Dr. Sam Chandan is joined by Ed Pinto, Director of the Housing Center at the American Enterprise Institute, to discuss his recent testimony in front of the US Senate about the State of the Housing Market.
In a recent hearing hosted by the US Senate Committee on Banking, Housing, and Urban Affairs, visiting panelists were prompted with a straightforward set of questions: What is the state of the housing market? Why is it the way it is? How might one address it? “You might say ‘well, isn’t that what normally they would do?’”, says Ed Pinto, Director of the Housing Center at the American Enterprise Institute (AEI), who was a panelist at the hearing and joined a recent episode of The Urban Lab podcast to recap the day. “Well, I actually haven’t been at a hearing that was positioned quite like that.”
Pinto, who formerly served as Executive Vice President and Chief Credit Officer at Fannie Mae, was invited to the hearing to present his expertise on bringing housing back within reach, a topic that has gained renewed attention from policymakers of late. The Housing market’s resiliency during the pandemic has proven an encouraging economic outlier from otherwise challenging 2020. The residential bull run, which started in 2012 as the economy recovered from the Great Financial Crisis, has turned into one of the longest stretches of growth in the sector’s history. "That's a very long time for a boom," says Pinto, noting that prices have only accelerated further in the twelve months since the pandemic began.
The latter development— which has challenged assumptions about how the Housing market performs during a recession, “is the result of extremely low interest rates, the lowest rates in our history… combined with the tightest supply in history,” Pinto claims. While a bullish market strengthens home values for existing homeowners and should encourage investment in new housing supply, new supply is not arriving on the market fast enough. According to recent data published by the AEI, housing inventory in February 2021 was down 47% from two years ago despite persistently strong demand. “The problem, of course, is that if you have that tight of supply, supply and demand kicks in, and you get these very rapid home price increases,” Pinto explains. “So, we have a market very far from equilibrium.”
The trend of rapid home price inflation and stagnant supply heightens the barriers for those at the lower end of the income spectrum, straining affordability and reinforcing wealth inequality. According to the National Low Income Housing Coalition, the US has a 6.8M housing unit supply gap, with no State meeting the adequate number of affordable homes needed for its lowest-income renters. While the metric focuses on the supply of rentals, from a practical standpoint, the estimate encompasses the totality of the Affordable Housing needs gap.
The impact is amplified for minority households— an analysis by Redfin in June 2020 estimates that just 44% of Black families own the home they live in compared to 73.7% for White families. As home-equity values chart record highs across the nation, a majority of Black households are being left out, with many forced to face accelerating rent prices or depressed wage growth in most metros. "When we compare home prices to fundamentals of construction costs, wages, rents, etc., we find that since 2012, home prices are going up 2-to-3 times faster than those fundamentals, and they're going up the fastest at the lower end of the market," Pinto explains. "The bigger that gap gets, the more painful will be the correction, and that correction will really hit low and minority income homeowners the most.”
Underneath these realities lie the local zoning and land-use rules that govern the housing market throughout the United States. The regulations, which allow for communities and local governments to exercise discretion over land-use priorities, are inextricably tied to the supply levels and, therefore, housing costs.
In a case study produced by the AEI, a team of researchers analyzed the Housing market in the Portland, OR metropolitan area, which has its population split across State lines, where two-thirds of the population lives on the Oregon side, while the other third resides across the river in Washington. The team found that the lumber and labor markets were generally consistent across State lines, but results began to diverge when observing land costs and the land use laws that govern each side. “Ironically, the land use laws in Oregon and Washington are almost identical. They both have urban boundaries; they both describe the urban growth boundaries the same way— the goal of urban growth boundaries is not to stop growth, it’s to keep it within a boundary.” Explains Pinto. “But the boundary should always have enough land for the next 20 years.”
According to Pinto's analysis, the problem is that Washington has taken this to heart, while Oregon has taken a less direct approach. "[Washington] changes the urban growth boundary maybe every five years…. [but] Oregon said, 'oh, we are going to assume [that] the amount of land that's available within the boundary is fine; it just needs to be denser. But up to very recently, there hasn't been anything that's allowed for that densification, so every time that they do this, it basically doesn't lead to an increase in supply." As a result, Washington is better equipped to provide an adequate supply of new housing as its population grows.
While in some cases, restrictive land-use laws are born from community input or environmental concerns, many local codes throughout the US originate from discriminatory housing policies put in place during the early 20th century that sought to prevent Black and other ethnic minorities from homeownership in particular areas. By 1935, one year after the establishment of the FHA, federal underwriting standards deliberately sought to prevent inter-racial mixing in neighborhoods via lending rules, leading to a codification of restrictive zoning laws throughout the nation. “That, in my estimation, has prohibited the construction of an estimated 8M units that would have been built if we had just been building at the same rate [today] that the housing stock had in 1940.”
Turning to potential solutions, Pinto relayed to the Senate Committee a series of policies to consider moving forward, emphasizing one that is sure to raise a few eyebrows—eliminating the 30-year mortgage in favor of 20-year loans. He points out that the origin of the 30-year mortgage stems from when the Federal Reserve started to raise interest rates in the 1950s, and the Treasury Department sought an offsetting mechanism to limit the Housing market impact. Naturally, with the longer-term came lower monthly debt servicing costs. Proponents, at the time, argued the 30-year mortgage would make housing more affordable by introducing leverage, where borrowers could lower their initial costs of entry into the market in exchange for longer payment terms.
However, according to Pinto, the intended outcome of increasing affordable entry points over the long-term abjectly failed. When market prices stabilized at affordable levels, the marketplace incentivized the construction of larger units which maintained constraints on buyers at the lower tier. “We made it more expensive, and we made it available to buy not the $1000, 1,500 sq ft starter home —but the 2,500 sq ft starter home." Says Pinto. "During periods of boom, the price went up a lot, and we had to add a lot more leverage, and during periods not so much a boom—the size of the house expanded. So, it was always getting to be more expensive relative to incomes in general," he explains. Reexamining the rules and incentives that govern lending in the housing market will help policymakers more comprehensively address the affordability issue. The 20-year mortgage, Pinto says, "seems to be the natural spot to do this.”
While the renewed focus on affordability is encouraging to housing advocates, to achieve a sustainable solution, it will be vital to reflect on where past policies went wrong. "We have to make sure we get the answers right this time because we haven't gotten it right over the past 70 years.”
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