Housing remains key component to bringing inflation down
The growth in housing costs eased in August, but not enough to bring inflation down to where it needs to be.
The shelter component in the latest Consumer Price Index (CPI) rose 0.3% in August from the previous month, the Bureau of Labor Statistics reported Wednesday, down from the 0.4% month-over-month increases in both July and June. Year over year, the shelter index was up 7.3%, the lowest annual increase since November 2022.
Still, the index was the largest factor in the monthly increase for core inflation, which came in slightly higher than expected. And the year-over-year increase in the index remains far higher than the 2.88% average since 2003.
"Ideally, shelter inflation should be 3% or less," Jonathan Miller, president and CEO of Miller Samuel Inc., a real estate appraisal and consulting firm, told Yahoo Finance. "But because the Federal Reserve kept rates too low for too long during the pandemic, [that is] disproportionally skewing housing market trends."
Overall CPI inflation increased 0.6% monthly and 3.7% annually, a bit faster than economists expected. The Federal Reserve’s target for annual inflation is 2%.
Read more: What the latest Fed rate hike plan means for mortgage rates and loans
The shelter index contributes about a third of the CPI calculation and is made up of four components: rent; owner's equivalent rent, or OER; lodging away from home; and household insurance.
OER, which indirectly takes into account home price growth, is the largest portion of the shelter index, accounting for 73.8% of the shelter index calculation. The rent portion is the second-largest, making up 21% of the calculation.
Both of these measures have kept shelter costs high. In August, OER logged a monthly gain of 0.4%, while rental prices saw a 0.5% inflation increase on a seasonally adjusted basis. (Lodging away from home decreased 3%, while housing insurance climbed 3%.)
But these measures operate on a lag, and don’t necessarily reflect what’s happening in real time. Rent, for example, has returned to the prior year's record-high levels after declining in the third and fourth quarters of last year. But the growth has been at a much more moderate pace.
"Rent increased 7.3% from a year ago in August, but the monthly gain was the slowest in two years at 0.29% or a 3.5% annualized rate. Private sector apartment rent data is implying even slower gains," Lawrence Yun, the chief economist at the National Association of Realtors, said in a statement after the CPI release. "That means that a heavyweight component of overall inflation will be much calmer in upcoming months."
Home prices are also not clocking in the eye-popping year-over-year and monthly increases from previous years.
For instance, the median sales price stayed relatively flat last month but gained 4% in August from a year earlier to $379,000. That’s down from the 7% increase in August 2022 and 14% in August 2021, according to Redfin.
The interest rate dilemma
What’s interesting is that the strategy the Federal Reserve is using to bring down inflation may inadvertently prop up home prices and rent.
As the Fed raised its benchmark rate to tame housing inflation, mortgage rates followed, rapidly rising from 3.22% at the start of 2022 to over 7% now. That’s stopped sellers from listing their homes to sell, so they can keep their current low mortgage rate that they got during the pandemic.
That’s kept many homes off the market, leaving buyers with historically low inventory of properties for sale and forcing them to bid up prices on what remains. Prices are forecasted to stay elevated for as long as inventory stays limited.
"Unfortunately, continued inflation pressures and Fed's laser focus on lowering it means that mortgage rates may remain elevated for longer and not fall below 6% by the end of the year," Selma Hepp, CoreLogic's chief economist, wrote to Yahoo Finance, "which will continue to hold many potential homeowners back who are not willing to give up their low mortgage rate and sell their property."
Elevated mortgage rates and that lack of inventory have also pushed many budget-conscious buyers to the sidelines and back into the rental market, which is also supply-challenged but not as acutely as more rental units come online for now. Builders are also racing to add more single-family homes to meet the needs of buyers.
"It is critical to expand supply as much as possible to widen access to homebuying for more Americans," Yun said in a housing memo. "Home prices will be influenced by how much inventory is brought to market. Increased homebuilding will tame price growth, while limited construction will lead to home price appreciation outpacing income growth."
Read more coverage on where inflation stands:
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Rebecca Chen is a reporter for Yahoo Finance and previously worked as an investment tax certified public accountant (CPA).
