February 18, 2009 (Housing Market Monitor)

Housing Starts Plunge In January

By Dean Baker

February 18, 2009

Complex schemes to address foreclosures waste money without helping homeowners.

Housing starts continued to fall in January, hitting yet another record low. For the nation as a whole, starts were down 16.8 percent from December levels, with starts of single-family units down 12.2 percent. Year over year, overall starts and starts of single-family units are down 56.2 percent and 53.7 percent, respectively.

Since the peak construction rates in 2005, starts overall are down 77.5 percent. Starts of single-family units over this period are down 79.8 percent. The sharpest falloff in starts has been in the Midwest, which has seen a decline of 85.7 percent since 2005. As noted in an earlier edition of the Housing Market Monitor, the sharp drop in starts is actually a positive from the standpoint of restoring stability in the housing market, since lower levels of construction are necessary to bring down inventories. However, it means that construction will continue to be a drag on GDP growth at least into the current quarter.

Mortgage applications for purchase mortgages remain depressed, although they did increase 9.1 percent from the prior week. Still, they remain near their lowest levels for the decade. The weakness of the applications index shows that homebuyers are not having trouble getting mortgages. Since this is an applications rather than approvals index, if otherwise creditworthy buyers were having difficulty getting mortgages, then there should be a sharp increase in the applications index. Many homebuyers would find it necessary to make multiple applications in order to get a mortgage. Some would make several applications and still not be able to get a mortgage. This clearly is not happening. Therefore, credit availability is  not an issue in the housing market at present.

The details of President Obama’s plan for helping homeowners will be released later today, but it seems that at best, it will offer a partial solution to the problem. Most of the discussion suggests that it will offer government aid in the form of interest subsidies that match reductions in the interest rate charged by lenders.

Even if this allows more families to avoid foreclosure, this formula will still leave more than 10 million homeowners underwater. There are two big problems with this. First, it is not clear that many of the homeowners who are supposed to be helped by this program will really benefit. In many markets, they will still be paying far more money on their mortgage each month than they would pay to rent a comparable unit. We are not doing a family earning $50,000 a year a great favor if we devise a scheme whereby they pay $2,000 in unnecessary housing costs each month. Furthermore, since the plan will still leave them underwater in their mortgage, they are unlikely to ever accumulate any equity in their home.

This raises a second point. If people are underwater in their mortgage, the banks are still likely to take a big hit at some point. The median period of homeownership is just 7 years. This means that most of the houses bought in the bubble years will be sold again in the next few years. In most cases where homeowners are underwater, they will be forced to make short sales, since they won’t have tens of thousands of dollars to bring to a closing.

In other words, this bailout plan is likely to simply delay a day of reckoning for the banks at great cost to taxpayers and little obvious benefit to homeowners. Just as the administration has thus far backed away from the simplest solution to the problem of insolvent banks (nationalization) it also appears to be backing away from simple market-based solutions to the foreclosure crisis.

There is a public interest in helping homeowners who got themselves in bad circumstances in extraordinary times; there is zero public interest in opening an endless spigot of interest rate subsidies to the banks. Allowing foreclosed homeowners to remain in their house as renters meets the public’s interest in this crisis, the exotic bailout schemes being developed under the guise of helping homeowners do not. It would be useful if policy makers could approach this issue with clearer eyes.

Dean Baker is Co-Director of the Center for Economic and Policy Research, in Washington, D.C. CEPR's Housing Market Monitor is published weekly and provides an incisive breakdown of the latest indicators and developments in the housing sector.