Housing, Recession Concerns and Policy Sanity

By at 19 October, 2022, 12:37 pm

by Raymond J. Keating – 

The latest report on residential construction from the U.S. Census Bureau showed both housing starts and permits taking hits in September. This raises more questions about recession, as well as putting attention on the need for sound policymaking.

Housing starts (annual rate) were down by 8.1 percent in September versus August. And compared to a year ago, starts were off by 7.7 percent. Meanwhile, building permits (an indicator of future housing starts) were up by 1.4 percent in September compared to August, but down by 3.2 percent versus September 2021. (Hurricane Ian hit at the very end of September, so it’s likely that the impact will be more fully captured in the October data.)

Zeroing in on single-family residential units, compared to August, September starts were down by 4.7 percent and permits were off by 3.1 percent.

Interestingly, housing completions grew by 6.1 percent in September versus August, and were up by 15.7 percent compared to a year earlier.

To summarize, this combination is pointing to a housing slowdown in terms of starts and future construction, while at the same time, houses in the pipeline are seeing stepped up completions, no doubt due in part to some easing of supply chain challenges and being able to make a degree of progress on the labor shortage front.

Inflation Response Impact

Of course, though, the big challenges for housing and much of the economy are inflation and the Fed’s misguided choice to fight inflation by inflicting additional harm on the economy. Both inflation and the Fed’s actions have resulted in higher interest rates, and increased uncertainty for consumers, businesses and investors.

This would line up with the latest assessment coming from the National Association of Home Builders, which noted that builder sentiment in October fell for the 10th straight month. NAHB chief economist Robert Dietz observed:

“This will be the first year since 2011 to see a decline for single-family starts. And given expectations for ongoing elevated interest rates due to actions by the Federal Reserve, 2023 is forecasted to see additional single-family building declines as the housing contraction continues. While some analysts have suggested that the housing market is now more ‘balanced,’ the truth is that the homeownership rate will decline in the quarters ahead as higher interest rates and ongoing elevated construction costs continue to price out a large number of prospective buyers.”

As noted in the following chart, each recession since the late 1950s (except for the most recent pandemic recession) has been preceded by a decline in single-family housing starts. The only questions have been lag time and degree. Of course, most dramatic was the fall off in housing leading up to and during the Great Recession (late 2007 to mid-2009).

So, the significant impact that housing has on the larger U.S. economy cannot be ignored. For good measure, it also must be kept in mind that residential construction is an industry overwhelmingly populated by small businesses, with 97.3 percent of employer firms having fewer than 20 employees and 99. 7 percent fewer than 100 workers (based on latest 2019 Census Bureau data).

The current decline in single-unit housing started early this year, and it raises additional questions and concerns about the “R” word, i.e., recession.

Policy Do’s and Don’ts

On the policy front, housing would be aided by sound monetary policy – that is, focused on price stability (such as reining in unprecedented loose money being run since the summer of 2008) rather than trying to manipulate the economy (instead leaving interest rates to the market) – and pro-growth measures such as tax and regulatory relief, and free trade. As SBE Council explained in a recent piece on the industrial sector of our economy, the right policies benefit industries across the economy. Those policies include:

Rejecting the current costly policy agenda being pushed by the Biden administration and many in Congress in terms of higher taxes, more regulations, increased government spending, and protectionism on trade.

Changes are needed in terms of capital gains taxation, that is, the tax on the returns on investment in new, expanding and innovating businesses. Given the economically destructive nature of the capital gains tax, a 0 percent capital gains tax rate makes the most economic sense. Short of that, the capital gains tax should be at least cut in half, bringing the top rate down to 11.9 percent.

Also, capital gains are not indexed for inflation. Therefore, inflation increases the real capital gains tax rate higher than the stated nominal rate. And of course, during a period of high inflation, as we are currently suffering, the real capital gains tax climbs far higher. It’s clear that as long as the capital gains tax is in existence, capital gains should be indexed for inflation.

• The Tax Cuts and Jobs Act’s full expensing of capital expenditures applies to short-lived assets (such as machinery and equipment), and will begin to be phased out at the end of this year (and phased out completely in 2026). Full expensing should be made permanent as an option for businesses, and it should cover all investments. By reducing the cost of capital, and making this a permanent option for businesses, this would be a clear encouragement to investment that enhances innovation, productivity, incomes and economic growth.

• The U.S. needs to return to being a global leader in advancing free trade, that is, the reduction or elimination of governmental barriers – such as tariffs and quotas – that raise the costs of businesses being able to freely trade. Lower trade barriers certainly would benefit U.S. builders, for example, by reducing the costs of inputs (keep in mind that nearly all imports are inputs to U.S. domestic businesses).

• The Biden agenda of hyper-regulation across much of the U.S. economy needs to be reversed. This regulatory activism has included targeting high tech, pharmaceuticals, energy, labor-intensive sectors, and independent contractors, using expansive takes on regulatory power in such areas as antitrust, labor, the environment, and beyond.

Instead, an agenda needs to be implemented that limits regulatory overreach and activism, considers the full impact of new and existing regulations, and clarifies regulatory responsibilities and powers. Such a regulatory agenda would include sunsetting rules and regulations so that Congress is required to re-evaluate regulations after a certain period of time; congressional approval of rules and regulations to establish final responsibility for regulating with Congress; and improving analysis of regulations, such as by establishing independent regulatory analysis for Congress that would include subjecting regulations to rigorous cost-benefit analysis, whether for the consideration of regulatory legislation, or for purposes of evaluating existing rules and regulations.

This is about policy sanity, that is, policy aligning with actual economics, and rejecting policy insanity that chooses to ignore basic economics.

Finally, it must be noted that this agenda is called “pro-growth” for a reason, as it would incentivize entrepreneurship and investment, which are the engines of innovation, productivity improvements, and economic, income and employment growth. All of those positives, of course, further feed into the housing industry. Indeed, housing has one of the clearest exchange relationships with the larger economy in that housing plays a major role in fueling growth, and in turn, growth feeds into housing.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council. His latest book is The Weekly Economist: 52 Quick Reads to Help You Think Like an Economist.


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