What Happens to House Prices in a Recession?

A recession is a widespread downturn in economic activity lasting more than a few months. In the United States, the National Bureau of Economic Research (NBER) defines it as a decline across various indicators: Gross Domestic Product (GDP), income, employment, industrial production, and sales. While two consecutive quarters of negative GDP growth often indicate a recession, the NBER’s assessment is more comprehensive. This article explores how residential real estate prices typically behave during economic contractions, noting that the impact is not uniform across all recessions or housing markets.

Historical Trends in House Prices During Recessions

Historically, U.S. house prices have varied considerably during recessions, showing that an economic downturn does not automatically lead to a housing market collapse. House prices increased in most recessions since the 1980s, challenging the misconception that economic contraction always results in declining home values.

During the early 1980s recessions, despite high inflation and interest rates, house prices generally appreciated. In the 1980 recession, home prices increased by 6.1%, and during the 1981-1982 recession, they rose by 3.5%. New home sale prices also increased by 7.5% during the early 1970s recession. Even with unemployment at 10.8% and interest rates over 20% in the early 1980s, house prices saw a 1.9% increase, though below inflation.

The early 1990s recession (July 1990 to March 1991) saw nominal house prices decline slightly by 1.9%. This drop was minor and within normal real estate fluctuations. Real home prices, adjusted for inflation, fell up to 7% in some areas, with recovery to late 1980s levels taking until 2002 in specific markets like New York City.

During the early 2000s dot-com bust recession (March 2001 to November 2001), house prices increased by 6.6%. Home values rose by 4.8%, and new home sales reached an all-time high. This was fueled by low interest rates and a less regulated mortgage market, making housing seem a safer investment than the volatile stock market.

The Great Recession of 2007-2009 was an outlier, with house prices experiencing a significant decline. U.S. housing prices fell by 15-20% on average, with some regions seeing drops of 40-50%. This downturn was attributed to unique factors, including a surge in subprime lending, loose underwriting standards, and a housing bubble that peaked in early 2006. High loan-to-value mortgages also contributed to the boom and bust.

During the short COVID-19 pandemic recession in 2020, house prices increased. Prices rose by 6% nationally, with some reports showing increases up to 19.3% by July 2021. This surge was driven by historically low mortgage rates, government stimulus, increased demand for living space due to remote work, and constrained housing supply. This contrasted sharply with the 2008 experience.

Economic Drivers of Housing Market Performance

Recessions impact the housing market through several economic channels, influencing demand and affordability. Unemployment and income stability are key drivers. Job losses or fear of losing employment reduce a household’s ability to purchase a home. Lenders require stable employment for mortgage approval, limiting qualified buyers during high unemployment. Uncertain incomes lead potential buyers to postpone large financial commitments, decreasing housing demand.

Rising unemployment can increase mortgage defaults and foreclosures as homeowners struggle financially. A one-percentage-point increase in unemployment can lead to a 1.55% decline in housing prices, with income uncertainty being a more significant factor than actual income loss.

Consumer confidence also shapes housing market performance during a recession. When confidence declines, individuals become more cautious with spending and are less likely to make substantial purchases like a home. This hesitancy delays home-buying decisions, slowing housing sales. Soft consumer confidence reflects a sluggish economy, impacting real estate.

Interest rates and mortgage availability are intertwined with recessionary impacts on housing. Central banks often lower interest rates to stimulate a slowing economy, leading to lower mortgage rates and more affordable homeownership. During the COVID-19 recession, for example, mortgage rates dipped below 3%. However, lenders often tighten underwriting standards during a recession, demanding higher credit scores, larger down payments, and more rigorous income verification. This stricter environment can make it challenging for buyers to qualify, even with low rates.

The overall level of economic activity, measured by Gross Domestic Product (GDP), impacts the housing sector. Growing GDP indicates a strong economy with increasing employment and rising incomes, driving housing demand and prices. Conversely, during economic contraction, declining GDP often leads to reduced consumer spending and decreased housing demand, causing prices to fall. Housing-related expenditures sometimes account for over 16% of the U.S. GDP.

Market Specific Factors Affecting House Prices

Beyond broad economic forces, specific housing market characteristics influence how house prices react during a recession. Housing supply and inventory levels are important. An oversupply of homes can worsen price declines when demand weakens. Conversely, limited inventory, even during a recession, can support house prices by restricting buyer choice and maintaining competition. For instance, low inventory during the COVID-19 era contributed to price stability or growth despite broader economic challenges.

Lending standards and credit availability before and during a recession also influence market vulnerability. Before the 2008 recession, loosened underwriting standards, including lower down payments and less stringent credit requirements, contributed to the housing bubble. In contrast, during and after recessions, lenders typically tighten criteria, making mortgages harder to obtain. This can dampen demand and slow market activity, even with lower interest rates.

Foreclosure rates and distressed sales impact market dynamics and home values. An increase in foreclosures floods the market with properties, often sold at discounted prices, which can depress overall property values in affected neighborhoods. These sales can drag down prices of other nearby homes, negatively impacting values and intensifying downward price pressure.

Investor activity also plays a role in market dynamics during downturns. While institutional investors sometimes buy distressed properties, their presence can contribute to volatility. During the pandemic, for example, investors drove up prices in some areas, but their subsequent selling activity can lead to price corrections. Their participation influences demand and price levels, especially when buying or selling significant volumes.

Government interventions can also influence price stability and demand during a recession. Policies like mortgage forbearance programs, which allow homeowners to temporarily pause or reduce payments, can prevent foreclosures. Stimulus measures, such as the First-Time Home Buyer Tax Credit after the Great Recession, can inject demand, increasing home sales and supporting prices. These interventions mitigate negative impacts on the housing sector.

Variations Across Markets

The impact of a recession on house prices varies significantly across local and regional markets. Local economic diversification is a factor. Areas with diverse economies, not heavily reliant on a single industry, are more resilient to economic shocks. If a dominant industry in a less diversified region experiences a downturn, it can lead to widespread job losses and reduced income, disproportionately weakening the local housing market.

Population trends also play a role in how local housing markets respond during a recession. Regions with ongoing population growth, driven by in-migration or favorable demographic shifts, often see more sustained housing demand even amidst broader economic challenges. Conversely, areas with declining populations may face reduced demand and increased susceptibility to price corrections. While population changes typically have long-term effects, rapid shifts can influence immediate market dynamics.

Affordability levels within a market are another determinant of its resilience. Markets with high unaffordability, where home prices are elevated relative to local incomes, are more susceptible to price corrections during an economic downturn. When a recession hits, these markets may experience larger adjustments as financial strain on households becomes pronounced, making it harder for buyers to enter or remain in the market.

Existing housing stock and new development pace also contribute to local market variations. A market with a pre-existing oversupply, perhaps from speculative building, may see steeper price declines compared to areas with limited inventory. Conversely, constrained housing supply can support prices, even during reduced demand. Local zoning laws and construction speed influence this supply-demand balance, affecting market adjustment to changing economic conditions.

Geographic factors, such as a location’s desirability or natural barriers to expansion, can also influence a market’s resilience. Areas with strong geographic appeal or limited developable land may retain value more effectively in a recession, as demand remains relatively stable. These local characteristics interact with broader economic forces to shape house price trajectories during economic uncertainty.