What Impact Do Changing Interest Rates Have on Mortgage Demand?

by Stephanie Lo
JCHS Meyer Fellow

Could the post-Great Recession drop in housing demand have been driven in part by an increase in mortgage credit spreads across borrowers? In a new Joint Center working paper that uses proprietary data on the spread of mortgage rates across borrowers with different credit, I find that mortgage demand does react to mortgage interest rates in economically and statistically significant ways. 

This finding is significant because little is known about the extent to which changes in interest rates affect the demand for mortgages. Measuring this effect is difficult because both interest rates and the demand for mortgages are driven by macroeconomic factors. For example, after the financial crisis in the late 2000s, interest rates fell as the Federal Reserve attempted to stimulate the economy, but the demand for mortgages also fell because individuals faced adverse macroeconomic conditions. A naive estimate would suggest that over this period, lower interest rates drove lower housing demand, which is clearly not correct.

My study uses Loan Level Price Adjustments (LLPAs) to address this issue.  Instituted by FHFA in November 2007, LLPAs are additional fees paid upfront by the lender to Fannie Mae or Freddie Mac. The fees are higher for loans with higher loan-to-value ratios and borrowers with lower credit scores, and feature discrete cutoffs at certain credit scores, as measured at mortgage origination. Put simply, a borrower with a 700 credit score will face the same LLPA as a borrower with a 701 credit score, but will benefit from a discretely lower LLPA than a borrower with a 699 credit score.

Using administrative mortgage rate data, I find that LLPAs are completely passed through to borrowers, so while lenders receive the same mortgage rate across credit scores, borrowers just below a credit-score cutoff pay a higher mortgage rate than those just above that cutoff point (Figure 1). I further show that borrowers across these credit scores are virtually identical, and for high credit scores, lenders do not differentially screen across these cutoffs. This allows me to apply a regression-discontinuity design to examine how mortgage demand changes for borrowers just above and below several credit score cutoff points—660, 680, 700, and 720—where the interest rates offered to borrowers change. 

Notes: Rates are for conforming 30-year FRM. The numbers shown reflect the mean across the entire baseline sample for the exact FICO score shown, on the weekly level, from October 2008 to December 2014. Higher FICO scores tend to benefit from lower mortgage rates due to lower upfront payments induced by LLPAs. Source: Optimal Blue and Fannie Mae; Author’s calculations.

The results show that borrowers respond to changes in interest rates in economically and statistically significant ways (Figure 2). I estimate that a 25 basis point cut in interest rates results in a 50 percent increase in the likelihood of a potential borrower to demand a loan. In a given month, this increases the number of mortgage originations from about 100 per 100,000 individuals to 140 per 100,000 individuals. I also find that a 25 percent basis point cut in interest rates results in an increase in loan size of approximately $15,000, or about 10 percent of the average origination volume.

Notes: The mortgage rate series comes from the Freddie Mac Primary Mortgage Rates survey. Mortgage originations data is calculated as the total recorded origination amount for purchase mortgages by year, using the proprietary McDash LLC data.

These estimates help to explain the post-crisis drop in mortgage demand from low-income and low-credit borrowers. A back-of-the-envelope calculation using my estimates suggests that, had 680-719 FICO borrowers been subject to the same LLPA as 720 FICO borrowers, this group would have generated $15 billion more in mortgage demand over six years, which would have been a 33 percent increase in mortgage lending to this group alone. More generally, my estimates suggest that borrowers were very sensitive to mortgage rates after the crisis, implying that the Federal Reserve’s efforts to lower interest rates, which in turn lowered mortgage rates, may have been very effective in bolstering the housing market.

Boston Mayor Gives Annual Dunlop Lecture

by David Luberoff
Senior Associate Director

In a more two-decade career that began in the construction trades and now brings him into a host of debates about federal policies, Boston Mayor Martin J. Walsh says he’s “learned a lot about housing: how it gets built, the role it plays in working people’s lives, and the role it plays in community development.”

Walsh, who gave the Joint Center’s 17th Annual John T. Dunlop Lecture on March 20th before more than 300 people at Harvard’s Graduate School of Design, hailed the fact that, in positions that included serving as dean of Harvard’s Faculty of Arts and Sciences and as U.S. Secretary of Labor, John Dunlop “spent his career bringing together academics, government officials, workers, and labor leaders to better understand our shared challenges.” Such collaboration, “is something we could use more of today,” noted Walsh, who added, “I’ve found that kind of dialogue and collaboration to be invaluable throughout my career,” particularly when it comes to housing.

Walsh, who emerged from a crowded field to win Boston’s mayoral race in 2013, said that upon taking office, “one of the first things I confronted was what more and more people were calling a housing crisis. Rents and home prices were rising beyond middle-class, working-class, and low-income people’s budgets.”  Addressing those challenges, he said, not only required setting and achieving ambitious goals, such as building more than 50,000 additional housing units by 2030, but also doing so in ways that go beyond “simply matching housing units to the population, or meeting market-driven demand.”

Rather, he said, “the challenge is to embrace our success as a city while retaining the core values that got us here. Those values center on inclusiveness, on opportunity, on social and economic diversity. We are a community that welcomes all and leaves no one behind. These aren’t just ideals. They are pragmatic needs.” The mayor, who also spoke about city initiatives to provide more housing, reduce homelessness, and address evictions, added that those efforts further highlight “the role of housing not just in community development but also in human development.”

Turning to current debates about the federal budget and other federal policies, Walsh said the Trump administration’s recent budget proposals and other federal initiatives are “an effort to end the system of federal partnerships that date to the New Deal and Great Society commitments of the 1930s [and] the 1960s.”  Left unchecked, he said, such policies would exacerbate the already significant problem of economic inequality in Boston.  Therefore, he added, he and other mayors are actively trying “to educate people on the impacts of inequality, and advocate for solutions” such as “health care; paid family leave and affordable daycare; strong labor laws and fair tax laws; financial regulation; [and] infrastructure investments.”

While these are daunting challenges, the mayor said, “I’m still counseling confidence” because the work the city has done and continues to do puts Boston “in a good position to respond to this moment. Even if the funding arrangements we’ve built seem threatened, the relationships we’ve built are strong. They will produce new solutions and new ideas. They will bring new partners to the table.”  Those partners, he concluded, hopefully will include the many graduate and undergraduate students who attended the lecture. “We are going to need you in the years ahead,” said the mayor.

Watch Mayor Marty Walsh deliver the 2017 Dunlop Lecture.

Remodeling Activity Projected to Grow in Most Metropolitan Areas

by Elizabeth La Jeunesse
Research Analyst

Spending on home improvements is expected to increase this year in 43 of the nation’s 50 largest metropolitan areas, according to our latest report about the home improvement industry, Demographic Change and the Remodeling Outlook. The report projects that, on average, home improvement spending in 2017 in these metro areas will be 6.8 percent higher than it was in 2016, slightly more than the projected 6.1 increase nationwide. 

However, as an interactive map released in conjunction with the report shows, the growth rates will vary widely. About a third of major metro areas are expected to see strong growth of 10 percent or more, while a similar number should see declines or slow growth of under 3 percent.

Some of the largest increases, in percentage terms, are expected to occur in several Midwestern metropolitan areas such as Cincinnati, Cleveland, Columbus, Kansas City, Minneapolis, and Milwaukee, where there is a consistent demand for housing and prices are not as high as in other parts of the country.

Double-digit gains in home improvement expenditures are also expected in New England’s three largest metro areas—Boston, Hartford, and Providence—where home sales have been strong. While average per-owner spending in other metropolitan areas on the East Coast has been relatively high in recent years, total spending in several of those areas is expected to increase slowly in the next year. The report projects that spending will grow by less than one percent in New York, the nation’s largest metro area, and by less than four percent in the Washington, DC area.

Home improvement spending is also expected to pick up significantly in several fast-growing, Southern metropolitan areas where homebuilding activity has revived and more households are forming, such as Atlanta, Charlotte, Jacksonville, and Orlando. In contrast, spending will grow modestly or may even decline in Southern metro areas with oil-dependent economies such as Dallas, Houston, and Oklahoma City.

On the West Coast, the report projects a significant increase in spending on home improvements in the Sacramento metro area, where house prices recovered more slowly from the Great Recession than in other parts of the state. In contrast, spending is expected to increase only modestly or decline slightly in the Los Angeles, San Diego, San Francisco, and San Jose, where leading indicators suggest housing markets may be approaching their cyclical peaks. In metro areas across the Mountain and Pacific Northwest regions, growth rates are also expected to vary widely, from a low of just under 2 percent in the Las Vegas metro to a high of nearly 10 percent in the Salt Lake City area.

These projections are based on two measures of housing demand—single-family starts and growth in existing home sales—that are strong leading indicators of national remodeling activity. The results broadly support our expectation that home improvement expenditures in certain high-cost markets may soon reach a cyclical peak, while spending will increase in markets where house prices are lower but are increasing steadily.

The report also finds that the national market for home improvements is somewhat more concentrated in the nation’s 15 largest metropolitan areas, which account for about 29 percent of the nation’s homeowners. Illustratively, according to estimates from the 2015 American Housing Survey, average per-owner improvement spending in the same 15 metro areas was $3,500, or more than 30 percent greater than average spending by homeowners outside of these areas. As a result, aggregate spending by homeowners in the same 15 areas totaled over $80 billion, or nearly 37 percent of the total spending by all owners on home improvements nationally.

The Continued Growth of Multigenerational Living

by Shannon Rieger
Research Assistant

A substantial number and share of older Americans are living in “multigenerational” households, according to our analysis of recently released 2015 American Community Survey (ACS) one-year population estimates. In total, 20.3 percent of all non-institutionalized adults aged 65 and over – about 9.4 million people – live in multigenerational households that include at least two generations of adults (individuals over the age of 25). The ACS data also show large differences in the prevalence and composition of multigenerational homes by age, race, and ethnicity.

The new data not only reflect the fact that there are a growing number of older Americans, but also that the share of older Americans living in multigenerational homes has been growing steadily since the 1980s. These trends are likely to continue as baby boomers age. Importantly, multigenerational living might allow some older Americans to enjoy a higher quality of life while aging in place, as an overwhelming majority of people want to do. At the same time, for some families of limited means, multigenerational living may be a financial necessity rather than a desirable living situation. Regardless of why they are choosing multigenerational living arrangements, providing families with education and support to suitably modify their homes could help these arrangements be as safe, effective, and beneficial as possible.

Who Lives in Multigenerational Homes?

About two-thirds of the 9.4 million older adults living in multigenerational homes live in households that have exactly two adult generations (usually parents and adult children aged 25 or older). The rest are in three-or-more-generation households that typically include grandparents, adult children, and grandchildren.

Trends in multigenerational living also change with age (Figure 1). The share of people living in multigenerational settings is highest for individuals in their late 20s (mostly due to adult children still living at home), then drops for those in their 30s as young adults move out and form their own households. The share rises again for people in their early 40s until peaking at about 23 percent for people in their late 50s. This “sandwich” age group includes people who are living with their adult children, those who are living with their aging parents, who often need daily support and care, and those living with both their children and aging parents.

Notes: Multigenerational households are those with least two adult generations aged 25 or older or that include grandchildren, adult children, and grandparents. Householders and parents are considered “adults” regardless of age. Other household members include extended family members (e.g. aunts, uncles, nieces, nephews) and unrelated individuals. Source: JCHS tabulations of US Census Bureau, 2015 American Community Survey 1-year Estimates. 

Because adult children move out and elderly parents pass away, the share of people living in multigenerational households declines for people who are in their 60s and early 70s. However, the share rises steadily for older adults in their mid-70s, who often are starting to face more daunting health and financial challenges. Among the oldest age groups (aged 85 and over), 27 percent – about 1.5 million people – lived in multigenerational households in 2015.

In addition to differences in age, people of color and foreign-born individuals are far more likely to live in multigenerational settings than non-Hispanic whites and people born in the United States (Figure 2). More than 25 percent of native-born blacks, Hispanics, and Asians/others aged 65 and over live in multigenerational homes, as do more than 45 percent of foreign-born in all three of these groups. In contrast, 15 percent of native-born non-Hispanic whites of the same age, and just over 20 percent of foreign-born non-Hispanic whites, live in multigenerational households. 

Notes: Whites, blacks, and Asians/others are non-Hispanic. Hispanics may be of any race. Multigenerational households are those with least two adult generations aged 25 or older or that include grandchildren, adult children, and grandparents. Householders and parents are considered “adults” regardless of age.

Source: JCHS tabulations of US Census Bureau, 2015 American Community Survey 1-year Estimates. 

A sizeable subset of these multigenerational homes include at least three generations: usually grandparents, adult children, and grandchildren living together under the same roof. Roughly ten percent of native-born blacks, Hispanics, and Asians/others aged 65 or over live in such households, along with around 25 percent of foreign-born older adults in each group. Among non-Hispanic whites, just under 4 percent of older native-born adults and 7 percent of the foreign-born live with three or more generations.

Looking forward, projected growth and demographic shifts in the older population seem likely to increase the number of multigenerational households and the share of people living in those households. The U.S. Census Bureau’s most recent population projections estimate that by 2035, about 79 million Americans will be age 65 or older, an increase of more than 30 million people in just two decades. This growth is due to the fact that the baby boom generation is getting older and because with increases in longevity more people will live well into their 80s, 90s, and beyond.  In fact, the Census Bureau projects the number of “oldest old” adults aged 85 and over to double over the next two decades.

The racial and ethnic composition of the older population will also shift markedly over the next several decades. The non-Hispanic white share of the 65-and-over population is projected to drop nearly ten percentage points to 69 percent by 2035, while the black, Hispanic, and Asian shares will rise, respectively, by 20 percent, 67 percent, and 39 percent (Figure 3). Census Bureau projections estimate that the foreign-born share of the 65 and over population will also continue to increase, growing from 13 percent in 2015 to 19 percent in 2035. Though the direction of future residential preferences among the older population is uncertain, the sheer magnitude of growth in the older population and the fact that much of the growth will be among the very old, people of color, and the foreign born suggests there will be substantial growth in multigenerational households in the coming years. 

Notes: Whites, blacks, and Asians/others are non-Hispanic. Hispanics may be of any race.   

Source: JCHS tabulations of US Census Bureau, 2014 Population Projections. 

Impacts on Housing and Services

As this growth occurs, it will be important to consider how new and existing housing stock might be designed or modified to best meet the needs of multigenerational households. Universal design features including single-floor living, zero-step entrances, and hallways and doorways wide enough to accommodate wheelchairs, walkers, or strollers can make homes more accessible for older adults with mobility limitations as well as for their young grandchildren. Flexible layouts that can change as family needs evolve, as well as the addition of semi-private spaces for each generation (such as in-law suites with separate entrances, multiple master bedrooms or kitchens, and accessory dwelling units), can also help make the housing stock better suited for multigenerational households.

While multigenerational living works well for many households, it is important to note that it is not necessarily a desirable option for every family. Rather, multigenerational living may be a financial necessity rather than an attractive housing option not only for families with lower incomes but also for moderate-income families living in higher-cost areas. Further, sharing a home with multiple generations can be challenging, particularly if the house is small, has inadequate amenities, or there are unclear or unrealistic expectations about responsibilities for both finances and personal care. Finally, informal help from family members may not be an adequate replacement for professional care, particularly for aging adults with serious health conditions. Providing families with guidance about how to live successfully in multigenerational settings, and, perhaps, with financial assistance to make home upgrades and modifications, will therefore be critical if multigenerational living is going to be an appealing, comfortable option for families of all means. While designing and carrying out such policies and programs will be challenging, such efforts have the potential to provide a more appealing and cost-effective housing option for older Americans and their families.

Urbanization and Growth in India

by Sonali Mathur
Research Assistant

“Urbanization as a Growth Strategy for India” was the focus of a panel discussion on Saturday, February 6 at the India Conference at Harvard University, the largest student-run conference focusing on India held in the United States. (The Joint Center was one of the event’s co-sponsors.) As one of the most populous countries in the world, the policy decisions and investment choices that are made in India will have a resonance beyond its borders in terms of environmental impact and quality of life for one of the largest and fastest growing markets in the world. Panelists at the conference, who noted that India’s urban population is expected to grow significantly in coming decades, focused on a variety of topics including the role that urban areas can play in the country’s economy and the many challenges to achieving that goal.

Shirish Sankhe, Director of the Mumbai office of McKinsey & Co. opened by citing the 2010 McKinsey Global Institute report, India’s urban awakening: Building inclusive cities, sustaining economic growth, which estimates that India’s working age population will grow by nearly 270 million people by 2030 (from about 800 million to over 1 billion). The growth will be urban, he said, noting that by 2030 at least 10 of India’s 29 states will be more than 50 percent urbanized.  (Currently, only two relatively small states are urbanized.) Moreover, McKinsey projects a five-fold increase in GDP.

Accommodating this growth will be a major challenge, he conceded, because 25 percent of the urban population of India lives in slums and the country only invests $17 per capita per year in infrastructure, about an eighth of what McKinsey estimated was needed. Illustratively, because the country has underinvested in transportation, the share of people using public transportation is estimated to have dropped in recent years from 50 percent to 30 percent. Moreover, there is a significant lack of public understanding about administrative practices and the role of various organizations involved in city and state governance, which not only makes public participation challenging but complicates the entire planning process.

Photo courtesy of The India Conference

Prathima Manohar, an architect and founder of The Urban Vision, an urbanism “think do-tank;” asserted that another key challenge is that the leaders of India’s cities seem to be fixated on strategies that more developed parts of the world are moving away from, such as auto-centric development and over-consumption of resources. Despite the creative brilliance and skilled human capital in India’s cities, she added, there is a lack of civic and recreational space that would improve residents’ quality of life. However, she also said there are an increasing number of grassroots organizations working to improve urban environments. She also predicts that the success of these smaller enterprises will be paramount to improving livability of the cities.

Brotin Banerjee, CEO of Tata Housing, noted that the lack of affordable housing options is a problem that has plagued Indian cities for decades. Given the scale of the problem, he said it would take efforts from various sectors in order to make a difference. Tata Housing is spearheading this effort from the private sector, by investing in construction that provides homeownership options for the low- and middle-income urban residents. The challenge in doing this, he added, is devising models that are scalable and profitable, particularly when new projects must also provide supportive infrastructure such as water and sewer connections as well as roadways, which are typically the public sector’s responsibility.

Despite their diverse backgrounds, the panelists agreed that given the scale and interdependence of the urban problems in India, the prevalent expectation that the public sector should solve all the urban problems is unreasonable and likely detrimental. Instead, they agreed that there needs to be – and there seems to be – growing coordination between the public and private sector, and there is a significant role for grassroots organizations to play.

In discussions moderated by Bish Sanyal, Ford International Professor of Urban Development and Planning and Director of the Special Program in Urban and Regional Studies at MIT, the panelists highlighted a host of approaches and practices that, in their opinion, seem to be working. Shirish Sankhe noted that funding allocation methods based on competitive grounds, like the one being used for development of ‘smart cities,’ seems to be a successful model. These are small to medium size cities competing for federal fund to spur infrastructure development and the selection is based on certain predefined design criteria.

Along similar lines, he noted, there is a movement towards a performance management system of city governance. In this approach, India’s cities are ranked on various criteria which then puts pressure on the elected officials to perform and be more accountable to the public. Highlighting some of the positives surrounding the development of “greenfield” sites, he added that anticipation of transportation needs and how those are likely to evolve over time has become an integral part of planning. In the context of building more affordable housing, Brotin Banerjee noted that some of the policy solutions in recent times have revolved around making construction and green construction more cost effective by providing flexibility around height limitations and FAR regulations. He also added that perhaps the best form of public-private partnership would be talent sharing.

In response to questions from the audience about the segregation patterns that have or could emerge based on racial and cultural lines, the panelists agreed that Indian cities need to move away from identity based politics in order to avoid increased segregation and to build more inclusive cities.