Understanding the dynamics that influence consumer house-buying power, how much home one can buy based on changes in income and interest rates, provides a helpful perspective on the housing market. When incomes rise, consumer house-buying power increases. When mortgage rates or nominal house prices rise, consumer house-buying power declines. Our Real House Price Index (RHPI) uses consumer house-buying power to adjust nominal house prices, offering insight into affordability.
“You buy what you can afford to pay per month.”
For example, according to our RHPI, real house prices decreased nearly 6 percent year over year in August, marking a significant gain in affordability. Since August 2018, mortgage rates decreased 0.93-percentage points and household income grew by 2.6 percent – both improving house-buying power and affordability. However, rising nominal house prices reduce affordability, and nominal house price appreciation grew by 8.0 percent compared with one year ago. Ultimately, this continual “tug-of-war” between house-buying power and nominal house prices determines the fate of real house prices.
Housing Affordability in 2019 Transformed by Dynamic Duo – Mortgage Rates and Income Growth
In 2019, falling mortgage rates helped create a housing market that behaved very different than the housing market in the second half of 2018. Mortgage rates began their descent in December 2018 and have continued to fall through August, significantly influencing affordability. According to our RHPI, the 0.85 percentage point drop in mortgage rates from January 2019 through August 2019 increased affordability by 9.7 percent. That translates to a $40,200 improvement in house-buying power in just eight months.
As rates have fallen in 2019, the economy has continued to perform well also, resulting in a tight labor market and wage growth. Wage growth pushes household incomes upward, which were 1.5 percent higher in August compared with January. The growth in household income increased consumer house-buying power by 1.5 percent, pushing house-buying power up an additional $5,600.
During this same time, nominal house prices increased by 5.7 percent, reducing affordability. In January 2019, a family with the median household income in the U.S. could afford to buy a $373,900 house. By August, that home had appreciated to $395,000, an increase of $21,100. But, house-buying power increased by $45,800 over the same eight-month time period. The improvement in house-buying power was more than double the $21,100 increase in house prices. This year, through August, home buyers’ purchasing power has far outpaced the appreciation of the homes they are buying, so home buyers were in a better position in August, despite the increase in nominal house prices.
The Future of Affordability
In 2019, the dynamic duo of lower mortgage rates and rising incomes overcame the negative impact of rising house price appreciation on affordability. Indeed, affordability reached its highest point since January 2018. Focusing on nominal house price changes alone as an indication of changing affordability, or even the relationship between nominal house price growth and income growth, overlooks what matters more to potential buyers – surging house-buying power driven by the dynamic duo of mortgage rates and income growth. And, we all know from experience, you buy what you can afford to pay per month.
August 2019 Real House Price Index Highlights
The First American Real House Price Index (RHPI) showed that in August 2019:
- Real house prices decreased 1.3 percent between July 2019 and August 2019.
- Real house prices declined 5.9 percent between August 2018 and August 2019.
- Consumer house-buying power, how much one can buy based on changes in income and interest rates, increased 2.5 percent between July 2019 and August 2019, and increased 14.8 percent year over year.
- Median household income has increased 2.6 percent since August 2018 and 57.6 percent since January 2000.
- Real house prices are 18.6 percent less expensive than in January 2000.
- While unadjusted house prices are now 8.3 percent above the housing boom peak in 2006, real, house-buying power-adjusted house prices remain 42.0 percent below their 2006 housing boom peak.
August Real House Price State Highlights
- There are no states with a year-over-year increase in the RHPI.
- The five states with the greatest year-over-year decrease in the RHPI are: New Mexico (-11.1 percent), California (-10.5 percent), North Dakota (-10.1 percent), Wyoming (-9.8 percent), and Colorado (-9.1 percent).
August 2019 Real House Price Local Market Highlights
- Among the Core Based Statistical Areas (CBSAs) tracked by First American, there are no markets with a year-over-year increase in the RHPI.
- Among the Core Based Statistical Areas (CBSAs) tracked by First American, the five markets with the greatest year-over-year decrease in the RHPI are: San Jose, Calif. (-15.8 percent), San Francisco (-12.4 percent), Portland, Ore. (-11.3 percent), Seattle (-10.7 percent), and Los Angeles (-10.4 percent).
About the First American Real House Price Index
The traditional perspective on house prices is fixated on the actual prices and the changes in those prices, which overlooks what matters to potential buyers - their purchasing power, or how much they can afford to buy. First American’s proprietary Real House Price Index (RHPI) adjusts prices for purchasing power by considering how income levels and interest rates influence the amount one can borrow.
The RHPI uses a weighted repeat-sales house price index that measures the price movements of single-family residential properties by time and across geographies, adjusted for the influence of income and interest rate changes on consumer house-buying power. The index is set to equal 100 in January 2000. Changing incomes and interest rates either increase or decrease consumer house-buying power. When incomes rise and mortgage rates fall, consumer house-buying power increases, acting as a deflator of increases in the house price level. For example, if the house price index increases by three percent, but the combination of rising incomes and falling mortgage rates increase consumer buying power over the same period by two percent, then the Real House Price index only increases by 1 percent. The Real House Price Index reflects changes in house prices, but also accounts for changes in consumer house-buying power.
Opinions, estimates, forecasts and other views contained in this page are those of First American’s Chief Economist, do not necessarily represent the views of First American or its management, should not be construed as indicating First American’s business prospects or expected results, and are subject to change without notice. Although the First American Economics team attempts to provide reliable, useful information, it does not guarantee that the information is accurate, current or suitable for any particular purpose. © 2019 by First American. Information from this page may be used with proper attribution.