CNN — The US has never defaulted on its debt, an unlikely consequence of the current conflict over raising the debt ceiling. But if that happens, which could be as early as June 1 without intervention, Zillow’s analysis says, it will further crush the already hurt housing market.
If 30-year fixed-rate mortgage rates rise above 8%, housing costs will jump 22%. There will be 700,000 fewer homes for sale in the 18 months after July. This represents almost 12% of the 6 million units currently expected to be sold during that period.
In other words, if you think the past year of soaring mortgage rates and depressed sales has been miserable for the housing market, wait a minute, it’s more than that. If the U.S. were to default on its debt, it would start over the last 12 months.
“We don’t expect a default to occur, but if it does, it will have an unprecedented impact on the financial system,” said Jeff Tucker, senior economist at Giro. “This will reduce the availability of loans and credit across the financial system. What this means for the housing market is dramatically higher borrowing costs and lower sales.”
trigger a recession
Interest rates are expected to soar to a high of 8.4%, according to Zillow’s analysis. And the unemployment rate will skyrocket, reaching 8.3% from the current 3.4%. This analysis is a prediction of what will happen if the default is prolonged, not a prediction that a default will occur.
“This would be a scenario in which a significant reduction in federal spending would trigger a recession,” Mr. Tucker said. “Home buyers and sellers are finally adjusting mortgage rates above 6% this spring, but defaults could drive borrowing costs even higher and could plunge the market into a deep freeze.”
Zillow estimates that the combined effects of buyer and seller exits will wipe out nearly a quarter of its projected sales in the coming months. In the event of a default, the largest projected deficit would occur in September, with existing home sales dropping an estimated 23%.
Tucker added that the severity of the impact depends a lot on the duration of the drama.
“The longer the crisis lasts, the longer and more severe these effects will be,” he said. “It would be a shock if it turned out to be a more short-term problem, but the situation was clear that it could recur relatively quickly.”
If the debt ceiling fails to be addressed, mortgage rates are likely to rise sharply as investors become wary of almost any type of bond.
Government bonds have long been seen as a risk-free safe haven for investors. If they suddenly become risky, it’s “the earthquake upon which everything else is built,” says Tucker.
Uncertainty about the repayment of Treasury bonds will make investors look for greater returns from buying Treasuries. Mortgage rates tend to track 10-year Treasury yields and are likely to continue rising.
“Government bonds are used as collateral for all kinds of loans,” Tucker said. “If we had to guess the value of collateral again, everyone would be reluctant to lend and only want higher returns. It made me question all kinds of lending.”
With about three weeks left before the government can no longer pay its bills, known as “X-Date,” we are approaching the point where the risk of the crisis, if not resolved, will begin to be factored into loans.
“At the moment it is limited to short-term securities such as record-breaking one-month Treasuries,” Tucker said. “Risk is about a month away, so we haven’t hit the 30-year mortgage rate hard yet. But we continue to nudge into unprecedented territory.”
As Zillow economists put it, this is an “unlikely worst-case scenario of prolonged defaults,” but homeowner values will remain relatively strong, they say. A small glimmer of hope for this possible catastrophe.
Zillow’s analysis predicts that if the U.S. defaults, home values will begin to fall in August, but by February 2024 they will fall by just 1% from their current levels. Even in this dire scenario, home values would still be expected. From today to the end of next year, it will rise by 1%. Growth over this period will be below the current forecast of 6.5%.
When the market is flooded with properties, home values tend to plummet. In this scenario, however, inventories would shrink below already historically low levels. Low inventory prevents prices from falling too quickly.
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