By the Numbers

A Q&A on supply, demand and the US housing shortage

Mary Beth Fisher, PhD | September 29, 2023

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.

New home supply continues to run behind the pace of new household formation, extending a housing shortage that will likely take decades to close. Deteriorating affordability and demographic shifts look likely to contribute to a long-term decline in homeownership rates as relatively more households become renters. This is fundamentally positive for the single-family rental sector, which occupies the niche between higher income multifamily tenants and first-time homebuyers. A Q&A on housing supply and demand.

Q: How large is the housing stock in the US?

The estimated US population is 333 million. There are approximately 143 million housing units in the US where 128 million of those units are occupied. The Census Bureau counts an occupied housing unit as a household. Dividing the total population by the number of households gives an average household size of 2.6 people.

Exhibit 1: US housing stock

Note: Data as of year-end 2021, the last date when complete data is available.
Source: American Community Survey, US Census Bureau.

Only about 3.5 million of the 15 million vacant housing units are available for sale or rent. The remaining 11.5 million include properties that are used as second homes, seasonal homes or are otherwise held off the market. A portion of those are being renovated and will eventually return to the housing stock.

Q: How do economists estimate the size and scope of the housing shortage?

A: They’re economists, so they like to look at the demand for housing versus the supply of housing, tracking the cumulative change in supply and demand each year, and use that to make projections of the housing surplus or shortage over time.

Q: I’m not an economist.

A: Me neither. Let’s break this down. The demand for new housing is driven by new household formation. New household formation roughly tracks population growth, but also reflects demographic shifts, can vary based on economic cycles and incorporates immigration (Exhibit 2). In periods of economic stress, growth in the number of households can slow or even contract as households combine, which happened for the first time during the tech crisis of 2000.

Exhibit 2: Number of US Households

Note: Data through 6/30/2023.
Source: US Census Bureau, Santander US Capital Markets.

The net supply of new housing includes new housing units that come to market each year, minus the units that “go obsolete”. The difference between the net new demand and supply is the housing surplus or shortage over the period (Exhibit 3).

Exhibit 3: Housing surplus (shortage) calculation for 2022

Note: The latest comprehensive data available is from year-end 2022. The losses to the housing stock are estimated by the Department of Housing and Urban Development (HUD) as part of its Components of Inventory Change report. The 450k number of obsolete homes is an estimate used by Urban Institute derived from HUD data.
Source: US Census Bureau, Department of Housing and Urban Development, Santander US Capital Markets

The above calculation shows that in 2022 housing demand outstripped supply, creating a shortage of 1.1 million units for the year. As Millennials and Generation Z continue to marry and have children, experts project that the US will add 1.2 to 1.7 million net new households per year for the next decade. That would imply an equivalent number of net new homes need to be added to supply for the housing shortage not to increase. For housing shortage to begin easing requires that new supply exceeds new household formation.

Q: When did the housing shortage start?

A: The nation’s housing shortage is a relatively new phenomenon, created this century. The low level of housing production relative to household formation that began to develop post-housing crisis has contributed to a structural shortage in housing (Exhibit 4). Between 1968 and 2000 the total stock of US homes grew an average of 1.7% annually. Between 2000 and 2010 the stock grew by 1%, and by just 0.7% between 2010 and 2020. The rate of household formation slowed as well in response to both the tech and housing crises and due to demographic shifts. But the number of new households being formed was still running above the supply of new homes being built, creating a housing gap that continued to expand and contribute to upward pressure on home prices.

Exhibit 4: New home completions

Source: Bloomberg, US Census Bureau, Santander US Capital Markets

Q: Hit me with it. How big is the gap right now?

A: There are a variety of estimates, but none of them are encouraging. On the low end, Freddie Mac pegged the housing supply shortage at 2.5 million units in 2018, then raised that estimate to 3.8 million units in 2020. On the high end, the National Low Income Housing Coalition says the US is short 7.3 million units of affordable housing for low income renters. The National Association of Realtors carved out a middle ground, with an estimated shortage of 5.5 million units in 2021, which grew to 6.5 million by the end of 2022 according to Realtor.com. Whatever the actual deficit is, it will continue getting larger until new home construction at least equals new household formation.

Q: What impact has this had on home prices and the homeownership rate?

A: The under-supply of starter homes has been particularly acute, which for years caused prices of affordable homes to rise faster than those of higher-priced homes (Exhibit 5). This reversed during the pandemic when higher priced homes rose faster as mortgage interest rates fell to historic lows. The reversal was short-lived, and affordable home price appreciation is again leading all other pricing tiers.

Exhibit 5: Home price appreciation index by home price tier

Note: About 75% of buyers in the Low and Low-Medium price tiers are first-time home buyers. Graph from American Enterprise Institute Home Price Appreciation Index and Month’s Remaining Inventory. Complete details on methodology and pricing tiers available on their website.
Source: AEI, Zillow, Realtor.com

The low supply of new homes contributed to diminishing affordability, particularly for first-time homebuyers. Combined with a tightening of mortgage credit standards during the financial crisis, homeownership rates fell from a high of 69% in 2005 to 63% in 2016. They have since partially rebounded back to 66% (Exhibit 6).

Exhibit 6: US homeownership rate

Source: Bloomberg, US Census Bureau, Santander US Capital Markets

The decline in homeownership rates is not expected to reverse. The homeownership rate is projected to decline for most age groups through 2040, falling to 62% in 2040. Obviously, one result will be an increase in the number of renters and consequent demand for rental housing.

Q: So new households are expected to shift heavily towards renters. That’s why there has been so much interest in single-family rentals?

A: Correct. The pace of renter growth will be more than double the pace of homeowner growth over the next two decades, according to research from the Urban Institute. From 2020 to 2040:

There will be 9.3 million net new renters, a 21% increase;
There will be 6.9 million net new homeowners, a 9% increase.

Based on these projections and current demographic trends, the demand for single-family rentals will rise and the SFR market will be undersupplied over the next 10 years. Renters of detached single-family homes tend to be older, have higher incomes (with 1 in 4 earning $75,000 or more for houses built after 1990), and have children. Single-family rentals generally have lower turnover rates and higher occupancy rates than multifamily rentals, and both of those improved during the pandemic.

Q: How much does home building need to increase and long will it take to close the gap?

A: New home completions finally reached 1.5 million in 2022 compared to new household formations of 1.7 million. Developers would need to build well over 2 million housing units per year over the next 10 to 20 years to surpass household formation and fill the underbuilding gap. That would require a minimum increase of 33% in housing starts and completions from 2022 levels, and for that pace to be maintained for two decades to close the housing gap of 5.5 million units. This estimate by Urban Institute is slightly more conservative than others. The National Low Income Housing Coalition estimates that the US is facing an affordable housing shortage of more than 7.2 million units.

The reduction in net supply of houses that become obsolete is difficult to interpret and more difficult to project, so it isn’t included in the estimates above. Obsolete homes are often in rural areas, cities that are experiencing low levels of economic growth, or otherwise in places not constrained by a lack of housing.

Q: Who is going to build and pay for all these homes?

A: There’s been a surge of private and public equity into the single-family rental sector which has expanded into build-for-rent. These joint ventures from single-family rental operators and home builders might be the most efficient and cost-effective way to address the housing shortage for renters.

Q: You’re a shameless capitalist, aren’t you?

A: Shame is overrated.

Mary Beth Fisher, PhD
marybeth.fisher@santander.us
1 (646) 776-7872

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