MBA Study Suggests Homebuyers Will Remain Hesitant for Years to Come

According to a study commissioned by the Mortgage Bankers Association (MBA) analyzes how Americans will respond to the current crisis in terms of consumer spending, saving rates, credit supply and implications for the strength of the economic recovery.

The study entitled "Household Reaction to the Financial Crisis:  Scared or Scarred?" found that the higher unemployment rate for Americans aged 16 to 24 could have a lasting impact on that generation's lifetime earnings and attitudes toward risk and social policies.  Meanwhile, many of their parents and grandparents are delaying retirement or reentering the workforce in an attempt to rebuild nest eggs that were wiped out by the economic collapse.  

The study, conducted for The Research Institute for Housing America a 501(c)(3) trust fund established by MBA, was led by Professor Joe Peek, Gatton Endowed Chair in International Banking and Financial Economics at the University of Kentucky. 

"While Americans, and the American economy, are noted for their resilience, the current financial crisis and recession exceeded the devastation created by other post-World War II recessions," said Peek.  "Saving rates have risen substantially and many Americans will continue to cut their spending sharply out of necessity, others out of fear of what the future holds.  Since consumer expenditures account for about two-thirds of GDP, we are facing the "paradox of thrift" as households try to rebuild their net worth, with the reduced spending likely to delay and weaken the recovery from the 'Great Recession'." 

Peek said that it is unlikely that the dramatic increase in loan delinquencies, home foreclosures, and bankruptcies will change because employment and home prices are likely to remain depressed and ongoing problems with loans will restrain banks' willingness and ability to provide credit. 

 "Unfortunately, we face the possibility of being caught in a vicious circle," Peek said.  "The cutbacks in consumer and business spending are likely to contribute to a more anemic recovery.  In turn, we will likely see a deepened and prolonged weakness in consumer and business spending, further undermining the recovery.  The longer the malaise in economic activity continues, the more likely that diminished spending persists, adversely affecting future economic growth and the standard of living.  Such headwinds to a strong economic recovery are likely to have lasting impacts on the values and behavior of the current generation, much as the Great Depression had on its generation."

The study found that the usual estimates of the "wealth effect," which measures individuals' propensity to consume out of total household wealth are in the range of 3 to 18 cents but the effect is "now operating in reverse" resulting in reduced consumer spending. At the same time the 20-year downward trend in personal savings has also reversed, probably because of large capital losses on household assets and as a reaction to economic uncertainty.

The study states that underemployment is much higher than the reported unemployment rate and the length of jobless spells are getting longer.  In reaction, people are delaying retirement while trying to increase retirement savings. Employers have been shifting full time employees with benefits to part time and contract status.

People entering the labor force during recessions have lower lifetime incomes according to the report.  Those unable to find work today are going to be competing with a new crop of graduates in a few months for a still limited set of job openings.  Without a reasonably rapid recovery in employment, at this point an unlikely scenario, there is a risk we will create a "lost generation" that may never catch up.

Credit supply and demand have both been impacted by the financial crisis and reactions to it. Banks remain in weak financial health, and thus are unlikely to increase credit supply by a substantial amount in the near term while many individuals' credit ratings are damaged to a point that will hinder their access to credit for years to come.

Credit underwriting and pricing models developed with data from years prior to this crisis were heavily influenced by prior experience with moderate macroeconomic volatility; Peeks speculations that this downturn will likely play an outsized role in credit decisions over the intermediate term.

Michael Fratantoni, MBA's Vice President of Research and Economics added, "The severity and duration of the most recent downturn far exceeds what we have experienced in past recessions and has resulted in the disruption of millions of lives.  We can't know for certain at this point, but it is more than reasonable to prepare for a world that has been irrevocably changed by this experience.  For the many reasons discussed in this study, we should expect hesitant homebuyers, cautious businesses, and conservative lenders in the years ahead."