Ah, there’s nothing like the smell of economic uncertainty in the morning — though we’d all likely prefer the calming scent of a good cup of coffee.
It’s hard to even glance at the news without hearing talk of a recession. Is one coming? Are we already in one? Could a recession be the key to getting into a home for less than you could today?
Buying a home during a recession comes with pros and cons. Whether a recession is the right time for you to buy a house comes down to two things: home prices and interest rates. Recessions can bring both down, but today’s housing market might mean you need to focus on lower interest rates if you’re looking for a bargain.
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A recession is a temporary decline across the broader U.S. economy for at least two quarters. Economic experts consider many aspects of the economy when deciding whether the nation is in a recession. A sustained decrease in household spending, rising unemployment, and a decrease in gross domestic product (GDP) are all signals that a recession could be happening.
Ultimately, an organization called the National Bureau of Economic Research (NBER) makes the final call as to whether a recession is happening. Are we in a recession right now? Experts say no. However, many financial and economic experts think the possibility of a recession in the U.S. is rising.
To really understand how a recession impacts the housing market, we need to look at mortgage rates and home prices separately. Why? These two are often connected, but they don’t necessarily move in tandem.
When consumer spending drops in a recession, the Federal Reserve takes steps that encourage people to spend money and stimulate the economy. One of the most significant ways it does this is by cutting the federal funds rate, which often results in lower rates on loans. Lower interest rates encourage consumers to make major purchases using loans, including mortgages, auto loans, and even personal loans for home renovations.
So, mortgage rates will typically decrease during a recession alongside interest rates on many other lending products.
Dig deeper: How the Federal Reserve rate decision impacts mortgage rates
Home prices tend to decrease during a recession, but not always. Why? Because during a recession, there’s a good chance that fewer people can afford to buy homes due to rising unemployment. Even if people can still afford to buy a house, they may not be willing due to economic uncertainty. These scenarios may cause a decrease in demand, which can drive home prices down.
However, not all recessions are created equal. For example, low mortgage rates and a shortage of housing supply during the COVID-19 pandemic sent home prices skyrocketing across the nation despite the general economic downturn. That brings us to modern day, and questions about how today’s housing market differs from those during other recessionary times.
Read more: When will the housing market crash again?
The state of today’s housing market is truly unique, as there’s a significant supply-demand imbalance that the economy hasn’t seen in quite some time. The cause? Josh Hirt, senior economist at Vanguard, said that this imbalance comes down to the “rate lock effect” and a prolonged shortage of housing starts — a holdover from the housing crash in the early 2000s.
Remember the “good old days” of the pandemic when mortgage rates were nearly nothing? (Probably the only “good” part of the pandemic.) So do the homeowners who scored them.
“The majority of mortgage holders today have rates that are 4% or less,” Hirt said in an interview. “This creates a rate-lock effect where these homeowners aren’t incentivized to sell their homes.”
And to be honest, why would they? The 3-something-percent mortgage holder is looking at rates over double that today. Add in higher home prices, and moving costs look pretty unbearable.
“This means that a lot of homeowners who would typically be selling their homes just aren’t doing that,” Hirt said. Owners staying in their houses instead of moving contributes to a shortage of homes on the market.
Now, for the other culprit in the housing supply shortage. When the housing market crashed in the early 2000s, the market became flooded with homes. As a result, homebuilders weren’t inclined to build since new homes were competing with the glut of houses already on the market.
More than a decade later, those slow housing starts have contributed to a significant lack of homes available for purchase. “And we need those homes,” said Hirt. “People are getting married, having kids, and wanting to buy a house.” This scenario puts more buyers in competition, driving home prices upward.
Lower home prices. Buyers who must sell their homes for various reasons may choose to drop prices to encourage buyers to make an offer.
Lower interest rates. Lower mortgage rates could mean you can afford more home, even if prices hold steady.
Potentially less competition. Higher unemployment rates could translate to fewer buyers competing for homes, putting your offer at the top of the pile.
Potentially, there will be more competition. When interest rates drop, more buyers might try to buy, causing more competition for entry-level homes, bidding wars, and higher sale prices.
The risk of economic uncertainty. If an economic downturn lasts significantly past your purchase date, you could risk losing home equity if home prices slump.
More stringent lending requirements. Due to broader economic uncertainty, you could face stricter qualification standards from some mortgage lenders.
Buying a home during a recession could be the ticket to getting you into the market and building equity. But if a recession is looming, you’ll likely do better to focus on mortgage rates instead of home prices.
The current housing supply challenges won’t improve should a recession kick in. Home prices may remain steady and potentially increase when the Fed starts cutting interest rates. As mortgage rates fall, more buyers will look to lock in a mortgage at these lower interest rates, increasing competition for the limited supply of homes. Bidding wars and climbing sale prices could result.
By putting home prices aside and focusing on mortgage interest rates, you can establish a budget for a home you can afford. This could mean trading down — opting for a smaller single-family home than the one you currently rent — or adding condominiums into the mix. You could also consider getting a fixer-upper using an all-in-one purchase/renovation loan like the FHA 203(k) mortgage.
If you’re secure in your employment and finances, a recession shouldn’t prove a barrier to buying a home. To feel confident in your decision, it could prove worthwhile to feel the market and your finances out as rates begin to drop. A measured approach will also give you time to assess your local market and weigh different types of homes to help you score the most favorable deal on closing day.
Recessions can sometimes cause a dip in housing prices. However, it’s also possible for home prices to increase during a recession. This is especially true if the housing supply is tight and interest rates drop. This combination could send an influx of buyers into the market, causing more competition for a limited supply of homes and increasing housing prices.
Interest rates generally drop during the early days of a recession. The Federal Reserve tends to cut interest rates to make spending more attractive, especially on major purchases requiring financing like cars and homes.
According to a study by Demographia, home prices dropped roughly 29% between July 2006 and January 2009. Some areas saw steeper drops, with the Los Angeles Times reporting a 35% decrease in the greater LA area in 2008.
Laura Grace Tarpley edited this article.
