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Housing Starts: Is a Bottom in Sight?

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January 23, 2008 (Housing Market Monitor)

by Dean Baker 

"Foreclosure rates in California are up 421.2 percent from last year.

The annual rate of housing starts in December fell to 1,006,000, less than half the 2,068,000 rate for 2005. There were 1,354,000 starts for 2007 as a whole, a figure that was lower than even the most pessimistic forecasts.

While the sharp decline in starts has decimated the residential construction industry, it may actually be good news in the long-run. There remains an enormous over-supply of housing by every measure. The only way that this can be corrected is with a sharp cutback in construction. The annual rate of housing starts for December was lower than the rate for any year since 1959, including the recession years of 1982 and 1991. At this rate, inventories should start to be whittled down to more normal levels.

This process will take time, especially with the mortgage market in turmoil. The Homebuilders Association's Housing Market Index remains near its record low with a reading of 19 in January, up slightly from a downwardly revised figure of 18 for December. While the index showed modest improvements for the South and Midwest, the index for the west sunk by another 5 points to 13. Starts in the west for December were running at just a 229,000 annual rate, down almost 60 percent from the 525,000 rate for 2005. For 2007 as a whole, there were 336,000 starts in the west. With the collapse of bubble markets in San Diego, Phoenix and Las Vegas, the west has been hit especially hard. 

Tumbling house prices continue to send default and foreclosure rates to new highs. In California, according to DataQuick, there were 81,550 default notices sent out in the fourth quarter, up 12.4 percent from the third quarter and 114.6 percent from the fourth quarter of 2006. There were 31,676 foreclosures in the quarter, up 30.8 percent from the third quarter and 421.2 percent from the fourth quarter of 2006. California has obviously been hit worse than most states, but other bubble areas like Florida and Arizona are no doubt seeing similar increases in defaults and foreclosure.

There will be two very big releases next Tuesday. First, the Case-Shiller index will be released for December. The November index showed house prices dropping at almost a 7 percent rate year over year, but over the last quarter house prices were falling at more than an 11 percent annual rate. Prices were declining at close to 20 percent annual rates in Tampa, Miami, and San Diego. If this rate of decline persists, then the rate at which homeowners default on their mortgage is almost certain to increase. 

The other big release on Tuesday morning is the Census Bureau's data on vacancy rates and homeownership for the fourth quarter. Vacancy rates for ownership units have been at record highs for the last year, nearly fifty percent above the peaks hit in any prior downturn. The vacancy rate for rental units also is near the record high hit in 2004, providing more evidence of the huge oversupply of housing. This release will show if there is any evidence that the oversupply is starting to be absorbed.

The ownership data will also give us an update on the toll being inflicted by the mortgage crisis. Ownership rates hovered near 69 percent from 2004 to 2006. They fell to 68.1 percent in the third quarter. The ownership rate for African Americans is already down by three full percentage points from its peak in 2004.

The Fed's latest move on rates will provide limited relief to the housing market. Homeowners with a solid credit rating are already flocking to the banks to refinance as indicated by this week's data on mortgage applications, although with interest rates on 30-year fixed mortgages already down to 5.35 percent, it is not clear how much lower they can go. Those with less stellar credit ratings are unlikely to get a friendly reception at the banks, especially if the outstanding mortgage exceeds the current value of the home. Nonetheless, the lower rate structure will still help many people who cannot refinance by lowering the rates to which ARMs will reset.


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