Effects of QE3 in the Housing Market

In yet another attempt at jump starting the economy, the Federal Reserve’s latest major stimulus action, known as QE3, is likely to have less effect on the housing market than Fed Chairman Ben Bernake would hope.

QE3, shorthand for the third “quantitative easing” effort undertaken by the Fed since the onset of the Great Recession, essentially involves the Fed buying up a great many bonds to increase the money supply and reduce interest rates. With the first two attempts having dubious results – depending on who you ask, they either slowed the economic decline without reversing it or accomplished nothing except lining bankers’ pockets – the third is likely to be even less effective, as issues other than interest rates govern the current trends in the housing market.

The Fed is limited to working through banks and brokers to try and effect economic change, and this time the banks are not quite as quick to play ball. While QE3 will reduce the interest rate banks have to pay to make loans, there has not yet been a corresponding decline in customer interest rates to take out those loans and actually put them to use buying or building homes.

The banks claim this is because a reduction in rates would result in too many customers overwhelming their fixed capacity to make loans. Critics believe this hogwash, arguing that banks are simply taking advantage of the lowered interest rates for themselves while widening their profit margins on the extra-safe loans they are exclusively making right now. Either way, it will be some time before rates start to fall for the everyman.

But interest rates and affordability of loans are not the only two issues limiting the growth of the housing market. One major concern is that, with mortgage interest rates already depressed from earlier economic efforts, the pool of people willing or able to take out a loan has shrunk dramatically.

At the top you have those who were not hit especially hard by the recession: four years later, most of them have already used the low interest rates and their own favorable situation to make what purchases they were going to. Below them are those with solid credit histories but a distressingly fallen home value; many of these people have already refinanced when rates were lowered years ago. At the bottom are those whose credit is insufficient to qualify them for a new loan or refinancing – a group completely unaffected by any attempt at making more money available.

Housing has historically been a major driver of economic recoveries, but home purchases and refinancing have barely recovered despite all attempts to the contrary. An overall economic resurrection will be difficult without a corresponding increase in home values and consumer confidence. But with interest rates already at their lowest point in a generation, and banks either unable or unwilling to lower them further, the Fed is nearly out of options.

Some analysts believe that over time, borrowers will again gain confidence in the housing market and start to look for new homes to buy. But in some markets, there might not be any homes to buy. In areas that otherwise weathered the huge drop in home values that plagued most of the country, there is a large lack of available, desirable housing for those who want to move. While it has not been the focus of his speeches, some believe what Bernanke really hopes with this most recent easing effort is an increase in home building, giving builders and contractors the confidence to start constructing new neighborhoods to house these alienated buyers without a product to buy.

By Lily Spencer


Photo Credit: 401(K) 2012

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1 Comment

  • Housing has been subsidized as much as humanly possible through artificially low interest rates, first time home buyer credits (robs future demand), and government mortgage modification programs (had little impact). Certainly some people have lost their homes and part of the malinvestment has been cleared from the system. However, low interest rates have not allowed the market to re-calibrate itself entirely. Socially, you can argue this is good as more people remain in their homes and avoid credit-destroying foreclosure. However, home values are still higher than they should be which means they’re unsustainable and more unfavorable for current home buyers (those in Gen Y who are lucky enough to have a job). This graph, courtesy of Mark Perry, illustrates a disturbing trend if you have a dog in the housing fight:

    US Home Ownership Rate vs. Housing Prices

    Home ownership rates continue to decrease while prices are starting to climb. Fifty percent of college graduates are underemployed and many have significant debt burdens. The demand for housing just isn’t there to sustain these price increases. Of course these are general national trends and every market/neighborhood is different. But those who could take advantage of cheap mortgage rates by refinancing and/or buying multiple properties likely have already done so.

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