Why Haven't Home Prices Dropped?

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Last month the median U.S. home sale price hit a record high of $387,600, according to Redfin. This is at a time when 30 year mortgage rates are hovering around 7% (down from their highs of 7.7% in October 2023). Despite this slight decline in mortgage rates, this hasn’t done much to lower home prices or help housing affordability.

For some context, U.S. home prices started to rise at the onset of COVID and peaked in the middle of 2022. They then fell for a few months before rising yet again. Today U.S. home prices are once again at record highs. You can see this clearly when looking at the Case Shiller U.S. Home Price Index through earlier this year:

But what is fueling this upward surge in home prices? Limited supply brought on by higher interest rates.

The cycle works something like this: The Fed raises interest rates. As a result, those people who would normally be willing to sell their home, choose not to. After all, why sell your home and give up a 3.5% mortgage to get a new home with a 7% mortgage? With less people selling, there is less supply. And with less supply and the same demand, you get higher prices.

The only places that haven’t seen this pattern play out are those where supply has increased significantly. And the poster child for increased housing supply in 2024 is Austin, Texas. As Derek Thompson recently wrote in The Atlantic:

This year, Austin is expected to add more apartment units as a share of its existing inventory than any other city in the country. Again as a share of existing inventory, Austin is adding homes more than twice as fast as the national average and nearly nine times faster than San Francisco, Los Angeles, and San Diego.

Home prices in Austin have already dropped 18% since their 2022 peak  and may continue downward as more supply comes online.

Unfortunately for prospective homeowners, I don’t think many other areas will see similar price declines anytime soon. Not only does it look like the Fed won’t cut rates as soon as expected, but there are other things limiting housing supply. And those other things are existing homeowners, or what some people call NIMBYs (which stands for “not in my backyard”).

The thing about NIMBYs is that they go to great lengths to protect their most valuable asset—their primary residence. According to the 2022 Survey of Consumer Finances, U.S. households have, on average, 38% of their total assets in their home. And when we subset to those households with a net worth greater than $100,000, this percentage rises to 50% of total assets.

If you want to know why home prices are unlikely to drop by a significant amount in the near future, this is your answer. Who wants to see half of their portfolio decline because someone built affordable housing nearby? No one. As a result, many homeowners end up fighting tooth and nail to prevent such future developments. Steve Randy Waldman explains why this can make rational sense in his post Home is where the cartel is:

Even if, in aggregate, land values increase, densification of an existing neighborhood creates risks for individual property owners they many not wish to bear. If an apartment block is built next door, my old neighbor may have gotten rich from selling, but my plot may not be suitable for putting up yet another tower, and my home may be worth less for its busy, unquaint new neighbor. People experience individual not aggregate outcomes, and individual outcomes are usually riskier than aggregate outcomes. Absent some insurance mechanism, it is rationally hard to persuade individuals to consent to policy changes that, in aggregate terms, would meet a return-to-risk hurdle but at an individual level might not.

If something is beneficial to the community but could disproportionately harm a subset of its members, those members will lash out. This is especially true for NIMBYs when you mess with their home prices. One of my favorite examples of this comes from a since deleted Facebook post:

Now, more than ever, we need unity among homeowners. I see quite a few WEAK COWARDS in the area listing their homes for less than they’re worth. I understand the desire to sell your house quickly, but listing your home for a lower value than what it’s worth hurts comps for all your neighbors. This is especially painful for those who purchased recently and can’t go underwater otherwise they will have trouble refinancing when rates go down.

So please, have some humanity and stand with your neighbors and DO NOT LOWER HOUSE PRICES!

If we work together to secure our community’s real estate market, we can persevere through this winter and into the spring were sales prices will go up again.

As long as NIMBYs exist and rates remain high, you can bet that home prices in most areas are unlikely to budge. But will this stay true indefinitely? What could cause home prices to start declining? Let’s look at that now.

What Could Cause Home Prices To Drop?

As much as people like to complain about high housing prices, the alternate scenario is much worse. Since supply is likely to stay limited for the foreseeable future (in most areas), the only thing that could cause housing prices to drop would be an economic downturn. When people can’t make their mortgage payments and are forced out of their homes then we will see lower home prices. But who really wants that?

As much as I would personally benefit from lower home prices, I’d much rather have a strong economy that keeps my income and assets afloat. People tend to forget that when asset prices collapse there is usually a good reason for that. Do you remember what happened the last time housing prices rapidly declined? It was 2008. Would you rather have that economy and the bargains that went along with it or today’s prices and more stability?

It’s easy to look back on how “cheap” housing was in the past, but it didn’t feel cheap in the moment. Do you remember March 2020? The world economy was shutting down and equity markets were in free fall. Did stocks feel cheap then? They didn’t to me. Of course, we can look back now with the benefit of hindsight and see how many bargains there were. But, it didn’t feel that way while living through it.

The same thing will likely happen if housing prices ever crash again. I can’t imagine a scenario where home prices fall without major policy changes (i.e. less NIMBYism) or a severe economic downturn. And since policy changes seem unlikely, that only leaves one option.

So, if you want lower housing prices, I completely understand. But, be careful what you wish for. You just might get it. Thank you for reading.

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