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Construction of new homes is slowing as mortgage rates remain high

New home construction in the United States fell short of expectations in May as builders pulled back from new home construction, largely in response to high interest rates, adding to concerns about persistently high home prices.

Government facts Figures released Thursday showed that new home construction, or housing starts, fell 5.5 percent last month to an annual rate of 1.28 million, a sign of further cracks in the already shaky housing market. Slower construction of both single-family and multi-family homes contributed to the overall decline. The number of building permits fell by 3.8 percent, indicating less construction activity in the future.

The downturn in housing construction comes as the average interest rate on 30-year mortgages, the country’s most popular home loan, has reached a record high not seen in decades. slightly dipped this week to 6.87 percent, Freddie Mac reported on Thursday.

The magnitude of the decline in construction last month underscores that high interest rates both weaken housing demand and raise costs for builders — two dynamics that ultimately contribute to builders’ reluctance to start projects. Homebuilder sentiment fell to its lowest level this year in May before falling further this month, suggesting relatively tepid data on home construction in the coming months, Daniel Vielhaber, an economist at Nationwide, said in a statement .

The weakening of the construction sector in turn puts even more pressure on potential home buyers.

“If you’re a consumer, if you’re someone who wants to buy a house, ultimately you want a lot more supply,” said Chen Zhao, head of the housing economics team at real estate services firm Redfin. “The key to more housing supply is that we need more buildings. So every time we see less construction, that’s bad news.”

The latest housing construction data released by the U.S. Census Bureau and the Department of Housing and Urban Development reinforces that consumers are unlikely to see much decline in home prices in the coming years, Ms. Zhao said. The data point, she added, represents “another factor that would keep home price growth elevated,” as it points to a tighter housing supply over the next two years.

Federal Reserve officials left interest rates unchanged at their meeting last week and predicted they would cut borrowing costs just once before the end of 2024. Builders are likely reacting to the uncertainty surrounding the Fed’s upcoming decisions on interest rates — and how lower rates could affect housing demand, Ms. Zhao said.

“What the Fed will do is a big deal for a lot of different players in the economy, including builders,” said Julia Fonseca, an assistant professor of finance at the University of Illinois at Urbana-Champaign.

Mortgage rates were around 3 percent in June 2021, less than half their current level. They began to rise in 2022, as the Fed began raising its policy rate in an effort to combat inflation.

First-home buyers in particular are being “squeezed from all sides” as they face high prices, high interest rates and low inventory, Ms. Fonseca said. Many homeowners with mortgage rates significantly lower than current rates are feeling trapped, limiting their mobility and the amount of homes on the market.

Lower construction rates are poised to contribute to these existing pressures on housing stock, potentially increasing the price pressures consumers face.

“If there is no new construction, it could push prices up even further,” Ms Fonseca said.

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