The mortgage 'lock-in effect' could worsen wealth inequality and is likely to last for years to come

This is bad news for potential homebuyers, especially those with lower wealth. Persistent high mortgage rates could exacerbate wealth inequality and suppress home sales for a decade or more, according to researchers in a recent working paper.

High mortgage rates have significantly impacted home sales in the past year, as existing homeowners are holding onto lower rates from years ago. 2023 saw the lowest sales figures since 1995.

According to Freddie Mac data, the 30-year fixed mortgage rate dipped to 6.34% last week, but a 2023 Redfin analysis revealed that 89% of homeowners financed their homes at rates below 6%.

The high mortgage rates keeping sellers out of the market likely prevented around 1.33 million home sales between the second quarter of 2022 and the end of last year. The unsold homes contributed to a 5.7% increase in home prices as supply failed to meet demand.

This trend could persist for a long time due to the current disparity between market mortgage rates and the rates homeowners have secured. Even with a two-point decrease in interest rates, sales would likely remain 13% below their baseline in 2030, according to the paper.

Additionally, a one-point increase in interest rates is expected to further worsen the lock-in effect, suppressing sales to 51%-71% below the baseline level in the near term.

"Unless rates decrease dramatically, the lock-in effect could persist for an extended period," the researchers noted.

Housing economists have also cautioned that the freeze in the housing market due to mortgage rates could continue. Mortgage rates are influenced by broader interest rates in the economy, and both are unlikely to significantly decrease soon, as the Fed may maintain higher rates to manage inflation.

Continued mortgage rate lock-in could lead to higher home prices, reduced housing mobility, and more people living in homes that may not be their preferred choice. Lower wealth households will face particular challenges, as they may struggle to time the market to secure lower mortgage rates for their homes.

"This lock-in prevents certain households from optimizing their housing and location choices. More affluent borrowers can better time their home sales strategically, widening the wealth inequality gap. Even with moderate decreases in interest rates, these effects are likely to remain present for years to come," the working paper stated.

The housing market was the most unaffordable since 2013 last year, according to a separate Redfin analysis. Experts predict only slight improvements in affordability in 2024, as the supply of available homes for sale remains limited.