Recently, the census bureau released its latest figures on the housing stock, now updated to the second quarter of 2009. Interestingly, the vacancy rate for the owner-occupied market fell to 2.5% from 2.8%, but it rose to 10.7% in the rental market, a 40 year high. To shed some more light on the new census data, below, I redo the analysis in my "Beveridge Curve" paper which provides a quantitative measure of oversupply, or disequilibrium in the housing market. The main finding is that the owner-occupied market is almost back to equilibrium, in my opinion, a quite strong observation that the owner-occupied market has reached bottom. However, the overall housing market is still suffering from oversupply, with most of the oversupply residing in the rental market. This further supports what my research has been suggesting: a significant adjustment mechanism for the housing market is the shift of housing from the owner-occupied market to the rental market. I expect rents to continue to fall, putting downward pressure on the CPI. My hunch is that for the next several years multi-unit housing starts will remain depressed while the rental market corrects itself. Read on for the updated analysis.
Figure 1 plots the updated time series for the vacancy rates. In addition to the owner-occupied and rental vacancy rates, I provide a total vacancy rate, which provides the vacancy rate for the overall market, irrespective of ownership. We can see that the total vacancy rate has been flat of late, roughly at the all time high since the data started in 1965, while the owner-occupied rate has fallen and the rental vacancy rate has increased.
The census data also informs us about the rate of household formation, and how the rate of household formation is allocated across renters and owners. Figure 2 plots the rate of household formation for owners, renters, and total households irrespective of tenure status. Due to the noisiness of the data, I use the % increase in households over the past 8 quarters and report the rate of change at an annual frequency. In my opinion figure 2 is one of the most striking pictures of the housing bubble. We see quite clearly the shift in owning starting around 1995, and then the dramatic shift to renting starting around 2005. In fact, the first quarter of 2006 was the first observation where the previous two years had more growth in renters than owners since the last quarter of 1994! Even more striking, for the first time since Census began this series in 1965, the growth rate of owners has been roughly zero for the past two years.
My research suggests that there is a negative relationship between the rate of household formation and the vacancy rate. This is true in the owner-occupied market, the rental market, and the total market irrespective of ownership. I call this relationship the Beveridge Curve in the Housing Market, and it can be thought of as a long-run supply relationship. For a deeper analysis of the Beveridge curve see my earlier posts here and here or read the academic paper.
The most interesting aspect of the research is that the deviations from the Beveridge curve give us an estimate of the magnitude of the disequilibrium in the housing market. I can do this for the owner-occupied market, the rental market, or the total market irrespective of ownership. The result for the owner-occupied market is shown in figure 3, the units are in a % of the total housing stock. We can see quite clearly the oversupply that resulted from the bubble, peaking at 0.49% of the total housing stock in the fourth quarter of 2006. However, the market has been quickly correcting itself, now standing at 0.10% of the total housing stock. The correction in the owner-occupied market stems from two adjustments: (1) the growth rate of owners has fallen, now being consistent with the high vacancy rate; and (2) the number of units in the owner-occupied market has been falling, due to less construction and a shift of units to the rental market. I expect that these trends are still continuing, so that sometime in the next year the owner-occupied market will actually shift to a state of undersupply.
However, the picture is much different in the total housing market. Figure 4 shows the oversupply in all three markets: owner-occupied, rental, and total market irrespective of ownership status (the rental market reported here is simply the residual between the total market and the owner-occupied market—the independent estimate of the rental market implies an even larger oversupply in the rental market). Here, we can see that the total market still is far from equilibrium, with an oversupply of 0.89% of the total housing stock. However, this is down from the peak of 1.18% in the second quarter of 2006. Therefore, while the owner-occupied market is almost back to equilibrium, the overall market still has a large oversupply. Almost all of the oversupply is showing up in the rental market. Clearly, we are seeing the market respond by shifting resources from the owner-occupied market to the rental market. This will undoubtedly put pressure on rents to fall as has been recently reported. I expect rents to continue to fall for quite some time, putting downward pressure on the CPI.
Punchline: the market is adjusting, which means the owner-occupied market clears while the rental market holds the oversupply. The owner-occupied market has probably already moved back into a state of equilibrium, while the total market will slowly reach equilibrium as the production of primarily multi-unit rentals remains sluggish for several years.