INSIGHTS

On June 06, 2016

AAM Viewpoints - How Important is Housing Data in the Fed’s Decision to Raise Interest Rates?

Strong U.S. housing data has added to speculation that we will see a Fed rate hike in June or July. Sales of new homes in the United States rose in April to the highest level since the start of 2008. Purchases rose 16.6% to 619,000 seasonally adjusted annualized rate (SAAR), according to the Commerce Department data release on May 24. Existing and new home sales, and prices, were considerably stronger than what was expected.

Source: St. Louis Fed

U.S. existing home sales rose 5.45 million (SAAR) and new single-family homes sales rose 0.62 million. The surge in purchases of new homes, combined with stronger demand in previously owned homes, seems to indicate housing is getting a boost from gradually improving wages and historically low borrowing costs.

Source: National Association of Realtors

The median house price in 2016 remains noticeably below the peaks of 2006 and 2007. In April, the median price of an existing home was $232,000 com­pared to July 2007 when it was $263,000 and the Case-Shiller 20-City Home Price Index (March) rose 5.4% from March 2015, and was up 0.9% from February, the most in four months.

Source: S&P Dow Jones Indices LLC

The U.S. housing market appears to be in good shape going into the home-buying season; but, will it impact the Fed’s decision on interest rates? Housing contributes to GDP in two basic ways: through private residential investment and consumption spending on housing services.

• Residential investment (averaging roughly 3-5% of GDP), includes construction of new
  
  single-family and multifamily structures, residential remodeling, production of manufactured homes, and brokers’ fees. 


• Consumption spending on housing services (averaging roughly 12-13% of GDP), includes gross rents and utilities paid by renters, as well as owners' imputed rents and utility payments.

The increase in real GDP in the first quarter reflected a slightly increased contribution from residential investment (0.6% contribution vs. 0.5% previously) as the U.S economy expanded at a slightly faster pace in the first quarter (0.8%) than previously estimated (0.5%). We would expect low interest rates and an improving labor market to continue to support demand while inventories remain limited and this will weigh into the Fed’s decision.

In order to reach the Fed’s 2016 growth target, which would give them the opportunity to increase interest rates 50 basis points (bps) by year end, the economy would need to grow by 2.2%. With the latest GDP revision, the next three quarters need to average approximately 2.6%. The number seems a little high based on last year’s growth, but in May three Federal Reserve officials said the central bank should raise interest rates in June. When the Fed’s April meeting minutes were released it showed that officials felt an interest rate increase in June was possible if incoming data showed an improving economy. After that release the probability of a June hike jumped from 12% to 32%. We believe the likelihood of the Fed raising rates in June is small, but at some point it should happen in 2016. Even with the subpar GDP growth since the beginning of the economic recovery, home price appreciation at a rate that exceeds the underlying GDP growth should be one of the factors contributing to a future rate hike.

CRN: 2016-0606-5391R

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