Strong consumption data combined with slowing inflation points to a “soft landing” for the economy, Fannie Mae‘s Economic and Strategic Research (ESR) Group said Thursday. But the government sponsored enterprise still expects a recession next year.
“In order to achieve a soft landing, economic growth will have to slow to a rate that is below trend for some time in order for the unemployment rate to rise sufficiently to cause wage growth to slow consistent with a 2% inflation target over the long term, but not so slow that the economy falls into a contraction,” the ESR group said.
Retail sales rose 0.7% in July from the prior month, a faster pace than the previous month’s upwardly revised 0.3% gain. CPI rose 0.2% both in July and June from the previous month and 3.2% and 3% respectively from a year ago.
Wage growth also likely remains too high to be consistent with 2% inflation over the long run, which the ESR Group believes will keep monetary policy tight.
Fannie Mae maintains its baseline call for a recession to occur – forecasting it to begin in the first half of 2024. In its July ESR note, Fannie Mae projected a modest recession beginning in Q4 2023 or Q1 2024.
The group upgraded its 2023 real GDP growth outlook to 1.9% from 1.1% on a Q4/Q4 basis and revised its 2024 GDP growth prediction to a 0.2% decline from 0.1% previously, reflecting a recession hitting later than was initially anticipated.
Subdued home sales
Regardless of whether a soft landing is achieved over the coming year, Fannie Mae expects existing home sales to stay subdued and within a tight range.
“With an ongoing tight supply of existing homes for sale and the recent rise in the 30-year fixed-rate mortgage rate to around 7%, we expect home sales in 2023 to remain near the lowest annual level since 2009,” the group said.
Total existing home sales fell 2.2% in July from June to a seasonally adjusted annual rate of 4.07 million. Year-over-year, sales slumped 16.6% down from 4.88 million in July 2022, according to the National Association of Realtors.
“If a recession is avoided, then ongoing limited supply of homes for sale on the market combined with continued affordability constraints and the ongoing ‘lock-in’ effect, whereby existing owners do not want to give up their current low mortgage rates, is expected to lead to a low pace of sales,” according to the ESR group.
Rising mortgage rates will also exert more downward pressure on sales. However, given the already very low pace of sales, the majority of highly interest-rate-sensitive borrowers are already on the sidelines and current sales activity is being supported by less rate-sensitive buyers, Fannie Mae said.
In the case of a recession scenario, interest rates would likely pull back somewhat, lessening the lock-in effect thereby potentially boosting the number of homes available for sale.
However, in a recession, a weaker labor market, tighter credit, and lower consumer confidence would act as downward pressure on housing, Fannie Mae noted.
In contrast, new home sales and construction, while choppy in recent months, have generally been on an upswing.
Single-family housing starts jumped in July by 6.7% to a pace of 983,000 annualized units. This was 9.5% higher than a year prior, the first annual increase since April 2022.
However, based on permits being substantially lower at 930,000, Fannie Mae expects some pull-back in the near term, especially given the recent rise in mortgage rates.
Fanie Mae expects a modest pullback in construction due to a slowing economy, though a similar outcome may occur if instead a soft landing is accompanied by higher for longer mortgage rates leading to slower housing construction and sales.
“In fact, somewhat softer housing construction and sales may be needed to make a soft landing possible,” according to the ESR group.
Mortgage originations forecast little changed
The forecast for purchase origination volume in 2023 is largely unchanged at $1.3 trillion.
For 2024, the ESR group revised upward its forecast of purchase mortgage originations volumes by $25 billion to $1.5 trillion, consistent with upward revisions to the home sales forecast.
Refinance volumes are expected to be $261 billion in 2023 and $456 billion in 2024, representing downgrades of $4 billion and $9 billion, respectively, from the July projections.