In May, home construction in the United States slowed to its lowest pace in four years, adding pressure to an already tight housing market. The decline, driven by high mortgage rates, has raised concerns about persistently high housing prices.
Government data released on Thursday revealed that housing starts fell by 5.5% in May, reaching an annualized rate of 1.28 million. This decline, which included both single-family and multifamily homes, was accompanied by a 3.8% drop in building permits, indicating a potential further slowdown in future construction.
The average rate on 30-year mortgages, the nation's most popular home loan, reached levels not seen in decades, though it slightly dipped to 6.87% this week, according to Freddie Mac.
"The magnitude of the decrease in construction underscores that high interest rates are weakening housing demand and raising costs for builders," said Daniel Vielhaber, an economist at Nationwide. He noted that builder sentiment dropped in May to its lowest level this year and has since declined further, suggesting continued slow home construction in the coming months.
This reduction in building activity is straining prospective home buyers. "If you’re someone looking to buy a home, what you ultimately want is a lot more supply," said Chen Zhao, head of housing economics at Redfin. "Anytime we see less building, that is bad news."
Data from the U.S. Census Bureau and the Department of Housing and Urban Development suggests that home prices are unlikely to drop significantly over the next couple of years. "One more factor that would keep home price growth high is tighter housing supply," Zhao added.
The Federal Reserve recently left interest rates unchanged but predicted just one rate cut before the end of 2024. Builders are reacting to uncertainty surrounding the Fed's future decisions, Zhao noted, as lower rates could potentially boost housing demand.
Julia Fonseca, assistant professor of finance at the University of Illinois at Urbana-Champaign, highlighted the significant increase in mortgage rates from around 3% in June 2021 to the current levels. This rise began in 2022 when the Fed started raising its benchmark rate to combat inflation.
First-time home buyers are particularly affected by high prices, high interest rates, and low inventory. "Many homeowners with lower mortgage rates feel locked in, limiting their mobility and restricting housing availability," Fonseca explained. Lower construction rates could exacerbate these challenges, further increasing price burdens for consumers. "If new construction is not happening, that could drive prices up even further," she concluded.
The ongoing decline in home construction, coupled with high mortgage rates, is likely to continue affecting the housing market, making it even more challenging for buyers to find affordable options.