How Rising Mortgage Rates Are Changing the Housing Market, and What Homebuyers Can Do About It

An image of Federal Reserve Chairman Jerome Powell is used to illustrate an article about the housing market. Credit: Chen Mengtong/China News Service via Getty Images
U.S. Federal Reserve Chair Jerome Powell attends a news conference following a Federal Open Market Committee meeting on Sept. 21, 2022 in Washington. The Fed raised its interest rate again in a bid to fight inflation, and Powell said the housing market faces changes that will balance supply and demand.
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Higher interest rates have forced the housing market into a “difficult correction” that should force it into balance after years of exuberant demand and limited supply.

That was the takeaway from Federal Reserve Chairman Jerome Powell after the central bank announced its third consecutive rate hike of three-quarters of a percentage point last week. While the Fed’s key short-term rate doesn’t directly change mortgage rates, the cost to borrow to buy a home has already roughly doubled this year because of the same high inflation the Fed is fighting.

Those higher rates have crushed demand for homes because buyers are now paying significantly more to get a mortgage on the same-priced home. Home prices have started to fall on a month-to-month basis — from a record $413,800 for the median existing home in June to $389,500 in August, according to the National Association of Realtors (NAR) — although they’re still up significantly compared to the same time last year.

“The deceleration in housing prices that we’re seeing should bring housing prices in line with rents and other housing market fundamentals. That’s a good thing,” Powell told reporters after the Fed’s September meeting. “For the longer term, what we need is supply and demand to get better aligned so that housing prices go up at a reasonable pace and people can afford houses again.”

The goal is for demand to more closely align with housing inventory, which has been limited for a variety of reasons, including years of underbuilding and “rate lock,” in which potential sellers are hesitant to move because they’ll lose a good mortgage rate from the past few years.

“From a business cycle perspective, this difficult correction should put the housing market back into better balance,” Powell said.

The Housing Market is Changing

It was incredibly difficult for buyers to get a home at the beginning of the year. That’s still the case, but for an entirely different reason. When mortgage rates were near record lows in January, the homebuying market was incredibly competitive, with prospective buyers offering well over the asking price and waiving inspections and appraisal contingencies just to get a chance at winning.

Now, with mortgage rates well above 6% for the first time since 2008, the difficulty has shifted to being able to afford a home to begin with. 

“The housing market tends to be driven more by demand, where consumers like you and I are saying, ‘Hey can we afford this mortgage?’ And as housing prices increase over time, we want the mortgage to be more reasonable,” says Shang Saavedra, personal finance blogger at Save My Cents, LLC. “But in an environment where the Fed raises rates, just like they’ve done in the last few months, mortgages are becoming more and more unaffordable. And so, we’re starting to see demand dropping off, home sales coming down, and rents going up.”

The Fed’s rate hike will cause more difficulty for the housing market, and increase the likelihood of a recession in the economy at large, says Shashank Shekhar, founder and CEO of InstaMortgage

“While this will slow inflation, it does point to a further slowdown in the housing market, as more homeowners will find themselves disincentivized to refinance and potential homebuyers will find it unaffordable to buy,” Shekhar says. “More importantly, the question of whether the economy is headed toward a recession is becoming more of a ‘when’ than an ‘if’ speculation among market commentators.”

That shift is stifling demand, but it hasn’t eliminated it. Part of that is due to demographics, says Odeta Kushi, deputy chief economist at First American Financial Corporation. Millennials are just hitting their prime homebuying years. “So when all of this economic uncertainty in the economic dust has settled, there’s still kind of long-term purchase demand in the housing market,” she says. “So right now, we’re experiencing the housing market slowdown, but I think in the long run, the demographic tailwind supports purchase demand.” 

Homebuyers Still Have Opportunities

Higher mortgage rates mean it’s more difficult to afford a home now, but the reduced demand also means less competition. That gives buyers the opportunity to get a home for less than list price, or have sellers contribute toward closing costs — or pay mortgage points to bring down those high rates a bit.

“The housing market is currently rebalancing so we’re facing a situation where mortgages are significantly higher than they were a year ago, but we’re also seeing house prices decelerate,” Kushi says. “You might enter a market where you don’t see the bidding wars that we saw last year; you’re not competing against five other people.” 

If you’re looking for a home right now, keep a close eye on what your monthly payment will be. If you haven’t updated your homebuying budget in the last few months, you could be in for a rude awakening when you get a quote for a mortgage rate. Try the math in a calculator and make sure you can still afford the home if rates continue to rise.