Rate cuts might make it cheaper to buy a house, but they won’t fix the US housing market’s biggest problem

• The Fed’s interest rate cut will ease financing conditions for homebuilders, analysts told BI.
• But other issues will keep supply constrained, from material costs to labor shortages.
• Current owners still won’t be coaxed into selling, as many still have ultra-low mortgage rates.

The Federal Reserve’s rate cut will surely impact the housing market, but its effect likely won’t affect arguably the most important part of the equation: keeping affordability tight.

To be sure, elevated borrowing costs are partially to blame for the affordability crisis plaguing US home buyers, and lowering them will offer relief.

Rates soared to multi-decade highs a year ago, and further reductions in the Fed’s benchmark rate should help bring borrowing costs down over time.

However, it’ll also add to the supply-demand imbalance, as more buyers are lured off the sidelines by cheaper mortgages. Pressures will rise for new housing construction to meet demand, but financing is still tight for home builders, stifling momentum to bring more housing online.

According to the National Association of Home Builders, manufacturing loans climbed from near 5% lows to 13% since March 2022.

“The more immediate effect for housing from the rate cut is going to be seen in the builder and the land developer loan conditions,” Danushka Nanayakkara-Skillington, NAHB’s associate vice president of forecasting, told Business Insider.

But how this translates into a much-needed supply boost is a different story, and there are factors the Fed cut won’t fix.

Lingering uncertainties

For instance, Nanayakkara-Skillington noted that material pricing, from drywall to steel mill products, has weighed heavily on homebuilders since the pandemic.

While lumber costs have normalized, she expects a recent tariff hike on Canadian wood to increase prices in the coming months.

Tariffs on Chinese transformers — which NAHB considers a “sorely” needed component delaying housing projects — have caused prices to jump 73% in the last four years, she said.

There are also shortages to consider. Nanayakkara-Skillington cited that 57% of surveyed homebuilders say there are not enough lots to build on, adding pricing pressure to the available supply.

Urban Institute senior fellow Michael Neal told BI that local regulation is needed to remedy this issue. Zoning challenges should be addressed to unleash lot availability, he said, while inspection costs and timelines should be reduced.

But the biggest issue is a lack of skilled workers, Nanayakkara-Skillington said.

“Because we lost about a million construction workers during the Great Recession, we still lack that. So we need people desperately to come into the trades,” she said, citing that there are about 250,000 open jobs right now.

Nonetheless, the Fed cuts should improve homebuilder sentiment in the coming months after a period of declines amid high borrowing costs, both analysts said.

Dim views on existing homes

While it’s difficult to forecast when the housing market will come back into balance, much depends on whether lower rates entice homeowners to start selling.

According to Fitch Ratings, that’s unlikely for now.

Since most owners hold a mortgage rate well below the current 6% level, mortgage rates will need to fall significantly lower to boost supply, which will only happen if the Fed keeps cutting.

The rating agency noted that about 24% of outstanding mortgages are priced above 5%, meaning that homeowners will stay put until rates hit that level. This won’t happen until 2027, Fitch said.

“While new home inventory has grown by 29% since the start of the pandemic, improving the supply of existing homes, which are approximately 80% housing sales, is necessary to improve prices and housing market activity,” the agency said.

At the same time, easing Fed policy might not stir housing activity for another reason, Neal said.

“Part of the Fed’s decision, I think, reflected concerns about whether or not people will have jobs,” he noted. “At the same time, if you think rates are going to fall today, do you think rates are going to fall tomorrow?”

This thinking might cause people to delay further, he said.

Wherever supply comes to stand, a knock-on effect of lower rates and higher builder sentiment may be felt in the stock market.

In the past three of five rate cutting cycles, the bank noted that homebuilder shares outperformed the S&P 500 in the three-months following the first cut.