By Jeffery Bower
The effects of the COVID-19 pandemic on the economy and the financial markets have been immense. The stock market has been booming throughout, and prices of houses have risen tremendously, causing inflation concerns. However, with the stock market and real estate markets doing so well, how much of it is because of policy stimulus? How much of it is real?. According to the Wall Street Journal, “the U.S. economy’s rebound from the pandemic is driving the biggest surge in inflation in nearly 13 years, with consumer prices rising in May by 5% from a year ago.”
With stimulus policy being passed throughout the pandemic, inflation concerns are evident, increasing prices from restaurants to houses. According to a survey conducted by the Financial Times, Economists expect the Fed to keep inflation under control. Alan Blinder of Princeton University states, “As inflation goes up and the economy improves, the traditional hawk-dove differences across the Federal Open Market Committee are going to start to reappear.” We are currently in a pro-inflation environment that promotes growth. Economists like Alan Blinder of Princeton University do not expect inflationary concerns to last and forecast an interest rate increase as early as 2022.
The Real Estate Market
In May, the rise of housing prices accounted for over a quarter of the overall inflation increase. According to the consumer price index, housing prices have risen 2.2%, but other reports show an increase of more than 13%. Home prices rise because of the rise in the cost of labor and lumber to build the house and how people value it as a capital investment. According to MarketWatch, with the COVID-19 pandemic, many wealthier Americans who now can work from home decided to move out of major cities with high costs of living to the suburbs, saving money doing so. This caused the rental rates to decline in pricier areas, but the rents actually increased in more affordable areas, like the suburbs. To solve the increased prices of housing, more houses need to be built to meet the demand. Not only that, the mortgage forbearance and the Fed buying mortgage-backed securities and lowering interest rates all have an impact. Commercial Real Estate, such as multi-family and industrial, is starting to go back to pre pandemic level, as borrowers seek and obtain aggressive loans.
Real Estate as an Inflation Hedge
Real Estate has been viewed as a partial inflation hedge for a long time. REITs and property assets increased prices can be passed through rents. For apartments and hotels, reaction to inflation can happen quickly because of the shorter lease terms. Economists warn that the housing market can dip. As the cost of everything goes up, you can lock in a low-interest, fixed rate mortgage, then the price of your home will stay the same as the value of your property rises.
If you buy a house that appreciates in value by 20%, you are getting a worse deal than if you purchased it before it increased in value. The cost of homes rising because of the demand will not change with the historically low-interest rates. What can be done about the rise in the price of houses is from federal policy; when the Fed increases interest rates, and more homes can be built to meet demand, the cost of houses can go back down.
Guilford, G. (2021). U.S. Inflation Is Highest in 13 Years as Prices Surge 5%. The Wall Street Journal. https://www.wsj.com/articles/us-inflation-consumer-price-index-may-2021- 11623288303.
Passy, J. (2021). An inflation storm is coming for the U.S. housing market. MarketWatch. https://www.marketwatch.com/story/an-inflation-storm-is-coming-for-the-u-s-housing market-11623419869.
Smith, G. (2021, June 30). FirstFT: Economists predict multiple US interest rate rises by end of 2023. Financial Times. https://www.ft.com/content/33ddfd40-34d4-49d4-b852- 6a416f15560d.
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