Will the Housing Market Be Doomed if the Fed Raises Rates?

As the Federal Reserve prepares to convene for their September 17 meeting, many wonder how a possible rate increase will affect the housing market.

Mark Fleming, chief economist at First American, believes that the housing market will not be doomed by a rate increase, but will respond by adjusting to the changes.

“Of course, we cannot be sure exactly how mortgage rates and the housing market will respond to a Fed rate increase," Fleming said. "But, we can say with some certainty that the Fed will eventually raise rates."

He added, "When it does, the housing market isn’t doomed to fail, but rather adjust to the reality of interest rates that are reflective of a strengthening economy and certainly more traditional financial conditions."

If the Fed decides to raise rates, this will the first time the rate will go up since 2008, Fleming noted.

According to the CME Group's FedWatch Tool, which measures the market's expectations of Fed target rates on a daily basis, there is a 74.7 percent chance of the Fed raising rates by 0.25 percent this week. On the other hand, the FedWatch data found that there is a 25.3 percent chance of the Fed raising rates by 0.50 percent.

"When it does, the housing market isn’t doomed to fail, but rather adjust to the reality of interest rates that are reflective of a strengthening economy and certainly more traditional financial conditions."

Some argue that declining affordability due to the rate hike will reduce demand and lower home prices, but Fleming says that this is not necessarily true. Consumers will adjust to how much housing they demand, instead of leaving the market. A slow down in the pace of price appreciation is a much more likely outcome.

"Yet, I have argued here, as others have, that rising rates don’t necessarily cause a negative demand shock and falling home prices.  When the Fed raises interest rates, it’s because the Fed believes that the economy is strong enough to adjust and has the potential to begin overheating (that’s what inflation measures).  A stronger economy, more or better jobs, rising wages, increased confidence – these factors all increase demand for housing.  In other words, rising rates are indicative of increased home sales and upward pressure on prices."