Will rising wages boost house prices?
House prices can only rise if wages go up, interest rates go down, or supply is restricted. Will we finally see rising wages in 2015?
Yesterday I wrote about the importance of wages for house prices. Assuming mortgage interest rates are stable (probably a poor assumption), then for house prices to go up, aggregate wages must rise throughout the market. What conditions are required for wages to rise?
When unemployment was very high in the aftermath of the 2008 financial crisis, employees were lucky to keep the jobs they had, so very few people left work voluntarily to take new jobs, and employees were in no position to demand higher wages as the employer could simply replace them, often with someone willing to work for less. For wages to rise, we need a growing economy that creates many new jobs.
When unemployment gets down below 6% employers no longer have their pick of many available candidates desperate for work; thus competition for employees becomes a force in labor markets. One of the first indications of increasing competition is an increase in voluntary terminations (aka people quitting their jobs). The government measures this phenomenon known as the quit rate, the subject of today’s article.
A rising quit rate is a sign that people are quitting their jobs to take higher paying jobs, the first sign of competition in the labor market. Usually there is a lag between a rise in the quit rate and a rise in aggregate wages, assuming people really are quitting their jobs for better opportunities. So while wage growth hasn’t improved yet, a rising quit rate is a sign that it may yet improve this year.
Of course there is a further lag between rising aggregate wages and rising home prices because people don’t buy a house the day they begin a new job. After some period of adjustment, and at least a month to get two recent pay-stubs, newly employed may begin shopping for a house, and many months later that new employee may become a homeowner. Realistically, it would be spring of 2016 before we see the effects of improving wages today.
Rising wages would contribute to overall market stability, but even that may not be enough to overcome the market headwind of rising mortgage rates.
Wages must go up… a lot
So let’s recap the circumstances today:
- House prices are inflated to the limit of affordability.
- Affordability products are banned.
- Qualification standards won’t be loosened significantly, and even if they did, that won’t increase how much people can borrow.
- Prospective buyers aren’t kool aid intoxicated, so they aren’t willing to sacrifice quality based on comparable rentals.
- Wages have been flat for the last several years, but an improving economy may put pressures on wages.
Now that prices are inflated to the limit of affordability, the only way for house prices to go up, particularly in the face of rising mortgage rates, is for wages to rise; in fact, wages must rise more than enough to offset the reduced buying power caused by higher mortgage rates. While wages may rise, it seems unlikely they will rise enough to offset an increase in costs if mortgage rates go from 4% to 5%. That’s the inescapable math.
How much must wages go up?
If mortgage rates go from today’s 4% to 5% on one year, it will require a huge increase in aggregate wages to compensate. For example, each $100,000 of borrowing costs $477.42 at 4% amortized over 30 years. At 5% mortgage rates, the payment rises to $536, a difference of $59 per month. While that doesn’t sound like much, it represents a 12.4% increase in borrowing costs. Convert that to a $600,000 Orange County mortgage, and the increase is $354 per month.
Since house prices are at the limit of affordability and sales volumes are weakening, in order to increase sales and increase prices by 4%, we need an economy that produces aggregate wage growth of 16.4% to offset the 12.4% increase in borrowing cost. How likely is that?
Economists glibly make predictions about rising mortgage rates and rising prices without taking the time to reason through how that would happen. If any of them had done the math, they would be far less certain both could occur at the same time, particularly given the other constraints on the market.
SAN FRANCISCO, May 12 (Reuters) – Americans are becoming more apt to quit their jobs, a government report showed on Tuesday, a sign that a stronger labor market and falling unemployment rate could result in healthier wage growth and inflation.
The three-month quit rate for non-government jobs rose to 6.6 percent, the report showed, the highest since the second quarter of 2008 and up from 6.5 percent in the final quarter of 2014. Both wages and inflation tend to follow a rise in the quit rate by a couple of quarters, research from the Chicago Federal Reserve Bank shows.
“Once the quit rate gets back to its pre-recession level, we could expect wage growth to be back to pre-recession levels within 6-12 months,” said Jason Faberman, a Chicago Fed researcher who co-authored the study. The three-month quit rate hit a pre-recession peak of 7.6 percent before falling to as low as 4.3 percent in the depths of the Great Recession. …
Economists have not settled on why wage growth is so slow, despite a drop in the unemployment rate to a seven-year low of 5.4 percent, but theories abound.
Wage gains may be slow in part because the U.S. population is aging, separate research published on Monday by the Chicago Fed suggests. Older people are less likely to change jobs, and as research by Faberman and others show, job-switching is closely tied to pay rises.
“We do still want quits to continue to pick up because wage growth will go with it,” Faberman said, though demographics may mean quit rates may never return to pre-crisis highs.
Edward Knotek, a researcher at the Cleveland Fed, is skeptical.
“If I had to guess I would think that an improving labor market, shrinking slack, should put upward pressure on wages. But when you go to the data and the statistics, that hasn’t always been the case,” he said in an interview. “We should be cautious thinking that we know more than we do about wage growth.”
This seems like a debate over some esoteric statistical measure, but the quit rate is an important measure of competition for labor. Without increasing competition for labor, wages will not go up — and neither will house prices.
In the here and now, this is our reality…
WASHINGTON — Solid job gains resumed last month after an anemic March, but the rebound wasn’t strong enough to allay concerns that a modestly growing labor market still can’t generate much of a raise in workers’ paychecks.
The top-line numbers released Friday were good: 223,000 net new jobs and a tick down in the unemployment rate to 5.4%, the lowest level in nearly seven years.
“The job gains rebounded from the weather-beaten March figure, restoring some forward momentum,” said Sung Won Sohn, an economist at Cal State Channel Islands. “However, the job market still faces hurdles.”
The pace of wage growth slowed sharply in April, with average hourly earnings rising just 3 cents, half of the previous month’s increase. And the Labor Department reported a steep downward revision to 85,000 jobs for March’s already disappointing job growth. …
Those factors as well as continued head winds produced by weak global economies, a rising dollar and low oil prices led analysts to predict that Federal Reserve policymakers are more likely now to wait until at least September to increase the central bank’s benchmark short-term interest rate.
I really don’t know why everyone expects the federal reserve to start raising rates this year. If we do get a September rate hike, which I still believe is unlikely, it will only be symbolic, a test of the market’s taper tantrum.
“I think we would have needed to have seen stronger numbers” Friday, Bullard said. “While it’s positive and does signal a rebound in activity in the second quarter, it doesn’t signal it’s any stronger than the rate of growth for the recovery.”
Bullard said weakness in mining and manufacturing, two higher-paying industries, contributed to sluggish wage growth.
The mining industry, which includes oil and gas extraction, lost 15,000 net jobs last month after shedding 12,000 in March. It was the fourth straight month of job losses for the industry.
Manufacturers added just 1,000 positions last month after no growth in March.
Wages will eventually go up, but like everything else associated with this recovery, it will come slower than everyone imagines, and it will be weaker than everyone hopes.