The Impact of Fed Policy on Housing and Plastics

Perc Pineda, PhD
Chief Economist, PLASTICS

The Federal Reserve is convening its fourth Federal Open Market Committee meeting of the year on June 11–12, 2024. Beginning in March 2022, The Fed tightened monetary policy to combat inflation by raising the upper limit of the Fed funds rate, the economy’s benchmark interest rate, from 0.25% to 0.50%. Since July of last year, the upper limit has remained at 5.50%, bringing the target rate to 5.25%–5.50%. Higher interest rates have had uneven effects on the economy. 

The housing market remains weak.  

One sector that has notably slowed due to higher interest rates is housing. Total private residential construction spending increased to $969.6 billion in May 2022 from $589.7 billion in June 2020. However, it has since declined to $824.7 billion in April 2023. Over the past twelve months, construction spending has experienced modest and volatile monthly growth, reaching $890.4 billion in April 2024. This period has been characterized by monthly volatility, where an uptick in construction spending in one month is immediately followed by a downtick the next. For example, the 0.9% increase in construction spending in February this year was preceded by a 0.9% decrease the month before and succeeded by a 0.4% increase the following month. In April, it increased by a modest 0.1%. Overall, the decrease in construction spending has led to low housing inventory, contributing to upward price pressures from the housing supply side. 

The decrease in housing starts—the number of new residential construction projects that have begun—illustrates the decline in private residential construction spending. In recent years, housing starts, which include single-family homes, townhomes, and apartment buildings, peaked at 1.8 million units on a seasonally adjusted annual rate in April 2022. However, they have since continued to decline, although some months have shown improvement. For instance, in February, there was a 12.3% increase in housing starts, followed by a 16.7% decrease in March, before a 5.7% increase in April. While year-over-year growth calculations eliminate the volatility in monthly growth rates, housing starts fell by 4.1% and 0.6% in March and April, respectively, compared to the same period the previous year. 

New single-family home sales decreased.  

In addition to the decrease in private residential construction spending, new single-family home sales continued their decline, particularly in the last twelve months. From 741,000 in May 2023, new single-family home sales fell to 634,000 in May this year on a seasonally adjusted annual rate. Higher interest rates have proven challenging for first-time home buyers. 

The 30-year fixed mortgage rate averaged 7.1% in May. The last time the U.S. economy witnessed a mortgage rate at 7.1% was in May 2001. May also marked the 25th consecutive month where such a rate was above 5.0%. Moreover, in the last twelve months, it peaked at 7.6% in October last year, a level not seen since July 1999. While mortgage rates are projected to fall this year, industry observers expect home prices to continue rising as demand improves with lower borrowing costs against the backdrop of low inventories. 

Weaker construction activity caps plastics production growth. 

The weaker construction industry, particularly its residential component, continues to limit plastics production. PLASTICS regularly estimates the portion of plastics production that ends up in final demand in its annual Size & Impact Report. According to the latest report, approximately 8.7% of final plastic products were utilized by the construction industry. Construction shipments directly or indirectly related to the plastics industry in 2022 are estimated at $4.8 billion. 

Since the U.S. economy’s recovery in July 2009 from the housing market collapse, the industrial production indices of plastics products manufacturing and construction supplies have been highly correlated, with a coefficient of 0.97 through April 2024. Despite a slowdown in manufacturing last year, the demand for plastics remains robust, with growth anticipated, albeit at a slower pace. However, within the manufacturing sector and the end markets it serves, some segments have been more affected than others by the monetary policy adjustments made by the Federal Reserve. 

Outlook remains anchored on the benchmark interest rate.

On the housing market and its relation to the demand for plastics, the outlook hinges on the trajectory of interest rates going forward. Economists and financial industry observers have debated the potential outcomes of the Fed’s monetary policy tightening cycle, with a soft landing being seen as beneficial for the housing market and the plastics industry.  

Whether the Fed will begin loosening monetary policy by cutting the benchmark interest rate remains uncertain. Overall, higher interest rates have thus far not shown to significantly slow the U.S. economy. The labor market has remained strong, and inflation decelerated from its peak of 9.0% in June 2022 to 3.4% in April 2024.  

In the last PLASTICS Quarterly Forecast, a 1.3% decrease in the Industrial Production Index on construction supplies was projected. The 30-year fixed mortgage rates were expected to decrease to 6.6% this year, while housing starts were expected to pull back by 1.0%. The next PLASTICS Quarterly Forecast will be released in July, 2024.