In this episode of the REconomy Podcast™ from First American, Chief Economist Mark Fleming and Deputy Chief Economist Odeta Kushi walk through several measures of housing supply and what those housing supply measures tell us about the housing market.
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“We always have to dig a little bit deeper into the data. There has been a pickup in the inventory that we've seen recently, but it's not from a big increase in new listings. Those homebodies are staying home. We're not seeing more new listings, but rather a slowdown in the pace of sales. And remember that months’ supply measures the inventory of sale relative to the pace of sales. Same inventory, fewer sales, means more months’ supply.”
– Mark Fleming, chief economist at First American
Odeta Kushi - Hello and welcome to episode 40 of the REconomy podcast, where we discuss economic issues that impact real estate, housing and affordability. I am Odeta Kushi, deputy chief economist at First American and here with me is Mark Fleming, chief economist at First American. Hey Mark. Today, I hope we can 'supply' our listeners with the information they're demanding.
Mark Fleming - Hi, Odeta. The 40th episode. Wow, that happened fast. Let me guess, Odeta. We're talking about the housing supply crisis today.
Odeta Kushi - Yeah, what gave it away. The single most important metric to watch in housing today is supply. And there's different ways to measure it. So, in today's episode, we'll go through a few different metrics and why they are important. Let's jump right in with the first. Measuring new demand for shelter, which we measure as new household formation, including rental and owner household formation compared with new supply, multi- or single-family building. New demand for shelter has outpaced the new supply of housing since 2008. Now the new supply of housing is the sum total of new housing units completed and added to the housing stock. This is single-family, multifamily, and manufactured housing. And finally, we account for the replacement of a small fraction of the old stock for obsolescence. When we do that, we find that we overbuilt relative to demand from 2002 through 2008. Since 2008, however, we've been under building relative to demand.
Mark Fleming - That's right. And using this analysis, we're also able to calculate the shortage of supplied stock relative to the demand cumulatively over time, but there's one big assumption that we have to clarify here. In order to calculate the shortage, we have assumed that, in the year 2000, we had exactly the right amount of supplied units in the stock of housing relative to demand. In other words, we assume, in the year 2000, that there was neither a shortage or an excess of shelter. We overbuilt in the housing boom, while household formation was slowing and corrected for that in the Global Financial Crisis, and have been under building ever since as you mentioned. In fact, the under building was effectively whittling away at the excess supply from that earlier overbuilding period, until we reached neither an under- nor over-built point in 2018, again, assuming equilibrium back in 2000. Since then, though, that shortage has grown again.
Odeta Kushi - And while it's apparent that the COVID slowed the household formation rate in 2020, from about 1.4 million new households to just 850,000, the pre-COVID trend was rising, not falling household formation.
Mark Fleming - That's right. And if we project the amount of total homebuilding for 2021 to 2023, at the pace that was occurring in 2020, and use the COVID shock pace of annual growth of households -- that 850,000 that you mentioned -- and assume that, instead of the equilibrium in 2000, that we now move to 2009, and call that our equilibrium point, and did that same cumulative analysis from 2010 forward, then there would be a shortage of 3.25 million homes at the end of 2020. And we would still be short by about 3 million homes by the end of 2023. Again, remember assuming equilibrium in 2009, and assuming a very low household formation rate -- the COVID level of 850,000.
Odeta Kushi - Whew, okay, that was a lot of information to make one important point. The housing market is underbuilt and has been so for over a decade, and it's likely to remain underbuilt in the near future. And that's led to a lot of price pressures and a fiercely competitive housing market, which we'll talk about in a little bit. But, what if that wasn't enough to convince me, is there another way to measure the under supply?
Mark Fleming - Not convinced, sheesh. Fine. Well, I guess we could look at vacancy rates.
Odeta Kushi - That's a good idea. First, let's define rental and homeowner vacancy rates. The Census Bureau defines the rental vacancy rate as a proportion of the rental inventory, which is vacant for rent. Similarly, for the homeowner vacancy rate, which is the proportion of the homeowner inventory, which is vacant for sale. So, the lower the vacancy rate, the more limited the supply of for-rent and for-sale properties. That's right. This is basically the idea that it's reasonable to assume that there wouldn't be a lot of vacant housing stock, if there was a supply shortage, or there would be a lot of vacant housing stock if there was lots of supply relative to demand. So low vacancy implies supply shortage. Using those vacancy rates from the Census Bureau, we're able to calculate a housing deficit, just like in the analysis we just described, it requires choosing a time when we consider vacancy rates to be relatively normal, meaning a level that we would expect when there is neither a deficit nor a surplus of housing, then we can compare that average vacancy rate during this normal period of time to the current vacant housing stock. For this analysis, we choose a normal period, which is the average over the 1993 to 2003 timeframe, so a decade. Care to share what the latest data is telling us, Odeta? Absolutely, the deficit as of the first quarter of 2022 is approximately 1.76 million units. That's the highest deficit since the beginning of this series in the year 2000. Could we potentially bring that deficit to zero in the near term?
Mark Fleming - Would that be 0.00 units, Odeta?
Odeta Kushi - 0.0000 units, actually.
Mark Fleming - We like many significant digits after the decimal. Well, let's do some back-of-the-envelope calculation. So many of those significant digits will not count. In the first quarter of 2022, we were building at a pace of approximately 1.72 million housing units. That's a seasonally-adjusted annualized rate. If this rate of building was sustained, and there was no -- zero, zippo -- new household formation, and second-home sales or destruction of homes, then we could get back to the historical vacancy rate in one year.
Odeta Kushi - Well, no -- zero, 0.00, zippo household information -- that doesn't seem very likely.
Mark Fleming - No, even with no significant digits, simple zero seems highly unlikely. So the housing market will likely be under supplied for at least a few years.
Odeta Kushi - Alright, so we've covered two ways to look at the housing shortage, but shall we go for three?
Mark Fleming - For those who might be watching the NHL playoffs and championships, the Stanley Cup? A hat trick, do you say? It's only right.
Odeta Kushi - Great. So the third way we like to measure housing inventory is with a metric we call inventory turnover. That's inventory of both new and existing homes. So, rather than the traditional measures of inventory, it is better when looking at a long historical context to measure the inventory as a share of the total stock, because the overall size of the total stock of homes has grown substantially over the last 30 years. So 2.4 million homes for sale in the 90s is not the same as 2.4 million today. But what does inventory turnover look like today, Mark?
Mark Fleming - Well, it's certainly higher than the February 2022, low point of 1.09%, but lower than the historical average of about 2.4%. Inventory turnover in April of this year, our most recent number, was 1.15%, meaning 115 and every 10,000 homes are for sale. Still near that historic low of February.
Odeta Kushi - Indeed, well, so all three of these analyses require some calculations, but I think there are more obvious signs of a housing imbalance, rising prices, bidding wars, low days on market and money supply, etc.
Mark Fleming - That's right. What's one of the first things we're taught in Econ 101? Rising demand against limited supply results in higher prices. That, we've clearly seen. It's also made for an incredibly competitive housing market. But is there a fourth way to look at housing supply?
Odeta Kushi - Well, we like to think of a balanced housing market as one that has about six months’ supply. And months’ supply refers to the number of months it would take for the current inventory of homes on the market to sell given the current sales pace, so it's actually a measure of supply relative to demand. And, according to our calculations of NAR existing-home sales data, months’ supply hit a low point of 1.9 months in January of this year. Now, prior to the pandemic that months’ supply number was about three and a half to four months, but months’ supply has inched higher since hitting that trough in January, up to about 2.2 months in April. Does that mean we'll see some price relief as a result?
Mark Fleming - That's right, most likely we will, but it will be slow. As we've said in previous episodes, house prices are downside sticky. We should start to see less competition, fewer bidding wars and, therefore, less upward price pressure. In fact, a simple analysis shows that a one-month increase in the months’ supply results in a 3% decline in annualized house price growth. And our preliminary house price index is already showing moderation in house prices in April.
Odeta Kushi - But getting to a balanced market of six months’ supply may take some time. In fact, the last time that existing-home supply increased to above six months was in 2012. But, if it does reach that level, we should see some more moderation, and price growth that's more in line with the historical average.
Mark Fleming - Right, and it'll be tough to get more inventory to hit the market in a rising-rate environment. Historically, nearly 90% of the total inventory is existing-home inventory and those existing homeowners, they're staying put.
Odeta Kushi - Blame it on the homebodies. You know, average tenure length in the U.S. is over 10 and a half years, and rising rates will further discourage existing homeowners from selling their homes. There's limited incentive to sell if it will cost them more each month to borrow the same amount of money. An increase in mortgage rates can leave existing homeowners feeling rate locked-in, disincentivizing them from selling their homes. But we just said that inventory was rising. So what's going on there?
Mark Fleming - Oh, yes, we always have to dig a little bit deeper into the data. There has been a pickup in the inventory that we've seen recently, but it's not from a big increase in new listings. Those homebodies are staying home. We're not seeing more new listings, but rather a slowdown in the pace of sales. And remember that months’ supply measures the inventory of sale relative to the pace of sales. Same inventory, fewer sales, means more months’ supply. But, while it may not be financially rational to sell your home, dot dot dot...
Odeta Kushi - Right? The decision to sell or buy is not strictly financial. For example, someone may want to buy a home, so their pets can have a yard.
Mark Fleming - Are you just talking about yourself now?
Odeta Kushi - I don't know. Maybe?
Mark Fleming - Well, okay, while you're at it, isn't there some news you want to share with our listeners?
Odeta Kushi - There is some happy news I want to share. For anyone who has heard me talk about my journey to homeownership on this podcast, I'm very happy to report that I am officially a homeowner.
Mark Fleming - Well, first, congratulations, Odeta. Second, I feel like I've been on that homeownership journey with you since episode one of this podcast.
Odeta Kushi - You have and thank you. You know, it's exciting. And I know I've been talking to talk for some time, so I'm really excited to finally walk the walk. And on that very happy note, thank you, everyone for joining us on this episode of the REconomy podcast. If you have an economics-related question you'd like us to feature on a future episode, you can email us at economics@firstam.com. We love to hear from our listeners. And, if you can't wait for the next episode, you can follow us on Twitter. It's @OdetaKushi for me and @MFlemingEcon for Mark. Until next time.
This transcript has been edited for clarity.