Karen Petrou: Why Lowering Interest Rates Now Makes Housing Even More Unaffordable

2024-04-08T09:30:15-04:00April 8th, 2024|The Vault|

As we’ve noted, Sen. Warren and a raft of progressive Democrats are emphatically demanding that the Federal Reserve lower interest rates to promote affordable housing.  However, as a new Federal Reserve Bank of Dallas note confirms, low rates don’t necessarily make it easier to buy a home because house prices generally rise as rates fall.   Worse still, ultra-low real rates eviscerate not just the ability of all but the well-heeled and -housed to save for a down payment, but also for much else that ensures economic resilience and long-term security. Simply put, lower for longer makes the U.S. still more economically unequal, not exactly what progressives want.

The assumption in Sen. Warren’s letter and a like-kind one from Chair Brown is that lower mortgage rates reduce the carrying cost of a mortgage and thus make it easier for lower-income households to qualify for a loan.  However, this seemingly-obvious conclusion assumes that housing markets are static and, as any real-estate agent will tell you, they aren’t.

When rates go down, demand goes up and prices do the same.  Or, as the Dallas Fed study observes, a one-percentage-point hike in short-term rates usually lowers house prices by 7.5 percent over two years.  Just as intuition suggests that easy money spurs homebuying, so it is that tight money reduces demand and prices respond accordingly.

Or, they do in a normal market and there haven’t been any of these since the Fed sent interest rates below inflation-adjusted zero in 2008 and kept them …