By: Robert Dietz, NAHB Chief Economist
Est Read: 5 Mins.Â
The U.S. economic outlook has deteriorated significantly in recent months as the impacts of excessive stimulus, supply-chain disruptions and the Ukraine war continue to put upward pressure on consumer prices. Inflation in May reached a 40-year high as shelter, energy and food prices surged at the fastest pace in decades. In an effort to fight persistent inflation, the Federal Reserve raised the short-term federal funds rate by 75 basis points in June, the largest rate hike since 1994. The Fed will continue to tighten monetary policy until it sees signs of inflation cooling or until the economy falls into a recession.
As a result of these policies, mortgage interest rates are nearing 6%, the highest level since the 2008 financial crisis. Due to the quick jump in rates at the beginning of 2022, the economy and the for-sale housing sector have slowed. Indeed, the economy likely contracted for the first two quarters of 2022, which would meet one common definition of a recession. Economists prefer a broader definition that involves both declines in GDP and rising unemployment for multiple quarters.
Regardless of these definitions, the U.S economy will experience a mild recession for parts of 2022 and 2023 due to tightening financial conditions. The combination of job losses and higher interest rates coupled with rising home prices is pricing out many homebuyers and worsening housing affordability. The housing sector has already seen declines for the NAHB/Wells Fargo HMI measure of builder confidence, new and existing home sales, and single-family construction permits. Remodeling growth will slow, but due to home equity gains of the last two years, the home improvement sector will outperform the rest of the residential construction industry during this economic downturn.
This stark outlook highlights the critical mismatch between today’s economic challenges and the policies being deployed. Specifically, to combat inflation, while the Fed can cool the demand-side of the economy with higher rates, supply-side legislative and regulatory policies are required to truly tame the growth in costs for building materials, skilled labor and regulations. Those higher construction costs are responsible for higher rents, home prices, and project expenses. This message of caution for future monetary policy from the Fed, and the importance of focusing on repairing and improving the supply-side of the economy, was delivered to the leadership of the Federal Reserve at a June briefing led by leaders of NKBA and NAHB.
While a recession brought about by higher interest rates will slow economic activity, it will not generate a financial crisis, as the Great Recession did. Household balance sheets are healthy and mortgage underwriting standards of the last decade were considerably stronger than those of the early 2000s. After a few quarters of economic contraction and a deceleration of inflation, the economy will rebound, led by the housing sector.
Indeed, there remains a significant housing deficit in the United States, which requires both additional new construction and remodeling investment to increase and improve the nation’s aging housing stock. But if the Fed is to avoid a recession and achieve its intended soft-landing (a scenario we are skeptical of), it must act with greater caution with respect to interest rates, while encouraging the Congress and the President to undertake policies that will fight the larger sources of inflation on the supply-side of the economy.
Dr. Robert Dietz is the Chief Economist for the National Association of Home Builders, where his responsibilities include economic forecasting, survey research, and policy analysis. Robert is commonly cited in the media and is a frequent speaker at state and local real association events, as well as at Design & Construction Week. Prior to joining NAHB in 2005, Dietz worked as an economist for the Congressional Joint Committee on Taxation and earned a Ph.D. in Economics from The Ohio State University.
