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What actually caused the pandemic housing market rush?

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Homes under construction in Herriman, Utah.

Homes under construction in Herriman are pictured on Tuesday, July 5, 2022. Researchers at the Federal Reserve recently published a report diving into what caused the COVID-19 pandemic housing market boom and its record housing prices.

Scott G Winterton, Deseret News

We all know the result: Shortly after the COVID-19 pandemic hit the U.S., it set off a housing market feeding frenzy — especially in the West — that’s only now slowing down now amid rising mortgage interest rates.

Still, prices remain sky high.

We also know that the U.S. and Utah have faced a housing shortage for years now — but while the housing gap certainly didn’t help the COVID-19 rush on housing, it doesn’t fully explain what really happened.

It’s like a bomb went off. Demand skyrocketed, particularly in high-growth, booming areas like the West, and it accelerated price increases at record speeds to unprecedented levels.

So what really happened? What forces were at play to set off this pandemic housing scramble?

New Federal Reserve report findings

Researchers at the Federal Reserve took a deep dive into that question, and this week published a report detailing what their models found. Those models, they wrote, concluded that the COVID-19 rush on housing — and the accompanying price acceleration — had more to do with increased demand than it did a lack of supply.

“First, we show that the COVID-19 housing boom in the U.S. was driven by an increase in demand. Even though the supply of new for-sale listings fell sharply at the beginning of the pandemic, we show that reduction of supply was a minor factor relative to increased demand in explaining the tightening of housing markets over the first year of the pandemic,” researchers wrote.

While lack of supply is part of the bigger, long-term picture, it wasn’t the main factor at play in the middle of the pandemic. However, housing supply issues aren’t to be discounted, seen as more of a long-term issue rather than a short-term problem that accelerated demand to such high levels in a matter of two years.

What likely fed American’s ravenous, pandemic-era housing demand, researchers wrote, was low interest rates combined with increased remote or telework, which “may have induced more buyers into the market.”

Why did so many want to buy in a pandemic?

As the Deseret News has reported, the pandemic’s shutdowns and new remote work opportunities spurred many Americans to reevaluate their lives, in many cases choosing to move out of big, expensive cities, in states such as California or New York, in search of more space or larger homes at more affordable price points.

States in the West, including Idaho and Utah, with their relatively low cost of living and plentiful recreation opportunities, topped multiple national lists for in-migration in 2021.

While the pandemic pushed more buyers into the market, at the same time some home sellers could have been more reluctant to list their homes for sale during a time of uncertainty. Meanwhile, “generous mortgage forbearance programs and the foreclosure moratorium may have also reduced supply,” Fed researchers wrote.

However, as the pandemic dragged on, the dynamics shifted. Researchers wrote their models show “stronger demand overtakes lower supply as the main factor behind the observed decrease in months’ supply.”

By the middle of 2021, higher demand “can explain essentially all of the decrease in months’ supply since March 2020,” researchers wrote. “We conclude that, outside of a brief shock at the beginning of the pandemic, reduction of supply was a minor factor relative to increased demand in explaining the tightening of housing markets.”

What will slow housing market demand?

Fed researchers also gave a nod to what has been a major policy concern throughout the pandemic — that the “sharp increase in house prices has exacerbated affordability pressures and increased financial stability risks.” Using their models, the researchers estimated just how much housing supply would be needed to satiate demand enough so that housing prices would continue along their pre-pandemic trend, “instead of accelerating.”

Their findings? The country would have needed a 30% boost in the monthly number of homes coming onto the market in order to keep up with the pandemic rush.

“Since new construction typically accounts for about 15% of supply, our estimates imply that new construction would have had to increase by roughly 300% to absorb the pandemic-era surge in demand,” researchers wrote.

“This is a very large, unrealistic impulse to housing supply in the short-run, suggesting that policies aimed at reducing bottlenecks to new construction would have done little to cool the housing market during COVID-19.”

Secondly, Fed researchers wrote that their models show housing demand was very “mortgage rate elastic.” As rates tick up, they have a significant dampening effect on demand.

“We estimate that a one percentage point increase in the mortgage rate lowers housing demand by 10.4%,” researchers wrote. “This is a larger demand sensitivity to rates than evidence using purely observable housing market variables suggests.”

The report comes as the Federal Reserve continues to wage its war on record inflation that continues to grip the U.S. In recent weeks, the Fed raised its benchmark borrowing rate, including a 0.75% bump, the biggest single hike since 1994. As a result, mortgage interest rates have climbed drastically, shattering the 5% threshold and some days topping 6%.

The average rate for a 30-year mortgage on Thursday hovered at 5.67%, according to Bankrate.com. Compare that to just 3% this time last year.

The report’s findings, Fed researchers wrote, indicate the best way to get a handle on housing demand is through rate increases.

“A high mortgage rate sensitivity of demand combined with our main result showing that short-run housing market fluctuations are largely explained by demand suggest that policies that target mortgage rates are an effective way to influence short-run fluctuations in the housing market,” researchers wrote.