homes in favor of higher-margin luxury homes. The problem, however, is that there’s now a glut of luxury homes and far too few starter homes to meet homebuyer demand.
Combine that imbalance with low overall inventory, and you get a choking effect. Today’s housing inventory has eroded a shocking 60% lower than its peak in 2007.
Between higher debts, higher interest rates, lack of starter home supply, and higher home prices, young adults are waiting longer than ever to buy their first home.
That’s a problem for the real estate industry. Historically, it’s actually young homebuyers who have driven much of the home sale market. Younger adults tend to move more often, as they marry, start a family, expand to accommodate growing children, etc. Then, at a certain age, many homeowners settle in, not to move again until they downsize decades later.
Now, young adults are renting rather than buying homes. That leaves the housing market to be driven by older homeowners, who move far less often.
Starting to see how higher debts, longer tenures, and inventory shortages are all combining to make buying harder for first-time homebuyers?
Homeowner Lock-In, Renter Lock-Out?
With interest rates expected to rise over the next few years, home affordability will drop even further. The higher interest rates go, the greater the incentive for homeowners to stay in their current homes and keep their current low-interest mortgages.
“Once mortgage rates climb to 5 or 5.5 percent, we are going to start to see the lock-in effect really take hold,” explains Svenja Gudell, chief economist at Zillow.
That means even fewer homeowners trading up and even fewer starter homes going on the market. Combine that with the higher cost of borrowing, and young adults will have even more trouble affording to buy.
With homeownership at 50-year lows, that keeps upward pressure on rents as well. These young adults get hit again from that side: High rents will make it harder to save for a down payment.
All of these trends converge in a steepening uphill battle for young renters hoping to buy their first home. In fact, renters are increasingly saying they plan to rent their next home, abandoning any ambitions to buy a home.
Is it all doom and gloom for aspiring homebuyers? Perhaps not. Renting has its own advantages, chief among them mobility.
One of the greatest problems posed by homeownership in general is immobility, and the lock-in effect exponentially worsens the problem. Mark Zandi, chief economist for Moody’s Analytics, explains it like this: “People aren’t moving from weak economies to better economies. They aren’t moving from jobs that aren’t as suited to them to jobs that are. When moving becomes more difficult financially, the economy becomes less fluid.”
Mobility matters: A free flow of people able to move for their best possible job is healthiest for both individuals and the larger economy.
Renters may be able to capitalize on the increasing mobility gap to pursue better careers. They may even get the same tax advantages as most homeowners, if Trump gets his way on his tax plan. But that will be little consolation when young adults become ready to buy their first home, only to be blasted by so many economic headwinds pushing against them.
Have you seen an immobility problem? Or perhaps seen more homeowners keep their starter homes as rentals, after they move? What are your thoughts about the challenges facing first-time homebuyers?