High Home Prices: Contributing Factors and Policy Considerations

High Home Prices: Contributing Factors and Policy Considerations

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February 18, 2022
High Home Prices: Contributing Factors and Policy
Considerations
Introduction
significantly, leaving some potential homebuyers better
Home prices have been rising over the past decade, with the
positioned to purchase homes. The pandemic also changed
rise accelerating during the COVID-19 pandemic (see
the preferences of some households for amenities correlated
Figure 1). Policymakers and the public have expressed
with homeownership, such as more square footage and
concern over the impact high home prices may have on
larger yards. The National Association of Realtors (NAR)
individuals, society, and the economy. This In Focus
reported that in 2021 existing home sales reached their
reviews a number of factors that have contributed to high
highest level since 2006.
home prices and discusses selected policy considerations.
On the supply side, even before the pandemic, the inventory
Figure 1. Home Prices
of new and existing homes had been relatively low
January 1991-November 2021
compared to levels in the late 1990s and early 2000s. The
low home inventory was drawn down further during the
pandemic. For example, in the second half of 2020, the
inventory of new homes was equivalent to 3.5 months of
supply at the then-current sales pace, matching the all-time
low set in August 2003. The NAR’s latest data show that
the inventory of existing homes reached an all-time low
equal to 1.8 months of supply in December 2021. A six- to
seven-months’ supply of homes is typically thought to
indicate a balanced housing market.
Figure 2. Housing Starts and Construction Costs
January 2006-December 2021

Source: FHFA Purchase Only House Price Index.
Notes: Index January 1991=100. Gray bars indicate recessions. The
March-April 2020 recession was triggered by the onset of COVID-19.
Contributing Factors
There are several potential factors contributing to the rise in
home prices, both over the past decade and since the start of
the pandemic. But at the heart of the rise in home prices is
the interaction between supply and demand: There are more
people who want to buy homes than there are homes for
sale. As a result, prices have increased.

The upward trend in home prices over the last decade
Source: Census Bureau and HUD, New Privately Owned Housing
started in mid- to late 2011 partly as demand rose with an
Units Started; BLS, Producer Price Index by Commodity: Special
improvement in household incomes and balance sheets (and
Indexes: Construction Materials.
the economy) after the 2007-2009 financial crisis and
Notes: Construction Cost Index January 2020=100. Gray bars
housing bubble burst. Accompanying the recovery was the
indicate recessions.
start of a general downward trend in mortgage interest rates
that has been attributed to a number of factors, including
High home prices and historically low home inventories
Federal Reserve (Fed) policy, slower than expected
should be encouraging builders to ramp-up construction.
economic growth following the financial crisis, a global
Housing starts have generally been trending upward after
savings glut, and aging demographics. Mortgage rates
dropping precipitously at the start of the pandemic.
continued to hover around historic lows into 2022,
However, the cost of construction has also risen and at a
supporting home-buying demand.
faster rate than starts (see Figure 2). The increase in
construction costs is likely due to supply chain impacts on
More recently, changes in household behavior during the
the availability of materials as well as labor shortages.
pandemic have further pushed up demand. In the initial
Some of the pressure on home prices should start to be
months of the pandemic, the personal saving rate rose
alleviated as supply chain bottlenecks and labor shortages
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High Home Prices: Contributing Factors and Policy Considerations
are resolved, lowering construction costs, and as supply is
construction was 17.4 months and increased with the
added.
number of units and varied across geographic regions.
These figures do not include the time needed to locate a
Selected Policy Considerations
building site or design and plan construction and may be
understating current completion times given labor
The Two Sides to Higher Home Prices
shortages.
Economists view prices as market signals that help to direct
resources to their most productive use. Some policies to
Demand-Side Subsidies and Home Prices
address high prices could distort these signals, reducing
One approach to making home prices more affordable is to
economic efficiency. But price changes can also have
provide financial assistance to potential buyers and current
distributional effects. Higher home prices impact those who
owners, often categorized as demand-side subsidization.
desire to own a home differently from current homeowners
Examples include a first-time homebuyer tax credit, the
and homebuilders. As a result, policies that are intended to
mortgage interest deduction, and federally insured low
address rising home prices will impact buyers and owners
down payment mortgages (e.g., FHA loans). Demand-side
differently.
subsidies can help target the issues at the root of
affordability: incomes that are too low relative to housing
On the one hand, high home prices decrease
costs and down payment requirements that are too high.
homeownership affordability for potential buyers. Some
However, demand-side subsidies can contribute to home
buyers may still be able to purchase their preferred homes,
price pressures, negating the intent of the policy. This effect
while other buyers may have to compromise on home size,
could be greater in the short term, as supply takes time to
amenities, quality, and location. Still others may choose to
adjust, and in tighter housing markets.
continue renting either to wait for home prices to come
down or because they were effectively priced out of their
Impact of Local Laws and Policies
desired markets. High home prices could decrease housing
Local laws and policies, particularly zoning and land-use
affordability in the short term for households that continue
restrictions, can be impediments to expanding the supply of
to rent to the extent that home prices and rents are
housing. For example, local zoning and land-use policies
correlated.
determine, among other things, whether private land may be
developed for residential or commercial use; the type of
On the other hand, current homeowners generally welcome
residential property that may be constructed (single family,
higher home prices, aside from potentially higher property
multifamily, manufactured); and the number of properties
taxes. As home prices increase, homeowners experience an
or units allowed per a given land area. Further, homeowner
increase in their home equity (home price minus mortgage)
association bylaws of private subdivisions may restrict the
and therefore an increase in their overall net worth. Home
types of modifications that residents can make to their
equity can be borrowed against to finance home
properties and how many people may occupy a property.
improvements, unexpected emergencies, health care
expenses, a child’s education, and personal consumption.
There are current federal grant programs (e.g., Community
Some have argued that the benefits from homeownership
Development Block Grant) that contain zoning and land-
provide a rationale for government ensuring
use reporting requirements, but there are no federal
homeownership is affordable. For more information, see
programs that attach a requirement that local zoning and
CRS In Focus IF11305, Why Subsidize Homeownership? A
land-use policies be changed. Policymakers could attempt
Review of the Rationales, by Mark P. Keightley.
to require that federal financial assistance be conditional on
modifying local zoning and land-use policies, but this may
Housing Supply Increases Take Time
raise legal issues. Alternatively, localities could be required
A logical step to reduce home prices is to increase the
to consider certain policies as a condition of receiving
supply of housing. As mentioned previously, high home
financial assistance. Flexible financial assistance could be
prices act as a market signal to direct developers to supply
provided to localities to plan and implement certain zoning
more housing. In addition, production-based (supply-side)
and land-use changes.
policies that subsidize the cost of construction could
encourage more development. One current policy proposal
Federal Reserve Policy and Home Prices
intended to encourage the development of affordable homes
The Fed’s statutory mandate is to conduct its monetary
for ownership in certain targeted areas is the Neighborhood
policy to promote maximum employment and stable prices.
Homes Investment Act (NHIA), which is included in the
Monetary policy, among other factors, influences mortgage
Build Back Better Act (H.R. 5376). For more information
rates, which, in turn, influence home-buying demand. The
about the NHIA, see CRS In Focus IF11884, Neighborhood
Fed does not take home prices (or other asset prices) into
Homes Investment Act: Overview and Policy
account when setting monetary policy and therefore may
Considerations, by Mark P. Keightley.
contribute to high home prices via lower mortgage rates
when the demand for housing is already high. Some have
Increases in the housing supply take time, with or without
argued that the Fed should consider the effect of monetary
government encouragement, given the nature of
policy on home prices and asset prices more generally.
construction. The U.S. Census Bureau’s Survey of
Construction shows that it took an average of 8.8 months to
Mark P. Keightley, Specialist in Economics
construct a single family home in 2020 from building
Lida R. Weinstock, Analyst in Macroeconomic Policy
authorization to completion. The length for multifamily
IF12048
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High Home Prices: Contributing Factors and Policy Considerations

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