The prospect of the U.S. government defaulting on its national debt has fueled panic and speculation about the implications of such an unprecedented move in the months ahead.
With Democrats and Republicans locked in disagreement over raising the nation’s debt ceiling, some have pegged the dire default scenario to a so-called “X-date”” as early as the beginning of June and as late as August, under the most optimistic scenario.
If a law is not passed to raise the limit on government borrowing, there is legitimate fear that an inability to fund basic obligations — like Social Security, Medicare and Medicaid, and public assistance for housing and food — could have swift, serious consequences for the U.S. and global economies.
The impact on the housing market could send residential real estate into a “deep freeze,” Zillow senior economist Jeff Tucker wrote Thursday.
“Even though a short default would be enough to inflict a tremendous amount of economic damage, that’s no reason to count on it being a short one – the political gridlock that resulted in default, in such a scenario, can’t just be assumed to dissolve after passing the X-date. This scenario models a protracted default crisis.”
Zillow’s forecast of the U.S. housing market over the next 18 months in the event of national debt default is sobering. The company estimates that existing home sales would fall as much as 23% compared to the baseline forecast of a no-default scenario. By the end of 2024, home values would be about 5% lower than under the baseline scenario.
Tucker notes that the fear of a default has already impacted some bond markets, including for U.S. three-month Treasury bills. Investors are seeking significantly higher interest rates on debt maturing this summer compared to in May.
The surge in unemployment that would ensue from a debt default — particularly among government employees and contractors — would also push interest rates higher as the Fed looks to make up ground. The Zillow projection estimates that the 30-year fixed mortgage rate would jump from about 6.125% currently to as high as 8.4% in September, before gradually declining.
Based on that benchmark, the analysis projects that existing home sales volume will decline by 23%, using a seasonally adjusted annualized rate to compare April and September, post-default.
“Cumulatively, in the 18 months from July 2023 to December 2024, the decline in sales volume would be just over 700,000 existing homes sold – that is almost 12% of the 6 million sales in that 18-month span we would expect without a default,” Tucker wrote.
Although the effect on home values is comparatively modest under the default scenario projection, the non-default scenario would see a projected 6.5% increase in home values over the same 18-month period. The pressure felt by first-time home buyers due to rising home prices and current interest rates would be exacerbated by mortgage rates above 8%, even if home values were not heavily impacted by a debt default.
“Any major disruption to the economy and debt markets will have major repercussions for the housing market, chilling sales and raising borrowing costs, just when the market was beginning to stabilize and recover from the major cooldown of late 2022,” Tucker said.
If there is any consolation to considering this scenario, it’s that it has never happened before. As Newsweek notes, economists call situations like this “black swan” events — rare, unpredictable shocks that have a major fallout.
In the event that legislation is passed to raise the debt ceiling, the stabilizing housing market could act as a protective market against a recession later this year, Bloomberg reported.
Compared to the mortgage system in England, where home owners have shorter-term loans that get refinanced multiple times over a 25- or 30-year period, the 30-year fixed rate in the U.S. insulates most home owners from sharp increases in interest rates. And while rate hikes clearly affect affordability for people looking to buy homes, there are conditions that should preserve demand for homes against the backdrop of other economic turmoil.
Via Bloomberg’s Edward Harrison:
Once recession hits, can housing weaken? Sure. But what’s different in both the US and the UK this time is the structural deficit of accommodation. That’s an artifact of the Great Recession because homebuilders made sure not to go hog wild. In the US, you also have a ton of people locked into fixed-rate mortgages who don’t want to move. That will lower inventory, keeping prices higher than they otherwise would be. And finally, millennials, the cohort of people moving up onto the housing ladder are bigger than the preceding cohort, Gen X. That is sure to add demand.
For the moment, the political stalemate in Washington is a reality check for virtually aspect of economic life as we know it. How this situation gets resolved remains to be seen, but government leaders on both sides of the aisle cannot say they weren’t warned about the dangers of inaction.
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