Paul Krugman wrote on February 6th that January’s favorable jobs report may be a harbinger of economic recovery. But he lists a precondition: that housing must recover.
“The main thing standing in the way of a housing bounce-back is a sharp fall in household formation — econospeak for lots of young adults living with their parents because they can’t afford to move out.”
Why can’t they afford to move out? There are two related answers that are key to making the economy grow and generate jobs. The first answer is that the kind of housing that we have been constructing in America before the housing bubble burst truly is and will remain unaffordable. Most new housing was built in suburban sprawl: locations where driving to and from the house over the life of the mortgage will cost $350,000—more than twice the cost of the house itself. Many young adults truly cannot afford this.
And the second answer is that the new generation by and large doesn’t want this kind of housing anyway. Where the market is underbuilt—where most of these young people want to live—is in more compact and transit-served neighborhoods. These areas generally cost a little more, but the difference is more than paid back by the reductions in transportation costs, often reductions of 50% and more.
The problem is that lenders do not recognize this increased affordability. So they subject borrowers to the same income limits and credit score limits when their transportation obligations are small as when they are large. In other words, if you (truly) can’t afford to make your mortgage payments after paying over $11,000 a year on your cars, then the lender assumes you also can’t make the payments even if you are spending only $5,000 a year on transportation. Even if you really can afford this choice!
Thus recovery is being held back by these obscure but important regulations on lending. These regulations force choices on consumers that they don’t want to make as well as compromising the quality of the mortgage loan. They could be changed next week if anyone wanted them to be. It is very simple: lenders simply subtract the monthly savings in transportation costs from the monthly mortgage payment when determining if the borrower has enough income to qualify for the mortgage.
Fannie Mae ran a pilot project that did this over a decade ago, calling it the Location Efficient™ Mortgage program. It was a great success in retrospect: none of the Location Efficient™ Mortgages went into default.
But now it seems no one cares. Or at least that no one in the lending industry is willing to do the homework of evaluating how transportation (and energy) costs affect the risk of default. And no one in the Administration wants to require them to. So we keep being stuck with a lending system that does not allow the nation to build housing where the market wants it.
Perhaps as a result, even Krugman’s optimistic case does not have employment returning to normal till 2019.
Should we be willing to settle for that?