The impact of the elevated Federal funds rate and morgage rates on our economy is stark. The 5-unit sector, in particular, entered a recession in September 2023 and those permits have been at COVID-19 recession lows for an extended period. However, in the last few months, single-family permits have also been falling. The key turning point in every economic cycle is when construction workers lose their jobs in enough numbers that it pushes jobless claims higher.
Let’s take a closer look at today’s housing starts report.
From Census: Building Permits: Privately‐owned housing units authorized by building permits in May were at a seasonally adjusted annual rate of 1,386,000. This is 3.8 percent below the revised April rate of 1,440,000 and is 9.5 percent below the May 2023 rate of 1,532,000.
We want to keep this very simple. We have a backlog of orders that need to be built out, so that has kept labor on five-unit housing going, as it takes 21 months to finish a 5-unit construction project. Once those projects are done, there will be far less residential work for these construction workers and they will need to look at alternatives, like government-funded projects such as semiconductor fabrication plants. This is why we keep an eye on permit data.
We all know that 5-unit permits have been at COVID-19 recession lows for some time now, but what is different now is that the single-family permits are falling too. We still have a backlog of single-family homes that need to be built and the purchase application data for those new homes is growing. However, once those homes get built, and if permits for new single-family houses continue to fall, that will be an issue for construction labor. Construction labor for single-family homes already took a hit after rates rose toward 7% in 2022.
From Census: Housing Starts: Privately‐owned housing starts in May were at a seasonally adjusted annual rate of 1,277,000. This is 5.5 percent (±9.4 percent)* below the revised April estimate of 1,352,000 and is 19.3 percent (±10.0 percent) below the May 2023 rate of 1,583,000.
As we can see below, housing starts are at the lows that we saw in the COVID-19 recession. This is happening while permits for single-family homes have only recently started to trend down. As more and more homes get built, if we don’t grow permits soon, then that labor force pool that are building homes are at risk when their jobs are completed. Hopefully, mortgage rates will fall soon, increasing builders confidence and getting more deals in the pipeline. This is what happened last year.
Why is this so important?
Economic cycles have similar patterns: one is that the Fed raises rates too much and is too restrictive, which leads housing to go into recession first, meaning construction workers on the residential side of things go down first. In the past few months we have been creating jobs in this sector, but if this trend of falling continues, then the labor pool is at risk of a decline.
All in all, it is a disappointing trend report on housing starts data, but this has been in the works for some time. The other side of this equation is that if construction labor breaks, mortgage rates will fall and that will spur demand, so hopefully we can limit the future damage of production when that happens.
However, for now, we will keep a close eye on it. For those who hear the stories about higher rates being inflationary, this is what they’re talking about: that eventually, the restrictive policy will prevent the future production of housing. As I always say: “Supply is the best way to defeat inflation. Demand destruction is a short-term fix, supply wins in the long run.”