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It may take another five years for the U.S. housing market to normalize again.
Perhaps the weakest pillar of the U.S. economy, housing has seemingly been on a downward spiral – home sales have tumbled to record lows, housing starts keep dropping and home prices slipping back. Combined with a stubbornly high jobless rate, it could take several years for the housing market to get back to a semblance of normality.
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“We expect a sluggish U-shaped housing recovery,” said Michelle Meyer, an economist at Bank of America-Merrill Lynch.
“Part of the recent deterioration reflects the volatility induced by the home-buyer tax credit, but even more so, a slower-than-expected jobs recovery.”
Meyer believes the main factor determining the fate of the housing market will be the macro backdrop.
“If the economy falls back into recession, which we judge to be a 20% probability, the housing market will follow suit,” she said. “Otherwise, we expect the volatile bottoming in the housing market to persist for some time, creating a long, painful, U-shaped recovery.”
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A “normal” housing market is defined by Meyer to be one in which housing starts are trending at the historical average of 1.5 million homes a year.
“We are several years away from this state of normalcy,” she warned. “Housing supply has outpaced housing demand by about 2 million homes over the past few years and is on pace to add another 500,000 excess homes by the end of 2012. For this excess to clear, housing starts must remain at a depressed level, not returning to normal until 2015.”
That would make this the slowest housing recovery in post-war history.
The two most important factors governing the health of the housing market are: the state of the labor market and the pace of foreclosures, she noted.
“On the demand side, high unemployment and foreclosures will greatly reduce the pace by which new households are formed,” she stated.
“Fewer new households will be created as young adults stay with their families longer or live with roommates amid high unemployment and concern about job security. In addition, the loss of homes due to foreclosure leads to doubling up and excess supply.”
Meyer further notes that the recession has created significant stresses and imbalances in the housing market which will require “considerable” time to correct.
“Unlike in prior recoveries, this means that the housing market cannot be looked to for stimulating the recovery, but we do not see much of a drag left from housing construction,” she said.
“The bigger downside risk... comes from the trajectory of home prices. If foreclosures flood the market faster than we expect, home prices could take another serious leg down, tipping the economy back into recession.”
There has indeed been double-dip in home sales and housing construction this year, triggered by the weakening economic backdrop.
“This should drag down home prices in the second half of the year,” Meyer indicated. “The extent of the decline will be a function of the pace of foreclosures, which will sell at a discount given weak housing demand. This is one of the biggest risks for the economic outlook.”
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