U.S. Home Prices Continue to Rise

American house prices are continuing to rise at a pace described by one economist as “unsustainable.”   Two indices of home prices showed a sharp increase in prices throughout America, with gains beating inflation in just about every major metropolitan area in the country. According to the S&P Case-Shiller Home Price Index, home prices rose 5.1% in the 10-city composite, while the 20-city composite—, which covers a broader swathe of medium-sized cities—saw a 5.7% year-over-year gain.

American house prices are continuing to rise at a pace described by one economist as “unsustainable.”   Two indices of home prices showed a sharp increase in prices throughout America, with gains beating inflation in just about every major metropolitan area in the country. According to the S&P Case-Shiller Home Price Index, home prices rose 5.1% in the 10-city composite, while the 20-city composite—, which covers a broader swathe of medium-sized cities—saw a 5.7% year-over-year gain.

The higher price gains in smaller cities may indicate weakening purchasing power among middle class Americans, and a decline in the affordability of available housing. S&P Dow Jones Indices Managing Director, David M. Blitzer, acknowledged that higher prices are making homes less affordable.

“While low inventories and short supply are boosting prices, financing continues to be a concern for some potential purchasers, particularly young adults and first time home buyers. The issue is availability of credit for people with substantial student or credit card debt,” said Blitzer.

A similar index of home prices published by Black Knight, a financial services firm, saw a 5.3% year-over-year increase in home prices in America, with median home prices rising to $253,000.

The decline in total homes on the market is largely driving the trend, with limited homebuilding activity pressuring homebuyers and driving up prices. “The low inventory of homes for sale — currently about a five month supply – means that would-be sellers seeking to trade-up are having a hard time finding a new, larger home,” Blitzer said, adding that “the recovery of the sale and construction of new homes has lagged the gains seen in existing home sales.

This may be starting to change: starts of single family homes in February were the highest since November 2007.” Because of less affordable housing, home ownership remains weak from a historical perspective; although some analysts believe home ownership rates may improve in the future.

“While rising home prices are certainly a factor deterring home purchases, individual financial positions are more important than local housing market conditions. One hopeful sign is that the home ownership rate, at 63.7% in the 2015 fourth quarter, may be turning around,” said Blitzer. “It is up slightly from 63.5% in the 2015 second quarter but far below the 2004 high of 69.1%.”

At the same time, flat incomes for most American workers could pressure home buying activity and home price gains, evaporating the wealth effect of appreciating home prices and depressing aggregate demand further. If this were to happen, a deflationary spiral caused by weak home prices could have ripple effects throughout the economy, even precipitating a recession.