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Economic Research

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Volume 9, Number 1
First Quarter 2007


FEATURES

After the Boom, Housing Affordability a Growing Challenge

Florida Drives the National Auto Market

A Falling Dollar: Good or Bad News?

DEPARTMENTS

Fed @ Issue

Grassroots

State of the States

Q & A

Research Notes & News

Southeastern Economic Indicators

Staff

BackGround

 

 
After the Boom, Housing Affordability a Growing Challenge

As Americans' rate of home ownership nears historical highs, home prices have risen simultaneously. Ensuring a supply of affordable housing for those aspiring to their share of the American dream remains a challenge in many areas, including the Southeast.

miniature houses
Photo by Brad Newton

The housing boom may be over, but the high cost of housing remains a significant economic concern and a potential threat to the federal government's established policy goals of encouraging home ownership as an avenue for wealth creation and social stability.

Between 2002 and 2006, average housing costs nationally increased by about 10 percent per year or a total of 50 percent, according to the Office of Federal Housing Enterprise Oversight. That rate of appreciation is historically high but was even greater in certain markets, particularly in desirable waterfront locations and in fast-growing metropolitan areas. For example, house prices in Florida for the same five-year period increased by about 100 percent—more than twice the national average.

"Housing affordability has become a critical issue not just in the Sixth [Federal Reserve] District, but also nationwide," said John Wieland, founder and chairman of John Wieland Homes and Neighborhoods, which builds homes in Southeastern markets including Louisville, Ky., Charlotte and Raleigh, N.C., Charleston, S.C., Nashville, Tenn., and Atlanta.

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National Association of Realtors
Center for Housing Policy
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HUD’s affordable housing

Putting affordability into context
When evaluating housing affordability, residential appreciation is an important factor, but there's more to the story than price. A more complete measure of various aspects of purchasing a home is depicted by the Housing Affordability Index (HAI), which is constructed by the National Association of Realtors. The HAI is designed to capture important components of affordability, including home price, a home buyer's income, and the cost of a mortgage (see the table).

The HAI considers median household income data, which is collected by the U.S. Census Bureau. The U.S. median income for families in 2005 (the most recent year available) was $55,832, compared with $51,742 in 2002—an increase of about 8 percent over four years. Underlying the median family income is employment, and during this same three-year period the job market gained strength. From 2003 to 2006, nearly 7 million new jobs were created nationally, and the unemployment rate declined to 4.6 percent, low by historical standards.

While the additional paychecks have helped to sustain economic growth and support house price appreciation along with household income, median family income has grown at roughly the same pace as inflation. More importantly to the housing affordability equation, median income growth has not kept pace with the rate of house price appreciation in many places.

Housing Affordability Index
Year
Median Price, Existing Single-Family Home
Mortgage Rate
Median Family Income
Qualifying Income
Composite Affordability Index
2003 $180,200 5.74 $52,680 $40,320 130.7
2004 195,000 5.73 54,061 43,632 123.9
2005 219,000 5.91 55,823 49,920 111.8
2006 224,900 6.76 57,837 56,064 103.2
Source: National Association of Realtors
Notes: Data for 2006 are through the third quarter. Mortgage rates are existing rates on loans closed on existing homes.

Along with income growth, demographic changes such as immigrant population growth and the retirement of baby boomers influence house price appreciation. Retiring baby boomers have been buying second homes and, in desirable locations within major markets such as intown Atlanta and Miami, condominiums as well. Also, the rapid growth in wages for many skilled jobs has boosted home prices in active job markets. At the same time, wages have stagnated for many lower- or unskilled jobs and in certain industries that have experienced layoffs, aggravating the recent increase in house prices.

In addition to median family income, the HAI also factors in qualifying income, which is the income required to qualify to purchase a median-priced home and is determined partly by the effective interest rate on mortgage loans that have closed on existing homes. While mortgage rates remain low by historical standards, they have increased in recent years.

However, even this modest increase in mortgage rates contributed to a sharp decline in housing affordability in 2006. With only moderate income gains and sharply rising housing costs, would-be home buyers were in a weakened position: The HAI went from 131 in 2003 to 106 in 2006—a 19 percent decline, indicating declining affordability. Depending on how the market adjusts to a sluggish housing sector, home buyers' position could strengthen.

Home ownership's societal impact
While housing market conditions vary widely depending on location, housing affordability has become an issue with broad economic and social implications because it has a direct bearing on home ownership.

roof shingles
Housing Affordability and the Low-Income Worker in Urban Areas

Home ownership rates are much higher than a decade earlier. However, renter households still make up a significant portion of housing. According to the National Low Income Housing Center, fully one-third of U.S. households, or nearly 36 million households, rent their homes.

In many urban locations, rising home prices are limiting the choices for low- and moderate-income families. Intown housing often provides easy commutes in traffic-congested locations, but once-affordable units are being converted into more expensive infill homes. The bottom line: The supply of affordable homes is shrinking in many places where low-income workers are needed.

As the supply of low- and moderate-income houses declines, developers of these types of properties get pushed farther away from job centers. The addition of new low-cost units is often perceived as a threat to suburban property values, and developers can meet local resistance when they propose housing that targets low- and moderate-income workers. This resistance provides yet another deterrent to new supply.

On one level, these dynamics are all part of a market economy where participants are free to adjust to changing signals. But with declining affordability, do low- and moderate-income households have viable options?

"The demand for rental housing has definitely gone up" in recent years with the increase in borrowing costs, said Egbert Perry, chief executive officer of the Integral Group, a mixed-use developer in Atlanta. "More people who were buying are now renters," he said, adding that landlords' previous subsidies and incentives to renters are falling by the wayside as demand increases. Meanwhile, growing numbers of developers of intown and downtown properties in major metropolitan areas are including affordable rental housing for lower-income residents in their mixed-use plans.

In Atlanta, for example, Lane Co., one of the developers of the massive midtown Atlantic Station project, built a 242-unit apartment building in 2006 and reserved 20 percent of the units for low-income tenants, according to Bendix Anderson of Apartment Finance Today magazine. To make those affordable housing units viable for the developer, the company applied for a Georgia Department of Community Affairs housing tax credit, a federal program administered by the state, noted a Lane Co. representative.

Since 1986, according to the Local Initiatives Support Corp. (LISC), the federal low-income housing tax credit has fueled more than a million new homes affordable to low-income families. LISC also established its own affordable housing preservation initiative in 2001. Working with nonprofit community development corporations, the group plans to acquire and preserve housing developments and to advocate for government policies that can reduce the loss of affordable homes and apartments.

In the United States, home ownership is considered a desirable economic outcome for many reasons. Families who own property are more likely to invest in their communities, and home ownership offers a path for individual families to save, which ultimately leads to more wealth and buying power, according to The Impact of House Price Appreciation: Portfolio Composition and Savings, a 2004 report from the Department of Housing and Urban Development. Home ownership can also lead to other financial advantages. For instance, households with mortgages generally have better access to credit and lower borrowing costs.

During the past decade, the rate of U.S. home ownership increased steadily as mortgage rates declined during a climate of low and stable inflation and new mortgage products were added to the financial services marketplace. With these conditions in place, home ownership has grown to the point where just under 70 percent of Americans own their homes. The home ownership rate has held steady for several years at a relatively high level, but the recent upward tick in mortgage rates along with the ongoing high cost of housing has placed downward pressure on the home ownership rate, which has stagnated for low- to moderate-income families with children.

To encourage home ownership, policymakers have approved various programs. For instance, the 2004 American Dream Act provides down payment assistance for low-income and first-time home buyers. Government sponsored enterprises such as Fannie Mae and Freddie Mac also target underserved borrowers and communities with the aim of making mortgages accessible to more of the population who otherwise couldn't afford a home.

Some home owners caught in a squeeze
New and innovative types of mortgages have brought home ownership within reach for many people who couldn't previously qualify for a mortgage. But some of the new mortgage products are untested by certain market conditions, and any additional leverage can bring more risk. "Since the mid-1990s, we've seen the extension of credit into the lower-income range, and subprime lending has increased," said Dan McCue, a researcher with the Joint Center for Housing at Harvard University.

During the past few years, lenders have reported rapid growth in mortgages that have low initial interest rates and monthly payments. But increases come later as the introductory period ends and the borrower has to begin making higher mortgage payments.

Affordability most affects those least able to buy a home. As housing costs increase, more families stretch their budgets and turn to alternative methods of mortgage financing, and affordability problems have become more widespread. The number of Americans who face housing-cost burdens (defined by the Joint Center for Housing Studies as those paying more than 30 percent of their income for housing, including taxes and insurance costs) increased by two million between 2001 and 2004, to a record 15.8 million, according to the center.

Affordability faces some obstacles
Clearly, strong demand for new affordable housing exists. But restrictions on residential development, including land use regulations that limit lot size and density, aggravate the problem of housing affordability in many locations.

In more costly metropolitan areas, these restrictions have made housing less affordable. In 2006, the median home price in the 202 largest metropolitan areas was about $248,000, according to the Center for Housing Policy. At that price, a home buyer would need an income of $85,000 to quality for a mortgage, assuming home buyers needed a 10 percent down payment and could afford to commit 28 percent of their income to mortgage payments, property taxes, and home insurance. In San Francisco, the nation's most expensive market, the median-priced home was $759,000, requiring an income of $260,000 to buy a home.

While house prices are lower in many Southeastern cities than in the rest of the country, concern is growing that many households with incomes in the median range can no longer qualify for conventional mortgages, according to the Center for Housing Policy. As affordability declines, more and more families face difficult choices.

Various federal, state, and local programs have attempted to respond to this situation by encouraging development of low-cost housing for rent or purchase. One option for making affordable housing more available is the community land trust, which is a nonprofit entity that acquires and holds land for the benefit of the whole community.

Also, some communities offer educators, police officers, or firefighters incentives to buy homes in the areas they serve. To the same end, with the decline in affordability, some hospitals are planning their own units to provide housing for health care workers priced out of the local market.

"The price of homes is of serious concern for the health care industry," according to the Center for Housing Policy's January 2007 report. If some skilled workers face difficulties owning their homes, the problems low-skilled workers confront is especially acute (see the sidebar "Housing Affordability and the Low-Income Worker").

Builders read the signals
While lower affordability may be one reason behind the slowed demand for purchased housing, the overall adjustment in demand generally has been orderly to this point. Homebuilders have responded to initial signals of weakening demand by easing up on the pace of new home construction. The number of single-family home permits nationally in 2006 was 1.8 million, down from 2.1 million in 2005, according to the U.S. Census Bureau.

Economists have noted that housing prices nationally are still high relative to rents and interest rates. As for the housing sector's broader impact, it supports a range of jobs and has been a major driver of economic growth, especially in the Southeast, where population and new home construction growth have exceeded national averages (see the sidebar "Home Price Trends in the Southeast"). Because declining affordability limits demand for housing, sustainable economic growth depends on an orderly adjustment in home construction and housing prices—an outcome that appears to be unfolding but is not yet a certainty.

With housing affordability declining and residential activity continuing to adjust at different rates in different locations, consumers face varied landscapes depending on where they live. Ensuring a supply of affordable housing remains a challenge in which developers, policymakers, and the public have a large stake.

This article was written by William R. Smith, a staff writer for EconSouth, with Julie Hotchkiss, a research economist and policy adviser on the regional team of the Atlanta Fed's research department.

housing development
Home Price Trends in the Southeast

Regional house price trends vary widely, with factors such as proximity to water, hurricane repercussions, and insurance rates influencing prices. Here are some snapshots of home prices in the Southeast.

Florida: Home costs higher than the national average
Five years ago, the median home cost in Florida was less than the national average. But with extraordinary house price appreciation in the state, the median price for an existing home in Florida has surpassed the median price for the rest of the country. Even with a slight decline in prices in 2006, the median price for an existing home in Florida was $242,100, compared with $219,300 for the United States overall, according to the National Association of Realtors.

"With the run-up in housing prices we've seen in recent years, housing affordability has become a significant problem," said Brad Hunter, director of the south Florida market for Metrostudy, a housing market research firm.

Strong job growth and an influx of new residents supported Florida's housing boom. The state added nearly one million new jobs from 2002 to 2006, and during that time the rate of home ownership increased sharply, to about 72 percent, according to the U.S. Census BureauÑa level higher than the national average. But even after this period of very strong economic growth, median family income in Florida remained below the national midpoint at $50,465, data from the Census Bureau indicate.

Rapid house price appreciation is one challenge for affordability in Florida, and another is the recent spike in insurance premiums related to hurricane damage.

Some cost-sensitive residents are hard-pressed to afford housing in the state, Hunter said. In contrast to several years ago, when Florida's population increased by the thousands every week, certain markets, including Palm Beach and Broward County, now report a net loss of residents. The moving company Atlas Van Lines reports that it moved nearly 1,300 more households out of Florida in 2006 than it moved in, a decline that came after 20 years of the company moving more households into the state than it moved out.

Florida will always enjoy its iconic natural advantages, including abundant sunshine and beaches, and the state's job market remains solid. But a backlash against growth is gaining momentum, and housing affordability may become an impediment to economic development in some of the most expensive locations. "It's more challenging for economic development agencies to attract businesses and attract robust job growth," Hunter said.

Georgia: Income grows more slowly than the national median
For many years, Georgia has been one of the most active states for homebuilders as the Atlanta metro area's population approaches four million. But employment has suffered from some layoffs and plant closings. Since 2002, median family income growth has lagged behind the rest of the country, increasing more slowly than inflation and posing affordability problems for a large number of low- and moderate-income households.

The rate of home ownership in Georgia has declined from 72 percent to 68 percent since 2002, according to the U.S. Census Bureau. With only moderate growth in demand and a plentiful supply of new houses, price appreciation in Georgia was lower than in the United States overall.

In the metropolitan Atlanta suburbs and in lower-cost parts of the state, affordable housing choices are available. But inside Atlanta's Interstate 285, worsening traffic congestion makes demand strong for housing located close to intown employment centers.

As a result, more expensive residences are replacing low-cost housing. "We are losing affordable housing where we need it most, close to the city," said John Wieland, founder and chairman of John Wieland Homes and Neighborhoods, a Southeastern developer.

Tennessee and Alabama: Few affordability issues
Tennessee house prices have increased 25 percent since 2002, according to the Office of Federal Housing Enterprise Oversight (OFHEO), on par with Georgia but less than in the entire United States overall. Nashville has attracted strong growth in residential construction, while median income growth has been moderate. In recent years, the home ownership rate in Tennessee has climbed steadily, reaching more than 72 percent in 2005.

Affordable housing remains widely available in Alabama despite a 30 percent increase in house prices since 2002. Alabama's rate of home ownership at nearly 77 percent is well above the national average of just under 70 percent.

Mississippi and Louisiana: A story of storms
In 2005, Hurricane Katrina wiped out much of the housing stock in New Orleans and some other parts of Louisiana and in the process altered much of the local economic landscape. However, according to OFHEO, housing prices in Louisiana between 2002 and 2006 increased by 28 percent, slightly less than the national average.

Posthurricane residential construction has been slow, in part because workers needed for the rebuilding effort have difficulty finding affordable housing, according to some economists. While legal and insurance complications have added to rebuilding delays, government programs have helped thousands of displaced home owners find shelter, easing New Orleans's shortage of affordable housing.

At the same time, residents who have relocated from flood-damaged homes have bid up the price of housing in parts of the state not damaged by storms. Median home prices in Baton Rouge increased 27 percent in 2006, for instance.

Some of the affordability problems in Louisiana can be found in Mississippi as well, where many households along the Gulf Coast are continuing to rebuild after the 2005 hurricane season. Housing costs have increased in Jackson and other areas, where damage was limited and displaced coastal residents have relocated. Since 2002, Mississippi housing prices have risen 28 percent, according to OFHEO, a problem in a state where median family income in 2005 was last in the nation at $46,570.