The National Association of Home Builders sponsors an economic publication
for the housing industry which publishes at HousingEconomics.com. In mid-July
it released a study on Metropolitan Area House Prices and
Affordability written by Elliot F. Eisenberg, Ph.D.
One cannot deny that the study is self-serving, but the findings are at least
a little revealing of some of the reasons that housing prices, particularly
of new houses, continue to climb in a tough market.
The study looked at what happens to housing affordability
in 357 Metropolitan Statistical Areas (MSAs) when house prices rise. Because
over 80 percent of home buyers purchase using a mortgage, the ability to qualify
for a loan is a major determinate of affordability. Therefore, the study changed
the price of a representative home in an area and estimated how many people/households
that qualified for a mortgage before a hypothetical $1,000 price increase would
fail to qualify afterward.
While results varied geographically, overall the study found that using typical
assumptions - a 10 percent down payment, private mortgage insurance, 30-year
fixed-rate mortgage, local information about property taxes from census data,
insurance pricing from the National Association of Insurance Commissioners and
the Insurance Information Institute, and underwriting standards as approved
by Freddie Mac and Fannie Mae - a $1,000 increase in the median price
of a house would price 217,000 households nationally out of the market. These
numbers varied by MSA from a low of 10 households in both LaCrosse, Wisconsin
and Ocean City, New Jersey, to 4,193 households in Dallas-Fort. Worth.
An increase in prices has a greater impact where large numbers of people have
the ability to purchase a house at a given price. The more expensive the area
the fewer households are affected by a price increase. Therefore, there is much
less impact in communities where houses are already relatively high priced.
For example, in the San Jose-Sunnyvale-Santa Clara, California
MSA only 0.8 percent of the total of 597,597 households can afford a median-priced
home which costs $849,022. The $1,000 price hike cuts out 313 households. In
the Salinas, California MSA 3.5 percent of 123,630 households can qualify to
purchase a median-priced new home at $669,091; a price increase eliminates only
31 of them.
At the other end of the spectrum is Charleston, West Virginia where 66.9 percent
of the 125,779 households are estimated to be eligible for a mortgage on a median
priced house which is estimated to cost $85,804; raising the price by $1,000
cuts 463 households out of the equation. In Morristown, Tennessee 61.2 percent
of 54,486 households can currently afford to purchase a median priced new house
at $97,640 and 239 of them would lose that ability with a $1,000 increase in
the purchase price.
The gist of this affordability study, however, is the impact of government
fees on affordability. "For example, any time a local government raises
construction costs by increasing the price of a construction permit, a tap fee,
a proffer or an impact fee, the cost of building a house in that area rises
and affordability is necessarily reduced."
And the increase in home price will usually be more than the increase in the
government fee itself. Citing that construction financing costs and real estate
agent fees rise in tandem with any increase in actual construction costs, the
study speculates that prices will rise about 22 percent more than the underlying
The study's author points out that most government fees are paid early
in the construction process, many before any work has begun at all and offers
the following hypothetical example of how a $1,000 increase in house prices
would come about.
Assuming an increase in construction fees of $819 (the number is arrived at
by backing out of the $1,000 price increase), an average annual interest rate
for construction financing of 10 percent, and a total time from authorization
of construction to sale of the property of 11.8 months (7 months from authorization
to completion; 4.8 from completion to sale) would add $80.54 to the $819. The
price increase would add an increase in the average brokerage fee of $23.75
and the builder's compensation and profit of 9.30 percent would add $76.17
for a sum of added costs of $180.45 or a total of $999.45.
When the costs of a median-priced new house rises, the study says, prices of
existing houses rise as well. Thus affordability across all price levels is
reduced when building fees are raised.
We all see where this is going, of course; a drive on the part of NAHB
to roll back or at least cap permit fees, school fees, road fees, and other
infrastructure related fees that are paid by builders. Still, the construct
is an interesting one. The results, in the words of the author do not answer
questions "such as 'How many households will not buy a house when they otherwise
would have?' or 'What will the resulting reduction in home construction be?'
To answer those questions requires an economic model that also incorporates
the willingness of households to buy smaller houses, older houses, and houses
that have few amenities."