Comerica Bank: Homebuilding poised to revitalize the economy following a two-year downturn, facilitating a more plausible ‘soft landing’

**Residential Investment Rebound Signals Economic Expansion**

After eight consecutive quarters of decline, it appears that the slump in US residential investment may be coming to an end. The recent rebound in construction activity is expected to remove a significant obstacle to continued economic growth.

**New Construction Boosts Economic Growth**

The Federal Reserve Bank of Atlanta’s GDPNow tracker is projecting that residential investment will contribute 0.1% to the growth of gross domestic product (GDP) in the second quarter, marking the first positive contribution since early 2021. This is largely due to the surge in new construction activity, which is currently at its highest level in over a year.

**Factors Driving the Rebound**

The new-home market has been gradually recovering as the cost of materials decreases and logistical constraints disappear. Builders are catching up with backlogs caused by the pandemic, while limited availability in the resale market is driving prospective buyers towards new construction. Despite elevated mortgage rates, demand for new homes remains strong.

**Positive Outlook for Construction**

Bill Adams, the chief economist at Comerica Bank, believes that the recent improvement in construction indicates the possibility of a soft or moderately soft landing for the economy. Construction was heavily impacted by inflation and supply chain disruptions in 2021 and 2022.

**Surge in New Construction**

Government data released earlier this week showed a significant surge in new construction in May, the largest increase since 2016. Applications for permits, which serve as a proxy for future activity, also rose. These unexpected developments led to a fresh all-time high in homebuilding stocks and are reflected in the most positive builder sentiment in almost a year.

**Impact on the Resale Market**

A growing number of potential buyers are opting for new homes due to limited availability in the resale market. High mortgage rates have significantly affected existing properties, with their share of total homes for sale dropping from 90% before the pandemic to around 70% as of April.

**Monetary Policy’s Influence**

The outlook for monetary policy plays a crucial role in the construction industry. The Federal Reserve has already increased its benchmark interest rate by five percentage points within a short period. Priscilla Thiagamoorthy, a senior economist at BMO Capital Markets, warns that further rate hikes could again weigh on new-home construction. If rates continue to rise, it could lead to a harder landing for the industry.

**Potential Risks and Limitations**

A potential risk is that as backlogs are cleared and permits lag behind the pace of housing starts, the number of homes under construction could decrease. Elevated inventories of new homes could also make builders hesitant to increase output, which could limit the upward momentum in residential investment.

**Breathing Room for the Economy**

Despite the potential risks, home construction is finally poised to provide some breathing room for the economy. After a period of subtracting from growth for the longest stretch since 2005-2009, the construction industry is now expected to support economic expansion. This comes at a time when other sectors are beginning to cool down.

**Upside Risks and Optimistic Forecast**

Leading up to the release of the latest housing data, economists at Wells Fargo & Co. anticipated that residential investment would hinder GDP growth for the rest of the year. However, the stronger-than-expected housing data suggests that there may be upside risks to their forecast. While a massive surge in new construction is not predicted, a modest pace is highly likely.

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