• Residential construction has dropped from 6.3% of nominal GDP at the peak of the construction cycle to 3.3% in Q3 08, which is close to the levels that have marked the bottom in previous housing downturns. At the current depressed level of housing starts, demand for new homes is outpacing supply. Consequently, the inventory of new homes for sale is declining rapidly, which we think is sowing the seeds for a gradual recovery in residential construction from Q2 09.
• Home affordability has improved as house prices have declined and, compared to fundamentals, we are approaching fair levels. However, evidence from previous downturns shows that house prices usually undershoot fundamentals for a period following a boom. In addition, we expect fundamentals to turn more unfavourable in 2009, as unemployment increases and income growth slows.
• An important factor to keep in mind is the impact from the escalation in the credit crisis. The usual measures of house price fundamentals do not capture the current credit crunch, which is likely to prolong the period of adjustment. Consequently, we do not expect house prices to stabilise before Q1 10.
• We expect the net effect of housing on GDP growth to remain negative throughout 2009, although the drag is likely to become gradually smaller. The bulk of the impact on GDP growth from lower house prices is yet to be seen, while the contribution from construction is set to turn positive by Q2 09.
