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Rates likely a very modest drag on housing

March 23, 2021

Graph depicting average monthly changes in existing single family home sales during periods of rising mortgage rates

Blue bars represent the periods that coincide with Federal Reserve rate hikes

Source: National Association of Realtors

Existing home sales were much weaker than expected in February, falling by 6.6 percent to an annual pace of 6.22 million. This is the second outsized decline in the last four months and, outside of the early stages of the pandemic last spring, marks the biggest drop in the series since late 2015.

Given these numbers, as well as the malaise in the data flow more generally of late, it is tempting to conclude that rising long-term interest rates are beginning to have a material impact on the trajectory of the recovery. Existing home sales, for example, hit their high-water mark thus far in the current cycle last October, just as 30-year mortgage rates were nearing an all-time low. Still, the sales recorded in February were largely initiated before much of the recent run-up in rates and there were likely much bigger drivers at play, including poor winter weather, limited supply, and the typical ebb and flow in a volatile data series (note that there were several pullbacks in existing home sales even during the boom during the early-to-mid 2000s).

More to the point, higher long-term rates have historically had a mixed record in their impact on housing, not coincidentally weighing on sales when they have been accompanied by Federal Reserve tightening and having little impact when monetary policy has been on hold. Home sales remained healthy when mortgage rates jumped in the mid-1990s, early 2000s, and early 2010s and the Fed was sidelined, for example, but weakened during similar episodes in the early-to-mid 1990s, mid-2000s, and late 2010s when the federal funds target was lifted. The housing market suffers when financial conditions are tightening more generally, but has performed well when the curve is steepening and the outlook is brightening.

The effect of rising long-term interest rates should of course also be viewed through the lens of the underlying economic backdrop. This recovery is easily the strongest in four decades and is well set up for the years ahead given the improving labor market and the massive doses of monetary and fiscal stimulus. As even the lurching turnarounds of the last three cycles were able to withstand significantly higher yields than prevail at the moment, it is hard to imagine that the robust expansion now underway will buckle under the weight of what still qualifies from an historical perspective as a relatively modest rise to a very low level.

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