Forecasters predict further housing market slump

Some experts contend that high borrowing rates and low supply signal ongoing decline.

from the June 18, 2007 edition

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Yet he and other forecasters say that a worst-case scenario, with a deep housing slump constraining consumers and driving the whole economy into a recession, remains unlikely. For one thing, the big jump in interest rates reflects investors' belief that the economy is strengthening, so the Federal Reserve Board won't need to cut its benchmark interest rate to stimulate growth.

Many economists don't think interest rates will rise much more for now. Inflation isn't ringing alarm bells, judging by the consumer price index. The core inflation rate – with food and energy prices stripped out – rose by a tame 0.1 percent in May.

"The run-up in [interest] rates will push mortgage rates up, and that will give a little smack to housing. The question is how much," says Brian Horrigan, chief economist at Loomis Sayles, a Boston investment company. He says, "there is not that much more upside risk" for interest rates.

Still, any rise in interest rates is a burden on potential buyers, and on homeowners who may be forced to sell if a rate reset pushes up their monthly payments. Last week, the Mortgage Bankers Association announced that a record 0.58 percent of home loans entered the foreclosure process in the first quarter of 2007, on a seasonally adjusted basis.

Until recently, stagnant housing prices were helping to improve affordability in much of the country. One new analysis, by Global Insight and National City Corp., finds that homes in 54 of 317 metro areas were significantly overvalued as of early 2007. That's down from 62 metro areas in the third quarter of 2006.

Another challenge for potential home buyers: Banks have been tightening their lending standards, pulling back after a period of easy credit.

In a hearing last week, the Federal Reserve came under pressure to draw a tougher line with banks on certain lending practices, such as failing to check whether borrowers will be able to pay off their loans once low "teaser" interest rates reset.

"We must walk a fine line," Fed Governor Randall Kroszner said. "We must determine how we can help to weed out abuses while also preserving incentives for responsible lending."

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