Why Aren’t We Building More New Homes?

Housing markets all across the U.S. are suffering from serious shortages of homes for sale and this isn’t expected to change in the foreseeable future.

When I think about inventory levels, and the fact that demand is clearly outstripping supply, it makes me question why homebuilders aren’t stepping up to the plate to meet all this pent-up demand.

Interestingly enough, there are several obstacles holding builders back which I think are worthy of further discussion.

Since 2008, builders have started construction of new single family homes at an average annual rate of about 594,000 units per year. For context, the average annual rate of new home starts between 1963 and 2007 was over 1.1 million, so we have been behind the ball for some time now.

While new home starts have now risen to 835,000 units from the historic low of 353,000 units that we saw in 2009, we are still well below the level that meets demand given new household formations.

Since 2009, new housing supply has consistently fallen short of new housing demand. The shortfall was the largest in 2011 at 465,000 housing units, and cumulatively through 2015, the total shortfall was 2.2 million housing units.

Currently, I estimate that the amount of housing supply necessary to just keep pace with demand is probably around 1.1 million housing units a year; however, housing completions as of May were running at an annual rate of just 817,000– far below what is needed.

So why is this? The simple answer is that it is very expensive to build a new home.

The expense of building a new home can be essentially broken down into three components: land, labor, and materials.

Let’s start with land, which is expensive, and it is very expensive in markets where land availability is scarce (either because of unique topography or political limitations – or both). This is further exacerbated in markets where the economy is growing rapidly and attracting more new residents. Another hindrance is the cost of obtaining a building permit, which is remarkably high thanks to government regulations which can now account for almost 25% of the final price for a new single-family home.

The second thing to consider is labor. As the housing market was entering the Great Recession, many construction workers were laid off and have not subsequently returned. In fact, there are currently over 200,000 job openings in the construction industry, and this lack of supply combined with high demand for labor, has led to rising labor costs.

Finally, material costs. The cost of materials used to build homes have risen by almost five percent year-over-year as demand continues to outpace supply. Everything from the copper used in wiring to the lumber used for framing continues to escalate at fairly rapid rates. 

All of this combined makes it very expensive to build homes – especially affordable homes. In fact, the National Association of Homebuilders stated back in 2015 that it is difficult to build a home anywhere in America for less than $300,000. Then take into account that only four percent of all new homes sold in 2016 were priced below $150,000, and in the Western U.S., just six percent were priced below $200,000.

Conditions are particularly tight at the more affordable end of the market, clearly reflecting the fact that fewer entry-level homes are being built. Between 2004 and 2016, completions of smaller single-family homes (under 1,800 square feet) fell from nearly 500,000 units to only 136,000. Similarly, the number of townhouses built in 2016 (98,000) was less than half the number started in 2005.

It is clear that we need more housing solutions to address the shortages out there, but it won’t be easy. From a builder’s perspective, they cannot change material costs, nor can they force workers into the construction industry. However, what they can do, and what needs to be done, is to try and shift government policy to better address permit fees, hookup fees, impact fees, and the like. If these costs can be lowered, I believe that many builders would be able to ramp up activity in a fairly dramatic fashion. This is something that is extremely important and I hope that the efforts that being undertaken at the national by the NAHB as well as at the local level by various homebuilding associations start to see positive results in the near future.

This should give builders the ability to do what they do best. Build homes.