Home prices have begun to decline from the dizzying heights they reached during the pandemic—and no one knows for sure how far they’ll drop from here. 

Prices could fall as much as 20% by next summer, Ian Shepherdson, chief economist at Pantheon Macroeconomics, estimated in a research note Thursday. Economists at Wells Fargo Securities predict a 5.5% drop, while Goldman Sachs forecasts prices will fall between 5% and 10% from their peak.12 Sam Hall, a property economist at Capital Economics, anticipates prices falling 8%. If Shepherdson’s prediction of 20% holds true, the drop would be slightly less severe than the housing crash of the early 2000s, when the market collapsed and prices fell 26% from the peak they hit in early 2007.3 

The whiplash in the housing market has been extreme. As recently as the summer of 2021, the competition to buy homes was so fierce that would-be buyers were writing personalized letters to sellers, tugging on heartstrings to get an edge in bidding wars. 

But this year, soaring mortgage rates have turned the tables on sellers. Sales of homes have been dragged down by higher borrowing costs, and prices have started to fall. In July, average home prices fell for the first time since 2012, according to data from the S&P Dow Jones Case-Shiller Home Price Index. 

This week, the National Association of Home Builders called the situation “unsustainable” and warned of an “affordability crisis.”4 Last month, Federal Reserve chair Jerome Powell said the high-flying housing market was headed for a “difficult correction.”5 

Housing market data this week provided more evidence of a downturn. Existing home sales slowed in September for an eighth straight month, the National Association of Realtors said Thursday. That same month, homebuilder confidence plunged to its lowest since the early days of the pandemic, the National Association of Homebuilders said Tuesday, and on Wednesday, Census Bureau data showed homebuilders sharply cutting back on the number of homes they were starting construction on. And the average rate offered for a 30-year fixed mortgage continued to rise, hitting 6.94%, its highest since 2002, data from the Mortgage Bankers Association and Freddie Mac showed.67 

“Housing is in free-fall,” Shepherdson said in response to the homebuilder confidence reading. “So far, most of the hit is in sales volumes, but prices are now falling too, and they have a long way to go.” 

Mortgage rates have played a major role in both the pandemic-era runup in prices, and the current cooling of the market. When COVID-19 started making waves in the economy in March 2020, the Federal Reserve stimulated the economy and lowered all kinds of borrowing costs by dropping its benchmark fed funds rate to near zero and keeping it there for two years.8 That reduced yields on 10-year treasury bonds, whose movements are closely linked to the rates borrowers pay on mortgages.9

By January 2021, the average rate on a 30-year mortgage had plunged to 2.65%, an all-time low as measured by Freddie Mac.10 With rates that low, and with newly minted telecommuters hungry for space to accommodate the new work-from-home lifestyle, and flush with cash from pandemic relief programs, demand for housing soared and money poured into the market, driving prices upward.11 Price increases peaked in March 2022, when average prices were 20.8% higher than the year before, according to the Case-Shiller index.3 Some economists warned that the housing market was showing signs of being a bubble ripe for bursting. 

Now, the opposite is happening. In March, the Federal Reserve began raising its benchmark interest rate, seeking to discourage borrowing and spending. The move was made to cool down the overheating economy in hopes of putting a lid on inflation, which has risen to its highest level since the early 1980s. As a result, mortgage rates have more than doubled since the year began, and buyers have seen monthly payments for new mortgages skyrocket. 

The typical payment for a new mortgage now takes up 28% of a median buyer’s income, Hall, the economist at Global Economics, estimated. That’s higher than the recommendation of NAR for no more than 25% of income, and similar to the levels seen preceding the housing slumps of 2006 and 1989, Hall said in an email. Those daunting costs have  led many would-be buyers to give up, and there’s no sign of them returning soon.12

“We expect this trend to continue while mortgage rates remain elevated and prevent many buyers from entering or remaining in the market,” said Hannah Jones, economic research analyst for Realtor.com, in an email. “As housing demand wanes due to unaffordability, sellers will have to adjust prices to the level necessary to stoke demand.”

Indeed, 19.5% of homes for sale had price reductions in December, up from 11% in September 2021, Realtor.com data showed.13 

“Double-digit house price growth was not sustainable in the long run, so what went up so quickly, must eventually come down,” Odeta Kushi, deputy chief economist at First American, said in an email.

Correction Could Be Mild

There are reasons to believe that home prices will float down like a feather rather than fall off a cliff. For one thing, there is still substantial demand for housing, and not that many homes for sale. There were only 1.3 million homes for sale in September, far below the 1.8 million the same month in 2019, according to the NAR.14 And with rates on new mortgages so high, homeowners who locked in rates when they were low have good reason to stay put, Kushi noted on Twitter—that’s likely to keep the supply of homes for sale from increasing.15 

On top of that, there’s a longstanding shortage of housing to grapple with—as of 2021, the U.S. had about 5.5 million fewer homes than it needed, the NAR estimated—and that’s likely to keep prices from falling too much, economists said. Economists at Wells Fargo forecast a “modest” housing price correction, with prices staying higher than their average in 2021.16 

That’s a very different situation from the early 2000s, when builders had constructed too many homes, and mortgage lenders had given increasingly risky mortgages to borrowers with shakier credit. Lending standards have tightened since then, to the point where typical homeowners are much more financially stable than they were on the eve of the Great Recession, limiting the possibility of a mass housing sell-off. Not to mention, a wave of millennials entering their prime homebuying years will continue to put upward pressure on demand.

Kushi said the bottom line is to not expect a housing bust similar to the mid-2000s.

“Persistent demand and insufficient supply means that the bottom is not likely to fall out of the housing market should the economy remain stable,” Jones said. “The unaffordability-driven decline in demand will put pressure on prices to come down to a sustainable level, but this will look very different from the early 2000s as shifting demographics ensure sustained demand and stronger credit requirements mean reliable loans.”

Have a question, comment, or story to share? You can reach Diccon at dhyatt@thebalance.com.