The pressure to do something to lower rates will be increasing, yet it doesn’t occur to anyone that the gap between what homeowners paid vs. prices today is the real problem – and lower rates won’t fix it.
People can be “locked-in” or constrained in their ability to make appropriate financial changes, such as being unable to move homes, change jobs, sell stocks, rebalance portfolios, shift financial accounts, adjust insurance policies, transfer investment profits, or inherit wealth. These frictions—whether institutional, legislative, personal, or market-driven—are often overlooked.
Residential real estate exemplifies this challenge with its physical immobility, high transaction costs, and concentrated wealth. In the United States, nearly all 50 million active mortgages have fixed rates, and most have interest rates far below prevailing market rates, creating a disincentive to sell.
This paper finds that for every percentage point that market mortgage rates exceed the origination interest rate, the probability of sale is decreased by 18.1%. This mortgage rate lock-in led to a 57% reduction in home sales with fixed-rate mortgages in 2023Q4 and prevented 1.33 million sales between 2022Q2 and 2023Q4. The supply reduction increased home prices by 5.7%, outweighing the direct impact of elevated rates, which decreased prices by 3.3%.
These findings underscore how mortgage rate lock-in restricts mobility, results in people not living in homes they would prefer, inflates prices, and worsens affordability. Certain borrower groups with lower wealth accumulation are less able to strategically time their sales, worsening inequality.?
https://www.fhfa.gov/PolicyProgramsResearch/Research/Pages/wp2403.aspx
Why higher rates didn’t lead to lower prices: The locked-in effect on prices was stronger than the elevated rates effect on prices.
“Cumulatively, from 2022Q2 to the end of 2023, we estimate the supply reduction due to lock-in boosted home prices by 5.7%, while the direct effect of elevated rates reduced them by 3.3%.”
How does the “locked in” effect compare to the “don’t have to move” effect?
Unlike sellers of new homes or most consumer goods, who have to move their stock to make a profit – or to pay off the loans they took out to produce that product – most people who live in their homes have the ability to just decide to go on living where they are and not sell until they see the prices they consider attractive.