Fannie Mae has declared that housing is finally providing a tailwind to economic growth.  The company's December Economic and Strategic Report says that the market "has turned the corner and a sustained recovery is under way."  It contributed, albeit in a small way, to economic growth in past few quarters and will be counted as a contributor on an annual basis for the first time since 2005.

"With data pointing to soft economic conditions and the fiscal policy debate hanging in the balance, we expect growth in the current quarter to moderate from the pace seen last quarter," said Fannie Mae Chief Economist Doug Duncan. "On the bright side, the housing market has stayed resilient and continues to show signs of a strong, sustained recovery."

Home prices have seen traditional seasonal declines in the last few months but year-over-year increases are growing.  While new home sales were flat in October, the 4.8 month inventory of homes which was well below the traditional average of 6 months and a pick-up in household formation create opportunities for new construction especially in the single-family sector.  Housing starts rose in October to the highest level since July 2008 but that was largely on the strength of multi-family construction while single family starts were essentially flat.  Single family permits did continue to trend up.

Existing home sales rose in October for the third time in four months, while the inventory ticked down to 5.4 months -the lowest reading since February 2006.  Contract signings for home sales and purchase mortgage applications, both leading indicators of home sales, are up.  Existing home sales took a sharp jump in October to the highest level since early 2010.

Fannie Mae's economists said that, "Overall, housing construction activity and home sales are on pace to grow substantially over last year's levels, and we expect further improvement in 2013."

The shadow inventory, as measured by the serious delinquency rate, is also declining.  Fannie Mae expects the current trend to continue, thanks in part to increased modification efforts and short sales; new delinquencies have been declining with the new foreclosure rate down in the third quarter to the lowest level since the end of 2007.

Low mortgage rates will continue to aid the housing and mortgage markets in the New Year as the Federal Reserve continues to purchase $40 billion in Agency mortgage-backed securities each month through the end of 2013.  Operation Twist, where the Fed replaces shorter term securities with those of longer duration, is scheduled to expire at the end of December but Fannie Mae expects the Fed to continue with a similar-sized endeavor to directly purchasing long-term Treasuries.  Fannie Mae expects that the 10-year Treasury yield will rise about two basis points by the end of next year and 30-year fixed rate mortgages to gradually move up to 3.5 percent.

The economists said, "Given our expectations of continued improvement in housing starts, home sales, and home prices in 2013, we project that purchase mortgage originations will rise to $595 billion from a forecast of $518 billion in 2012. However, refinance originations should decline to $956 billion from a projected $1.3 trillion in 2012, resulting in a refinance share of 62 percent - a drop of 10 percentage points from the projected share in 2012. The Federal Reserve Board's Flow of Funds showed continued deleveraging in total single-family mortgage debt outstanding, which fell at a 3.4 percent annualized rate in the third quarter of this year. We expect that mortgage debt outstanding will decline an additional 1.0 percent in 2013, following a projected 2.4 percent decline in 2012."

While things are definitely improving, the housing market will continue to face challenges, the report said, counting tight lending conditions among those hurdles and quoting Fed Chairman Ben Bernanke's recent statement that the lending standards pendulum has "swung too far the other way, preventing creditworthy borrowers from purchasing a home and thereby impeding the economic recovery."  There are also significant uncertainties in the mortgage origination business including Qualified Mortgage, Qualified Residential Mortgage and Basel III rules.  The Fiscal Cliff debate could change the mortgage interest rate deduction and other housing incentives and the law exempting forgiven mortgage debt from taxation is due to expire.

Housing is also partially responsible for the strengthening balance sheets of individual households.  The Federal Reserve Board's recent Flow of Funds showed that, following a modest decline in the second quarter of this year, households' net worth - assets minus liabilities - rose $1.7 trillion in the third quarter, boosted by gains from both the stock market and real estate values amid declining household debt.