Homeowners will likely take a major financial hit if the U.S. government defaults on its debt — including a spike in interest rates that could push average mortgage payments up by more than 20%, according to a new report from Zillow.
The report, released on Thursday, was issued as U.S. lawmakers continue to negotiate ways to end the current debt ceiling and avoid a default, which could happen as soon as June 1. For now, Republicans and Democrats still seem to be far apart on resolving the issue.
Zillow estimated that mortgage rates could reach 8.4% in the “unlikely event” of a debt default. If rates do go that high, then mortgage payments on a typical home would soar 22% by September 2023.
A mortgage rate of 8.4% would represent a spike of about one-third from current levels. As of May 11, the average mortgage rate on 30-year fixed-rate loans was 6.35%, according to Freddie Mac. The four-week average was 6.39%.
“Home buyers and sellers finally have been adjusting to mortgage rates over 6% this spring, but a debt default could potentially raise borrowing costs even higher and send the market into a deep freeze,” Zillow senior economist Jeff Tucker said in a press release “Home values might not see a notable drop, but higher mortgage rates would severely impair affordability, for first-time buyers especially. It is critically important to find a solution and not put more strain on Americans who are striving to achieve their homeownership dreams.”
Zillow did point out that the U.S. “has never before” defaulted on its debt and is “very unlikely” to do so now. But as GOBankingRates reported, there doesn’t appear to be much common ground in current debt ceiling negotiations as June 1 approaches – even after a meeting this week between President Joe Biden and U.S. House Speaker Kevin McCarthy.
A default would “almost certainly mean severe disruption for the economy,” according to Zillow, with ripple effects that would take a major toll on the U.S. housing market. Interest rates (and mortgage rates) would likely spike due to lower confidence in Treasury bills being repaid, which means investors would require a bigger return before buying them.
In this scenario, Zillow projects that mortgage rates would peak at 8.4% in September. This in turn would “freeze sales in an already chilled market” hampered by a lack of affordable homes for many potential buyers.
“If the affordability mountain grows even taller, fewer would-be buyers will be able to purchase a home,” the Zillow report said.
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In addition, homeowners who in recent years locked in historically low rates of around 3% would be unlikely to sell their homes and re-enter the market if rates move above 8%.
Zillow estimates that such an environment would “wipe nearly one-quarter of expected sales” off the board in coming months. The biggest impact would likely come in September, with an estimated 23% fewer existing home sales. The one bright spot is that home values probably wouldn’t take much of a hit.
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