Even as the U.S. economy seems to be turning for the better, the underperforming housing market continues to be a major obstacle to a full recovery. The latest housing data, released by the Commerce Department, shows new home sales in February hitting a record low. What makes these data very puzzling is that interest rates and home prices remain at historic lows. Buyers have been given every incentive to enter the market, but have yet to take advantage of it.
In a stable housing market, home prices and interest rates share an inverse relationship. The higher the interest rates, the lower home prices will be and vice versa. In the current market, both home prices and interest rates stay very low. In point of fact, the median home price for February is the lowest since 2002 while average mortgage rates remain under 5 percent. This anomaly is partly caused by the Federal Reserve's ongoing effort to keep interest rates near zero, by buying up U.S. debts and increasing the money supply.
On paper, having both low interest rates and home prices should bring many buyers into the market. Unfortunately, lenders see only increased risks and little gains from such a market. Many mortgage lenders have actually tightened their lending standards, effectively discouraging potential home buyers from entering the market.
The ongoing foreclosure story is another headwind for the U.S. housing market. In 2010 alone, a record 1 million homes were foreclosed which is about 1.7% higher than the 2009 number. The housing market won't be able to recover, unless the millions of foreclosed homes are off the market. Unfortunately, this process has been complicated by the recent robo-signing controversy, which has caused a huge backlog of foreclosure cases.
What should we be expecting of the U.S. housing market going forward? There are positive signs that point to an improved market beginning next year. The U.S. government recently signaled its intent to end its current intervention in the market by planning to sell off $142 billion of its mortgage asset holdings, allowing market forces to once again take hold. Also, interest rates are likely to rise once the Fed's quantitative easing ends in June. These developments will further depress home prices and sales in the short term. But once the market finally finds a bottom, housing sales should improve moderately in early 2012.
Simon Nguyen is an economic researcher who holds a master's degree in economics.
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