“Old normal” will not be part of housing recovery

WASHINGTON (January 27, 2010) – As the U.S. economy recovers, emerging trends in demographics and consumer behavior will become major drivers of new housing opportunities, resulting in a residential market vastly different from the one that existed prior to the recession, according to Housing in America: The Next Decade, a new research paper authored by John K. McIlwain, senior resident fellow, Urban Land Institute/J. Ronald Terwilliger Chair for Housing.

In a presentation of the research to Urban Land Institute trustees during the Institute’s Midwinter Meeting in Washington, McIlwain discussed the implications of the rising numbers of foreclosures, re-establishing a private-market residential finance system, as well as shifts in housing demand triggered by baby boomers, their children, and by immigrant households. “The old ‘normal’ will not return,” McIlwain predicted. “Over time, a new mode of metropolitan development will emerge, presenting opportunities and stiff challenges. Those who fail to understand these new trends will find themselves building what is no longer in demand.”

Despite the housing stabilization that has begun in the nation’s strongest employment markets, overall home prices will likely decline an additional 10 percent this year, contributing to what is already an unprecedented number of foreclosures and “underwater” mortgages (loan amounts that are higher than the current value of the homes), McIlwain said. The growing number of consumers who are choosing to walk away from those mortgages suggests a fundamental change from the long-held notion of homeownership as the ultimate American Dream, he explained. This disillusionment over homeownership as a way to build wealth could persist for decades to come, as those entering the housing market will be more apt to rent longer, and to place more emphasis on buying for shelter rather than investment purposes.

Two key predictions from Housing in America for the decade ahead: home appreciation will slow considerably, to about 1 percent to 2 percent annually; and the current U.S. homeownership rate, now at 67 percent (a decline from the record high of 69 percent at the height of the housing boom) will fall further, to about 62 percent.

According to McIlwain, the lasting stability of the U.S. housing market depends on how, and when, the private home mortgage finance system is revived and how such a system might be structured. The federal government now supplies virtually all new mortgage funds through mortgage purchases or securitization. Reducing this massive support, he said, will entail revamping or replacing mortgage suppliers Fannie Mae and Freddie Mac, and tightening risk requirements for mortgage issuers to restore investor confidence in mortgage-backed securities.

“Re-establishing a robust private mortgage market will require both strong market fundamentals and a reformed mortgage securitization structure that eliminates past abuses,” McIlwain said.

Such reform will influence the flow of capital, affecting the volume of debt, its cost and to whom it will be available, he noted. While reform efforts are still sketchy, the end result “will have a fundamental impact on housing markets for years to come.”

The report cites four major U.S. demographic waves to watch in the new decade: