Last Friday’s Eye on Housing blog post announced the release of NAHB’s “priced out” estimates for 2020, showing that—if the median new home price goes up by $1,000—it prices 158,857 U.S. households out of the market, in the sense that they would qualify for a standard mortgage to purchase the home before the price increase, but not afterward.
The same type of analysis can be applied to changes in interest rates. Starting with a new home at the estimated median price of $345,908 for 2020, and a standard mortgage with an interest rate of 3.75% (approximately the rate on a 30-year fixed-rate mortgage in Freddie Mac’s latest survey), a quarter percentage point increase in the interest rate would price about 1.3 million U.S. households out of the market. This, along with similar results for every quarter point change in the interest rate from 1.75 up to 9.75 percent, is shown in the table below:
The assumptions underlying these estimates include a 10% down payment, an annual premium of 73 basis points for private mortgage insurance, a property tax rate of $11 per $1,000 of property value, and an annual payment for homeowner’s insurance of $4 per $1,000 of property value. To decide if a household can afford a home or not, NAHB then apples the conventional underwriting standard that the sum of mortgage payments, property taxes and homeowners’ insurance during the first year should be no more than 28 percent of household income. The rationale for each assumption, along with the estimated income distribution for U.S. households, is explained in the HousingEconomics.com Special Study, “NAHB Priced-Out Estimates for 2020.”
Notice that the argument works just as easily in reverse. A reduction in interest rates will price households in to the market. Toward the end of 2018, after the Federal Reserve had been following a policy of monetary tightening for most of the year, the rate on a 30-year fixed rate mortgage stood at about 4.75 percent. At that rate, as the table above shows, about 38.8 million households would be able to afford the median-priced new home.
After the Fed switched to a policy of monetary easing in 2019, the mortgage rate dropped a full point to 3.75 percent by the end of the year, as noted above. At that lower rate, about 44.0 million households can afford the median-priced new home. In other words, the shift in monetary policy—and resulting full percentage point decline in mortgage rates—has brought the median-priced new home within range of roughly 5.2. million additional U.S. households in 2020.