by Greg Grootendorst, Chief Economist and Katherine Rainone, Regional Economist
One of the few ways to combat inflation in the United States is for the Federal Reserve to raise the federal funds rate – more commonly known simply as interest rates. In the past year, the Fed has increased interest rates six times, the most recent increase being 0.75% just last week. While this type of monetary policy often takes time to filter through the economy and impact prices, it’s already begun impacting one area that was significantly affected during the onset of the pandemic – the housing market. But while data has been swift to show movement in housing, where else can we expect rising interest rates to impact the regional economy in the immediate future?
While mortgage rates aren’t set by the Fed, they are influenced by many elements, including inflation, the pace of job creation, whether the economy is growing or shrinking, and of course, the Fed’s monetary policy. In late October, mortgage rates rose above 7% for the first time since 2002, increasing by over 350 points since the start of 2022. The average rate for an identical loan was 3.14% at this same time in 2021. For the week ending October 28, 2022, mortgage applications declined for the sixth consecutive week, showing that potential home buyers are taking these increases into consideration. These elevated rates continue to put pressure on both purchase and refinance activity and have added to the ongoing affordability challenges impacting the broader housing market, as seen in the deteriorating trends in housing starts and home sales across the country.
And already, buyers are bowing out of the market, and prices are starting to ease. As shown in the chart below, as mortgage rates rise (orange line), total home sales (seasonally adjusted) in Hampton Roads begin to decline (blue line). But the higher loan rates mean many people — especially first-time buyers who don’t have equity to tap for purchases — still can’t afford to buy homes, further crowding the rental market (it’s important to note here that rising rents are a component of inflation). Additionally, with most homeowners locked into significantly lower rates, supply will continue to be an issue for those who do need to buy.
But rising interest rates affect more than just the housing market. Credit card rates are closely tied with federal interest rates, so consumers with credit card debt can expect to pay more on credit card debt – average rates have already increased from about 16% in March to nearly 19% in October. While inflation has been increasing the price of new and used cars as well as gasoline, auto loans will get more expensive as interest rates rise, making the cost of owning a car even higher. Depending on the type of loan, interest rates for student loans may increase – and certainly will for private loans, and for some federal undergraduate loans dispersed after a certain date. One bright spot is that savers now will get a higher rate of return on their savings accounts, as banks will begin to pay more interest on deposits.
As basic expenses like those for transportation and shelter increase due to rising interest rates, consumers might cut spending elsewhere. They might eat out less at their favorite restaurant, put off home renovations or skip a vacation. Those decisions have repercussions for the broader economy – restaurants cutting hours, contractors not expanding their business with new equipment, hotels downsizing staff, etc. For these reasons, and many more, the Federal Reserve increases interest rates somewhat slowly over time, in order to keep an eye on broad impacts so as not to overcorrect. One thing is for certain: the Fed's desire to cool inflation will have a chilling effect on the economy. Stay tuned!
To view November's full economic monthly report, click HERE.
Annualized Growth in GDP
Gross Domestic Product combines consumption, investment, net exports, and government spending to determine the size and general health of the economy. Real GDP increased 2.1% in Q4 2019 (GDP also grew by 2.1% in Q3 2019). The growth is driven in part by consumer spending, government spending, housing investment, and exports, while imports decreased. There was a decrease in inventory investment (-1.09%) as well as a reduction in business investment reflecting a decrease in structures and equipment.
Retail sales in Hampton Roads, as measured by the 1% local option sales tax, serve as an indicator for consumption in the region. Retail sales have bounced around, but after a surprisingly weak June, they continue to recover handily through to December (seasonally adjusted 3 month M.A.). Sales increased by 7.4% in December, making it Hampton Roads’ best December for total retail sales in recent years. Much of the recent growth in retail sales across the Commonwealth has been the result of increases in the number of online sales that are subject to tax.
New Car Sales
Car sales, as a durable good, may be put off until an individual’s economic prospects improve; thus, the number of new car sales indicates the level of confidence that households in Hampton Roads have in their financial future. Car sales have decreased and stabilized after an unusually strong September, hovering near the averages that have been observed over the past few years.
Hotel sales indicate the performance of the region’s tourism sector. In Q3 2019, accommodation sales decreased by 3.5%, settling at $220 billion for the quarter. This continues a pattern of slowing sales between second and third quarters in recent years, however, Q3 accommodation sales in 2019 increased 5.4% over Q3 2018. This shows accommodation sales are still trending upward from late-2013 lows.
Non-agricultural civilian employment figures are considered the best estimate of labor market activity by the National Bureau of Economic Research. According to data from the Bureau of Labor Statistics, Hampton Roads employment increased for the third month in a row since a recent high in June, to 796,600 positions in December of 2019. This figure represents a 1.05% growth from the same month in the previous year.
Employment Growth by Industry
As the job market grows or declines, there will be some industries whose experience does not resemble the regional trend. Several industries have seen significant decline year-over-year using BLS data, including Administrative & Support and Local government. The Construction and Leisure & Hospitality industries continue to see the largest increases in jobs when compared to the previous year, signs of strength due to their key role in the regional economy.
The unemployment rate is the percentage of the population actively seeking work but unable to obtain a position. Hampton Roads’ unemployment rate plateaued in December 2019 at 2.93%, the same rate it was in November. Comparatively, the national unemployment rate decreased again in December from the previous month to 3.5%, hovering at record lows.
The number of initial unemployment claims is a leading economic indicator reflecting those who are forced to leave work unexpectedly, thus revealing the strength of the job market with little lag time. Seasonal adjusted unemployment claims decreased in January 2020 to 2,438 claims, a decrease from December of 2019 but still above November’s recent low. This January number of claims represents a 17.6% decrease from the same month in 2018.
Permit data signals the level of construction employment and confidence regarding the future trajectory of the local economy. The level of new construction permitting for single family homes in December decreased to 352 permits, but when seasonally adjusted represents a slight increase relative to November. As the market continues to respond to the recently lowered federal interest rates, this indicator will be interesting to watch closely.
Home Price Index
The home price index measures the value of homes by evaluating changing price levels through repeated sales of properties. The index provides the highest quality data available on the trends in the real estate market. Hampton Roads’ home prices increased, yet again, by 4.2% over the previous year in Q3 2019, remaining below both the state and the nation. Regional housing values remain 4.3% below those seen during the peak of the housing boom.
Settled Home Sales
Settled home sales measure the level of transactions on the real estate market over time, and a healthy real estate market should have a consistent level of activity. The levels of existing home sales have been strong recently, with sales maintaining the same average level as during the housing boom in 2005. New construction sales in January saw a slight dip from December, continuing to represent roughly 11% of all sales.
Foreclosures have a significant impact on the real estate market and community, depressing home values on a neighborhood and regional level. Distressed homes’ share of total sales has particularly been shown to impact the sale price of existing homes. The foreclosure level is still elevated from the housing boom, but has been steadily declining, showing some of the lowest rates since 2009. Foreclosures constituted 4.2% of all home resales in December of 2019, down from a recent high of 8.1% in April of 2016 (12-month average).