Inflation affects housing prices, particularly over the long term. Although rising home prices can make it look like the real estate market is improving, prices, generally, rise due to the impact of inflation. Homes that appear to appreciate in value with time actually remain pretty much the same when you consider the effect of inflation, explains Phil Pustejovsky, author of “How to Be A Real Estate Investor,” in a guest post for RealEstate.com.
Rising Interest Rates
When inflation is high, the cost of buying a home increases as lenders raise interest rates to curb inflation, points out Greg McBride, senior financial analyst for Bankrate.com. As the dollar loses some of its purchasing power with a rise in inflation, any savings you have put aside for a down payment loses value as well. If you are thinking about buying a house when the inflation rate is high, chances are you will be facing rising home prices and higher interest rates, which increase the cost of borrowing.
Effect of Supply and Demand
When the Federal Reserve lowers the federal funds rate, that in turn lowers interest rates, making it cheaper for consumers to borrow. Low interest rates make buying a home more affordable, attracting buyers. As an example, competition for a limited supply of homes on the housing market due to low interest rates increased home prices across the nation, according to a 2013 Bloomberg report. But as homes get higher prices, more sellers are putting their homes on the market, increasing the supply. Historically, as market inventory increases, housing prices tend to level off and remain steady.
Inflationary Effects on New Construction
While the construction of new housing is a major indicator of the state of the nation's economy, when the inflation rate rises, so does the cost of new construction. Not only the cost of materials rise, but labor costs also rise when inflation is high, notes executives at Leopardo Cos., one of the nation’s largest construction firms, in a column for Commercial Property Executive. When new construction in the country slows, it reduces the supply of homes, which can push up the prices on existing homes.
Effect of Higher Rents
Owners of rental properties take inflation into account when determining the rents they charge, in much the same way that lenders consider how the inflation rate will affect interest rates over time before giving out a loan. An article published by the Real Estate Center at Texas A&M University discusses American economist Irving Fisher's theory that looks at the relationship between interest rates and inflation rates and how they apply to housing rents. As landlords increase rents to keep pace with inflation, higher rents lead to higher home prices. Consequently, since one method of assessing the value of a property considers its income-producing potential, higher rents may increase a home's value.
- RealEstate.com: Do Houses Appreciate in Value?
- Bankrate: Winners and Losers If Inflation Skyrockets
- Federal Reserve: How Does Monetary Policy Influence Inflation and Employment?
- Bloomberg: U.S. Home Prices Rose 0.3 Percent in August from July, FHFA Says
- Commercial Property Executive: Guest Column -- Inflation’s Looming Impact on Construction
- Real Estate Center at Texas A&M University: Residential Property Prices and Inflation
- Journal of Economics, Business and Management, Vol. 3, No. 7, July 2015. "An Examination on the Determinants of Inflation," Page 678. Accessed March 19, 2020.
- U.S Census. "Median and Average Sales Prices of New Homes Sold in United States," Accessed March 19, 2020.
- U.S. Energy Information Administration. "Short-term Energy Outlook: Real Prices Viewer." Select "imported Crude Oil Prices," Select "Monthly." Download Excel Spreadsheet. Open tab titled "Crude Oil-M." Use second column "Imported Crude Oil Price Nominal." Accessed March 19, 2020.
- Office of Energy Efficiency and Renewable Energy. "Historical Gas Prices," Accessed March 19, 2020.
- Federal Reserve Board of Governors. “What Are the Federal Reserve's Objectives in Conducting Monetary Policy?” Accessed March 19, 2020.
- Federal Reserve Bank of Cleveland. "Inflation 101," Accessed March 17, 2020.
Amber Keefer has more than 25 years of experience working in the fields of human services and health care administration. Writing professionally since 1997, she has written articles covering business and finance, health, fitness, parenting and senior living issues for both print and online publications. Keefer holds a B.A. from Bloomsburg University of Pennsylvania and an M.B.A. in health care management from Baker College.