An economic report by the American Express Bank Ltd. concludes that a crash in U.S. house prices and an economic recession are unlikely, though the housing market “is particularly weak.”
“U.S. house prices will probably be flat or down for awhile, although price falls in former hotspots will be compensated by continuing catch-up in other regions,” according to the “Economics for Investment” report released this month by the bank, an international subsidiary of American Express Co.
“The authors acknowledge that weakness in the U.S. housing market and a moderate economic slowdown does make the risk of a U.S. recession greater in 2007, but argue that a ‘soft landing’ is the most likely outcome. Moreover, any signs of a harder-than-needed landing will likely be offset by lower interest rates and bond yields.”
The run-up in house prices was “significantly smaller” in the United States than it was in the United Kingdom and Australia, the report states — U.S. house prices increased 97 percent in a 10-year period ending third-quarter 2005, compared with a 167 percent rise in the United Kingdom during a 10-year period ending third-quarter 2004 and a 127 percent rise in Australia during a 10-year period ending fourth-quarter 2003.
While the report states that “it would be brave to buy residential property in the U.S. today in the face of a slowing market,” it also notes that some real estate markets are going strong. Nine states that had below-average price gains over the past five years are now experiencing year-over-year price increases of 12 percent or more from second-quarter 2005 to second-quarter 2006: Idaho (20 percent), Oregon (19 percent), Washington state (17 percent), New Mexico (15 percent), Utah (15 percent), Wyoming (14 percent), Alaska (13 percent), Montana (13 percent) and Louisiana (12 percent).
“The overall U.S. house-price index may continue to edge up, as has been the case in Australia and the U.K., even while the hot local markets of a few years ago retreat,” according to the report’s authors.
A cause for concern, though, is the slump in the construction of new homes, as U.S. housing starts are down about 10 percent to 15 percent and building permits are down 20 percent. New-home starts dropped about 10 percent to 15 percent after the market peaked in Australia, while starts remained roughly flat after the market’s peak in the United Kingdom, according to the report.
“Overall, weaker house-building is likely to be a key factor slowing the U.S. economy,” and “it does look as though the U.S. housing slowdown is going to impact economic activity through the construction sector to a greater degree than in Australia and much more than in the U.K. This is one to watch carefully.”
From third-quarter 2003 to third-quarter 2005, home construction contributed about 0.5 percent to the annual gross domestic product in the United States, while home construction cut 0.6 percent from growth in second-quarter 2006.
Adjustable-rate mortgages do pose “particular concern” in the United States real estate market, the report states, because “short-term rates have risen far more in the U.S. than in the other countries and continued to rise after housing peaked last year.” But the report also states that interest rates are still relatively low compared to historical levels, and “the majority of mortgages outstanding are still at long-term fixed rates.”
Home builders have been building one new house per year for every 150 people in the United States, compared with the United Kingdom’s rate of one new home for every 350 people and Australia’s rate of one new home for every 140 people, according to the report. “It is … already evidence that the weakest part of the U.S. housing market is areas where new supply is large, particularly in the condominium sector.”
Housing is a smaller component of wealth in the United States than it is in the United Kingdom and Australia, the report states.
The report, citing recession risks, recommends that the Federal Reserve hold the Federal Funds Rate between 5 percent to 5.5 percent in 2007 — the Federal Open Market Committee voted last month to keep the rate at 5.25 percent, marking the first freeze after 17 consecutive increases. Meanwhile, the U.S. dollar is expected to rally “especially against Europe,” in 2007, “but sustained … weakness is probable against Asia.”
The report authors say that core inflation should ease back from its recent upturn, though year-over-year inflation is likely “to stay above the Fed’s comfort zone for the rest of this year and will likely still be above target in the early months of 2007, too.” Rising rental rates have put some pressure on core inflation, according to the report, “which is likely to be a temporary rather than permanent feature.”