How The Housing Slowdown Affects GDP

Look, there is no sugar-coating this, the housing market is really slowing down because of the action the Fed is taking to tame inflation. Interest rates are on the rise, and that has served to tamp down a tremendously overheated housing market that was starting to look eerily similar to the tulip mania craze of the 1600s in Holland, when the price of tulip bulbs exploded and then dramatically corrected, bringing Europe’s economy to its knees.

While I don’t see a downward correct in housing prices, there is no doubt that the seller’s market of the last two years has evaporated just about everywhere, and a handful of markets are even witnessing contractions in housing prices. 

Yes, the headlines aren’t good: housing affordability was the worst since 1989, home sales dropped for the sixth straight month, builder confidence fell for the eighth consecutive month, and existing home sales fell to a two-year low. This is the sort of news that shakes consumer confidence, which has plummeted in recent months.

Huge Driver. There is no question that the housing industry in general is a huge driver of demand for construction aggregates used in concrete, concrete-products and asphalt production, in addition to all manner of base and other applications critical to the supporting infrastructure surrounding the home building market. 

The National Association of Homebuilders released updated data on the impact the slowdown is having on overall Gross Domestic Product (GDP) in the first half of the year, and it is instructive to measure its impact, as housing is a huge contributor to our overall economy. 

The findings show that housing’s share of the economy edged lower at the end of the first half of 2022: for the second quarter of 2022, overall GDP declined at a 0.9% annual rate, following a 1.6% decrease in the first quarter. Housing’s share of GDP decreased to 16.6%, slightly below the first quarter share of 16.7%.

In the second quarter, the more cyclical home building and remodeling component, what is defined as residential fixed investment (RFI), decreased to 4.7% of GDP. And it is clear to all, as we have witnessed in every previous economic cycle, that home construction will face growing challenges as higher interest rates increase housing affordability challenges. 

RFI subtracted 71 basis points from the headline GDP growth rate in the second quarter of 2022. But now I am expressing optimism about the direction of interest rates, as they are clearly trending downwards. Whether this is irrational exuberance on the part of Wall Street in anticipation that inflation has turned the corner is yet to be seen.

Two Ways. It is worth explaining that housing-related activities contribute to GDP in two basic ways. The first is through RFI, which is effectively the measure of the home building, multifamily development, and remodeling contributions to GDP. It includes construction of new single-family and multifamily structures, residential remodeling, production of manufactured homes, and brokers’ fees. For the second quarter, RFI was 4.7% of the economy, recording a $1.2 trillion seasonally adjusted annual pace.

The second impact of housing on GDP is the measure of housing services, which includes gross rents, including utilities paid by renters, as well as owners’ imputed rent, defined as an estimate of how much it would cost to rent owner-occupied units, along with the related utility payments. The inclusion of owners’ imputed rent is necessary from a national income accounting approach, because without this measure, increases in homeownership would result in declines for GDP. For the second quarter, housing services represented 11.9% of the economy, or $3.0 trillion on a seasonally adjusted annual basis. Taken together, housing’s share of GDP was 16.6% for the quarter.

Historically, RFI has averaged roughly 5% of GDP while housing services have averaged between 12% and 13%, for a combined 17% to 18% of GDP. These shares tend to vary over the business cycle. However, the housing share of GDP lagged during the post-Great Recession period due to underbuilding, particularly for the single-family sector. The expansion in housing activity in recent years has increased these shares to near historic norms.

Lower interest rates will surely help the knocked-down housing industry, which is good for construction aggregates.

Pierre G. Villere serves as president and senior managing partner of Allen-Villere Partners, an investment banking firm with a national practice in the construction materials industry that specializes in mergers and acquisitions. He has a career spanning almost five decades, and volunteers his time to educate the industry as a regular columnist in publications and through presentations at numerous industry events. Contact Pierre via email at [email protected]. Follow him on Twitter @allenvillere.

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