Interest Rate Dilemma
Interesting article on how low interest rates are keeping people from selling their homes, because replacement homes will have higher mortgage interest rates . . .
When Does A Home Become A Prison?
The housing market is suffering from a supply shortage, not a demand dilemma. As Millennial first-time homebuyer demand continues to increase, the inventory of homes for sale tightens. At the same time, prices are increasing, so why aren’t there more homeowners selling their homes?
In most markets, the seller, or supplier, makes their decision about adding supply to the market independent of the buyer, or source of demand, and their decision to buy. In the housing market, the seller and the buyer are, in many cases, actually the same economic actor. In order to buy a new home, you have to sell the home you already own.
So, in a market with rising prices and strong demand, what’s preventing existing homeowners from putting their homes on the market?
“Existing homeowners are increasingly financially imprisoned in their own home by their historically low mortgage rate. It makes choosing a kitchen renovation seem more appealing than moving.”
The housing market has experienced a long-run decline in mortgage rates from a high of 18 percent for the 30-year, fixed-rate mortgage in 1981 to a low of almost 3 percent in 2012. Today, five years later, mortgage rates remain just a stone’s throw away from that historic low point. This long-run decline in rates encouraged existing homeowners to both move more often and to refinance more often, in many cases refinancing multiple times between each move.
It’s widely expected that mortgage rates will rise further. This is more important than we may even realize because the housing market has not experienced a rising rate environment in almost three decades! No longer is there a financial incentive to refinance for most homeowners, and there’s more to consider when moving. Why move when it will cost more each month to borrow the same amount from the bank? A homeowner can re-extend the mortgage term another 30 years to increase the amount one can borrow at the higher rate, but the mortgage has to be paid off at some point. Hopefully before or soon after retirement. Existing homeowners are increasingly financially imprisoned in their own home by their historically low mortgage rate. It makes choosing a kitchen renovation seem more appealing than moving.”
There is one more possibility caused by the fact that the existing-home owner is both seller and buyer. In today’s market, sellers face a prisoner’s dilemma, a situation in which individuals don’t cooperate with each other, even though it is seemingly in their best interest to do so.
Consider two existing homeowners. They both want to buy a new house and move, but are unable to communicate with each other. If they both choose to sell, they both benefit because they increase the inventory of homes available, and collectively alleviate the supply shortage. However, if one chooses to sell and the other doesn’t, the seller must buy a new home in a market with a shortage of supply, bidding wars and escalating prices. Because of this risk, neither homeowner sells (non-cooperation) and neither get what they wanted in the first place – a move to a new, more desirable home. Imagine this scenario playing out across an entire market. If everyone sells there will be plenty of supply. But, the risk of selling when others don’t convinces everyone not to sell and produces the non-cooperative outcome.
- Owner moves, but pays a price escalated by supply shortages for a more desirable home
- Owner stays in current house and does not get a more desirable home
- Owner moves, finding a more desirable home without paying a price escalated by supply shortages
Rising mortgage rates and the fear of not being able to find something affordable to buy is imprisoning homeowners and causing the inventory shortages that are seen in practically every market across the country. So, what gives in a market short of supply relative to demand? Prices. According to the First American Real House Price Index, the fast pace of house price growth, combined with rising rates, has had a material impact on affordability. In our most recent analysis in April, affordability was down 11 percent compared to a year ago. It was once said that a man’s home is his castle. In today’s market, a man’s home may be his prison, but he is getting wealthier for it.