We are kidding ourselves that mortgage rates are not the problem. Here is why:

We are asking today’s buyers to pay 15 percent more per month than we asked them one year ago. Entry-level buyers simply cannot afford to make the payment, which is why so many builders are offering loan programs with subsidized mortgage payments over the first few years.

We are kidding ourselves that mortgage rates are not the problem. Here is why:

We are asking today’s buyers to pay 15 percent more per month than we asked them one year ago. Entry-level buyers simply cannot afford to make the payment, which is why so many builders are offering loan programs with subsidized mortgage payments over the first few years. Move-up buyers may be able to afford the payment, but the thought of giving up a low-interest-rate loan for a loan that is 15 percent more expensive (plus the additional balance for buying a more expensive home) is a significant psychological deterrent.

Our grading system of the economy and the housing market is a “bell curve” model, with statistics at an all-time high receiving an “A,” statistics near the long-term average receiving a “C,” and the worst times ever receiving an “F.” In this grading system, it is OK to be a “C” student.

Here is our current report card:

Economic Growth: C

The U.S. economy has slowed from the first quarter of 2006, but is still perceived as healthy. Economic growth in the second quarter was 2.5 percent, significantly lower than the revised 5.6 percent growth rate for the first quarter of 2006. In July, job growth slowed for the fourth straight month. In spite of this, the job market remains healthy, as illustrated by the 1.73 million jobs added to the economy in the last 12 months. The core CPI inflation rose to 2.6 percent, and total inflation was 4.3 percent.

Leading Indicators: C-

The leading economic indicators suggest that the economic growth may be next to nothing later this year, which is one reason that the Fed decided to stop raising rates. Although the outlook for purchases by businesses is strong, the outlook for consumers is weak. The slightly negative yield curve is indicative of a very bearish outlook over the next year.

Mortgage Rates: B-

Mortgage rates continued to rise in July, with the one-year adjustable mortgage rate six basis points higher, 5.78 percent at month-end, while fixed mortgage rates rose to 6.72 percent. In its meeting this month, the Federal Reserve left the federal funds rate target unchanged at 5.25 percent, citing a slowing economy. The pause marks a break from 17 consecutive rate increases.

Consumer Behavior: C+

Consumer confidence rose in July to 106.5, with expectations for future months remaining cautious. The decrease in the Consumer Sentiment Index in July to 84.7 was largely due to rising gas prices.

Existing-Home Market: B-

June sales of existing homes fell to a 6.6 million annual sales rate, down nearly 9 percent from one year ago. Inventory of existing homes continues to increase, rising to 6.8 months of supply, a value that matches the highest rate since July 1997. There are a record number 3.7 million existing homes available for sale.

New-Home Market: C+

June new-home sales declined to a 1.13 million-unit annual rate, its slowest pace in three months. During the month of June, new-home sales fell in all regions of the U.S. except the West. The Housing Market Index, which measures builder confidence, dropped another 3 points to 39, a decline of 44 percent in the last year. Unsold new-home inventory has increased to 6.1 months of supply, while the supply of completed homes increased slightly to 1.3 months.

Housing Supply: C

Construction is declining. Housing starts decreased to 1.85 million in June from 1.95 million in May, down 11 percent from one year ago. Single-family starts declined to 1.48 million. Permit activity fell for the fifth month in a row to 1.86 million units, nearly 15 percent below the permit level in June 2005.

John Burns is the founder of Real Estate Consulting in Irvine, Calif., which monitors changes in real estate market conditions and provides consulting services, including strategic planning, market research and financial analysis. He can be reached at jbrec@realestateconsulting.com.

***

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