Source: Golden Ten Data
To return the inflation rate to 2%, the inflation rate for non-housing services must be reduced from the current 3.5% to less than 3%, and the housing inflation rate must be reduced from 5.8% to about 3.5%.
Nick Timiraos, a famous journalist known as the “New Federal Reserve News Agency,” wrote that the stagnation of the declining inflation process this year did not affect the Fed's plan to cut interest rates in the end. This is because the Federal Reserve anticipates that the slowdown in housing costs will eventually bring the inflation rate closer to the 2% target. But the problem is: the Federal Reserve has been waiting for a year and a half, and the slowdown in housing costs has yet to come. This slowdown may have just been postponed, but some analysts worry that due to dynamic changes in the real estate market, this slowdown will not happen. If that were the case, it would greatly weaken the reason for cutting interest rates.
In recent years, the cost of housing has played an important role in US inflation because its cost has risen so much and its share is so large. It accounts for one-third of the Consumer Price Index (CPI) and about one-sixth of the Personal Consumer Expense Price Index (PCE), which is the Federal Reserve's preferred inflation indicator.
In theory, a slowdown in housing inflation is predictable. Government statisticians don't use house prices to calculate inflation because housing is to some extent an investment. Instead, they use monthly rents to calculate how much a tenant would cost to rent a house or apartment, and how much the homeowner would theoretically rent their own home.
Market rents (rent for newly signed leases) soared three years ago, reflecting unusual demand for more space unleashed by the pandemic, strong revenue growth, and historically low inventory of homes available for rent or purchase. According to CoreLogic's data, single-family home rents rose 14% in 2022. However, in February of this year, the year-on-year increase in rents slowed to 3.4%, reflecting increased competition brought about by the supply of new apartments and weak income growth adjusted for inflation. According to Zillow data, there has also been a similar decline in apartment rents.
However, since only a small percentage of leases are changed each year, changes in market rents are reflected in a lag in inflation. Given this lag, Federal Reserve officials, Wall Street investors, and private sector economists expect housing inflation to slow from the end of 2022, based on what has already happened in market rents.
Housing inflation did slow from its peak of 8.2% a year ago, but fell to only 5.6% in March, “This is much slower than almost anyone expected,” said Jay Parsons (Jay Parsons), head of housing strategy at Madera Residential in Texas (Madera Residential). The US Department of Labor is scheduled to release April CPI data on Wednesday.
The housing market helps explain why core inflation (excluding volatile food and energy prices) has stagnated in recent months rather than continued to cool. The core PCE inflation rate in March was 2.8%, down from 5.6% in 2022, but not much lower than in December last year. Chicago Federal Reserve Chairman Goulsby said in an interview last month that the property market “did not show what we expected.” “I still think it will cool down, but if it doesn't, we'll have a hard time bringing inflation back to 2%.”
To understand why, we've divided core inflation into three different baskets: commodities, housing, and non-housing services. To achieve a 2% inflation rate, the Federal Reserve does not need all of these indicators to reach 2%. In the decade before the pandemic, the core inflation rate was slightly below 2%. This is because the commodity inflation rate was about -1%, the housing inflation rate was 2.5% to 3.5%, and the non-housing service inflation rate was slightly higher than 2%.
The main reason for the slowdown in inflation last year was the return of commodity prices to pre-pandemic trends. To return the inflation rate to 2%, the inflation rate for non-housing services must be reduced from the current 3.5% to less than 3%, and the housing inflation rate must be reduced from 5.8% to about 3.5%.
If inflation continues to rise, Federal Reserve officials are likely to keep interest rates at their current level, the highest level in 20 years, until they see more concrete evidence that the economy is slowing down.
Many economists still believe that it is only a matter of time before housing inflation reflects a slowdown in new leases that began two years ago. But this may take longer than expected, as more renters are choosing to renew their leases rather than buy homes due to high mortgage interest rates. This may extend the time for lower rents brought about by new leases to be reflected in overall inflation.
David Wilcox (David Wilcox), an economist at the Bloomberg Institute for Economic Research and the Peterson Institute for International Economics, said, “I still think the 'check' was in the mail, but unfortunately the 'check' arrived longer than I expected. I just don't think there are any results other than these low rents being reflected in the official price index.”
Stagnant inflation has heightened concerns that the Federal Reserve may have to risk a recession to weaken the labor market to complete the “last mile” of reducing inflation. But if prices such as housing prices reflect the state of the economy a few years ago rather than the present, then this is probably unnecessary.
As an example, Omair Sharif (Omair Sharif), founder of the research company Inflation Insights, said that the rise in car insurance costs or hospital service prices each reflected a sharp rise in car prices and hospital wages two years ago. “This is a 'last lag' story, not a 'last mile' story,” he said.
Some doubt that real estate will help lower inflation as expected. Rents are often very sensitive to wages and income, and as long as wages and income increase steadily, rents may not slow down that much. One key reason for the slowdown in market rents is that the industry is increasing the supply of new apartments in record numbers. However, some industry executives say this supply is being rapidly absorbed due to increased immigration and steady growth in employment and wages. Parsons said, “It's surprising that demand for multi-family homes in particular has accelerated once again in the past six months.”
Houston-based Camden Property Trust has 58,000 condominiums, and the percentage of tenants moving out to buy homes has dropped to 9%, the lowest level in the company's 30-year history, lower than the traditional 15% to 18% eviction rate. What is certain is that Camden's rent growth rate fell from a record 13% in 2022 to 3% last year, and is expected to be less than 1% this year.
“Most people think rent growth will drop drastically across the Sunshine Strip,” said Ric Campo, Camden's CEO. “But the current situation is that there is much more demand than most people expected.”