NEW YORK — The luxury real estate market in Manhattan is sagging. The GOP tax law is hitting real estate markets across the nation.
And signs of stress across the broader housing market suggest the industry — which made Donald Trump rich, helped thrust him into the White House and remains a constant obsession for him — could also be one that slows his economy and dents his chances at a second term.
The housing market may not cause the next recession like it did in 2008. But weakness in the construction of new homes, sales of existing homes and affordability for millennials looking to buy for the first time could contribute to a recession arriving as soon as next year or prolong any downturn. In addition to 2008, declines in the housing market were tied to recessions in 1974, 1980 and 1990-91, raising concerns that history is about to repeat.
One area where housing-market stress is obvious is the one Trump knows best: High-end apartments in Manhattan, where prices are now dropping as foreign buyers disappear and wealthy residents flee to lower-tax states.
“When you look at the New York metro area, we are moving from an extended period of stagnation to one of outright softening,” said Joseph Brusuelas, chief economist at RSM, U.S.
The Manhattan declines are directly linked to the late-2017 tax law that capped the mortgage interest deduction and indirectly to the capping of the state and local tax deduction, Brusuelas said. “People joke that they should have called the tax bill the ‘Everybody Moves to Austin Act.’ This wasn’t virtuous tax policy. It was punitive tax policy.”
Under the new law, individuals can no longer deduct more than $10,000 in state and local taxes from their federal returns. The law also slashed the mortgage interest deduction from $1 million to $750,000.
Trump himself has gotten an earful from wealthy New York friends complaining about the impact of the changes on the high-end real estate market. “There are some people from New York who have been speaking to me about doing something about that, about changing things,” the president said at the White House last month. “I’d be open to talking about it.”
Republicans on the Hill quickly quashed that idea, saying they would not reopen the 2017 Tax Cuts and Jobs Act.
Trump’s New York home is not the only blue state where the housing market has taken a hit following the tax law changes. Markets are also suffering across the Northeast, where sales of new homes dropped 16.1 percent in December, according to brokerage firm Redfin.
The cap on the state and local tax deduction is already showing in migration rates, according to Laurie Goodman, vice president of housing finance policy at the Urban Institute. And the changes to the tax law mean “the local housing markets will suffer, particularly at the high end,” Goodman said.
Goodman pointed to data showing New York, California, Illinois and New Jersey topping the states with the largest flows of people leaving between July 2017 and July 2018. The largest in-migration states over that period — Florida, Arizona, Texas and North Carolina — have lower taxes.
The tax-law change isn’t the only thing hurting Trump’s beloved luxury real estate market in New York, according to Donna Olshan, whose firm tracks contracts signed at $4 million and above in Manhattan.
“The luxury market has been slowly coming down since its peak in 2013, 2014, 2015,” she said. “Those were the golden years of luxury development — a lot of new condos were built. There was pent-up demand.”
That boom in luxury development has led to oversupply in high-end housing inventory, she said. The oversupply — combined with stock market volatility, the wane in some foreign-buyer demand and the tax changes — is “eroding the luxury market,” Olshan said.
Weakness in overseas economies is contributing to woes in U.S. housing.
“Ten years ago the U.S. housing bust caused the Great Recession. That caused a global recession,” said Jack McCabe, owner of McCabe Research & Consulting. “It’s going the opposite way this time, and a global recession is under way in so many countries that have been feeder markets for real estate in the U.S. There is such a synergy between the U.S. economy and the housing market. It’s not the only influence but it’s definitely going to play a role in the next recession.”
A recent decline in mortgage rates following the Federal Reserve’s decision to pause its campaign of interest-rate hikes has improved the demand for new and existing homes somewhat in the last couple of months. But overall, the numbers suggest a broad softening in the housing market. Homebuilding investment shrank 0.2 percent last year, the worst performance since 2010.
So far, weakness in housing looks nothing like the collapse that occurred during the subprime mortgage crisis of 2008. And economists are mostly not calling for a softening housing market to be the driver of the next recession — though many said the same ahead of the last recession.
But the industry’s doldrums could make an already slowing 2019 even slower and make the next recession even worse when it arrives.
“Once the economy moves into recession, so maybe mid-2020, the significant decline in residential investment will exacerbate affordability problems,” said Brusuelas. “The home affordability index and first time buyer affordability index are both showing significant signs of stress.”
Housing starts fell 11.2 percent in December, according to the latest government data, with new apartment construction falling 20.4 percent. Existing home sales fell 1.2 percent in January, according to data from the National Association of Realtors.
“Housing is not contributing its usual punch to the economy,” said Robert Dietz, chief economist at the National Association of Home Builders.
Yet housing economists are cautiously optimistic that the market will remain steady in 2019, even if it doesn’t match recent growth.
“We’re not projecting broad decline in 2019,” said Todd Teta, chief product officer at the property data company Attom. “We think it’s going to be flat or a slight increase in pricing — not what we’ve seen in the last five years, but certainly not a huge drop.”
Sales at the high end of the market, Teta noted, have slowed down across the board. The sale of homes worth $2 million or more grew just 7 percent from 2017 to 2018, compared with 21 percent growth from 2016 to 2017, according to Attom data.
The breadth of the high-end lag suggests it’s not just the state and local tax issue, Fannie Mae chief economist Doug Duncan said.
“I think it’s the combination of the general slowing of economic activity, the modest rise in interest rates and the volatility of the market in the fourth quarter,” Duncan said. “The higher-end households who have more portfolio to manage would be more impacted by that.”
One of the biggest concerns about the housing market and its impact on the broader economy is the lack of affordability for millennials looking to buy their first homes. While the housing sector itself is only a small slice of the U.S. economy — about 15 percent — the attendant spending on durable goods and other purchases gives the sector larger influence.
A shortage of housing supply — especially in thriving cities where jobs are most plentiful — has led more people to rent. Meanwhile, soaring student-loan debt is preventing some young people from buying a home, according to Federal Reserve research.
In 2005, 45 percent of heads of households between the ages of 24 and 32 owned their homes, compared with 36 percent of the same demographic in 2014. Two percentage points, or a little over 20 percent, of the nine-percentage-point drop can be attributed to the increase in student-loan debt over that time period, the Fed found — “represent[ing] over 400,000 young individuals who would have owned a home in 2014 had it not been for the rise in debt.”
Taken together, the declines in high-end markets and across states hit by the tax law changes — coupled with affordability problems for new buyers and reduced construction of new homes — suggest that the market could contribute to the next recession and make life difficult for Trump.
“I see recession hitting before the 2020 election,” said McCabe. “And it’s going to play a part in that election.”
Article originally published on POLITICO Magazine