Housing Market Directly Cut GDP by 1% in Q3, But Indirect Effects Small

Excerpt from Raymond James economist Dr. Scott Brown's weekly commentary:

"The housing market is the focus of economic worries. The direct effect on growth is straightforward. The decline in residential construction subtracted more than a full percentage point from 3Q06 GDP growth (advance estimate) and will likely make a similar (negative) contribution in 4Q06. That’s not enough to push the economy into a recession, but the housing weakness leaves the economy vulnerable to shocks. Opinions regarding the likely length and magnitude of the housing decline vary considerably. The consensus view is that we may be near a bottom, but more likely, there is more downside to go into early 2007. However, the extreme negative view, which sees a more severe decline, seems too pessimistic given the low level of mortgage rates, rising real wages, and relatively easy access to credit (should any of these three factors change, the housing outlook would deteriorate).

What about the indirect effects of the housing slowdown? So far, these appear to be small. Consumer spending growth and business fixed investment both advanced at a healthy pace in 3Q06. The wealth effect is limited. Home equity extraction slowed in the first half of the year, but (given low mortgage rates and large cumulative home prices gains over the last decade) is unlikely to fade away completely (and will be offset partly by gains in real incomes). The impact of adjustable-rate mortgage resets is confined to those households facing resets (about 15% of mortgage holders). While the pressure on those households’ budgets may be large, the impact on aggregate household income will be small (less than 0.3% of annual disposable income). A larger impact is that higher home prices have boosted overall mortgage payments (but some of the increase is a tax-advantaged consolidation of other forms of consumer debt). The rise in home prices has also boosted property tax payments and homeowners’ insurance costs, which are having a large negative impact on consumer spending in places like Florida.

Full article here.