Homeownership is almost every American dream, and it is the most significant financial decision one can make. The contemporary cultures have deemed buying a home as future expectations. The eminence of buying a house can be inferred from statements such as 'why rent when you can buy' and ‘don’t throw away money on rent” ( 'Foote, 2012) . Despite the statements, a large subset of the American population opts to rent houses. According to Foote (2012), several economic factors have contributed to such a decision. In this regard, this critical financial analysis paper seeks to explore both models and elucidate best-practices in homeownership.
Per Capita Income
The mortgage loan decision has a considerable impact on the financial condition of households. Some of the households find themselves in mortgages that exceed their value due to decreasing house prices. Also, some struggle to make payments on the same due to reducing per capita income, leading to significant financial problems. Borrowers with high mortgages loans struggle to service their loans (Gerardi et al., 2013). According to Stafford et al. (2012), the US household allocates too much of their per capita income to a mortgage payment in times of a well-performing labor market and appreciation of prices. Low and moderate-income earners tend to take mortgage loans with less down payment and low credit requirements. The effect of income on consumer demand depends on the type of goods. Generally, the relationship between income and the amount of products and services the consumers are willing and able to buy is direct. That is, high-income increases the demand for goods and services, and low-income decreases the demand for goods and services. Given that housing is among normal goods, it experiences the same relation. The relation holds because the level of income determines the affordability of the house. In this regard, low-income earners will not afford to buy houses; thus, opting to rents. The same applies to me. I am still paying rent because my income cannot meet the financial demands of buying houses. The available income to spend is $ 680 that is far below the available houses at $ 1600 and $400,000.
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Also, the relation holds because no one can spend more than what he earns ceteris paribus.
That is income = expenses.
Savings
Savings occur when one does not use part of his or her income but keeps it for future use. The underlying notion is that one is spending less than what he or she earns. Savings have a negative relation with the consumer demand for goods and services. When an individual increases savings, the demand for goods and services decreases because savings reduces the amount of spendable income
Therefore:
Spendable income = income – savings
Thus, savings decrease the affordability of the houses because it is leakage to personal income. I am living in the rental because I am saving some money so that I can buy a house in the future. I have established savings plans that would allow me to attain this long-term goal. It is imperative to note that savings will increase the availability of loans, which will later increase the overall demand for goods and services.
Interest Rates
Purchasing a house is a challenging financial commitment, and this necessitates saving or using credit services. Whenever one buys a house or anything on credit, the accrual of interest rates is an inevitable aspect of consideration. The level of interest charged can have a significant influence on the consumption of goods and services in the economy and may influence economic growth ( Armelius, Bonaumol, Strid, & Walentin, 2014) . When interest rates increase, loans become expensive, thus reducing the purchase of houses and vice vasa. High-interest rates make it difficult for consumers to borrow money from lending institutions. As a consequence, consumer demand plummets. Shifts in interest rates influence mortgage availability, which may wholesomely result in a decline in the number of houses sold.
Availability of Collateral to Take a Loan
Apart from interest rates, the availability of collateral can also limit the affordability of loans. Lenders require security before extending loans to their customers. Collateral is the asset that lenders take as security to offer loans. In case of default in loan payment, the lender seizes and sells the asset to recover the loan. Secured loans are substantially available in lower interest rates than unsecured loans. Therefore, borrowers are compelled to repay loans on time to avoid the chance of losing the collateral asset. Lack of collateral means people will not be able to access the available loans. Ultimately, the endeavor reduces the availability of credit services, which in turn impede an individual ability to purchase a house on loan. Principally, since the need for collateral limits an individual’s credit option, one’s purchasing power declines. By extension, affording a house becomes impossible.
Availability of Mortgages
Another factor that nudges an individual to prefer renting to purchasing a house is the availability of mortgage loans. The underlying assumption is that mortgages with high-income multiples will encourage individuals to buy homes. Furthermore, the willingness of the lending institution to give out mortgage finance depends on the interbank lending sector. When there is a credit crisis, the cost of interbank lending increases; hence, a fall in the availability of mortgage finance occurs ( Stafford, 2012) . The shift makes it challenging to acquire a property. In my case, the available mortgage was not accessible; its financial requirements were above my financial capacity. In light of the unfavorable financial circumstance, I opted to rent.
Inflation Rate
Persistence inflation causes an increase in the prices of a broad range of commodities. Inflation is measured using the consumer price index that quantifies the prices of products purchased by households (Gallagher, 2011). The theoretical expectation is that inflation has a direct effect on changes in house prices. That is, the higher the inflation, the higher the house price; thus, the lower the demand for the mortgage. Therefore, according to Muli (2011), inflation has a negative influence on the consumption of mortgage finance. Government subsidy and looser underwriting standards motivate borrowers to take loans (Foote et al., 2012). Because inflation causes a drop in the demand for mortgage loans, individuals tend to rent as a substitute for buying homes.
Exchange Rates
Banks typically denominate their loans in foreign currencies to reduce the risk associated with exchange rates. Countries with dominant foreign currency financing experience adverse implications that lead to a higher probability of default and mortgage demand plunge. Banks with a lot of foreign currency have many foreign mortgage loans ( Campbell & Coco, 2011) . Economically, households are likely to request foreign currency mortgage loans if there is a large difference between the local currency and foreign currency credit, and there exists low volatility of exchange rates. In case of low efficiency of domestic monetary policy, banks will be reluctant to lend in foreign currency, especially in cases that entail more extended repayment periods like mortgages. The ultimate effect is a reduction in the availability of mortgage loans. The consumer or the borrower will be forced to rent a house rather than purchase it.
Tax Incentive Changes
Tax is a compulsory levy by the government on citizens to facilitate the provision of services to the public. Taxation has a significant impact on mortgage loan demand. According to Van (2016), countries with interest paid mortgage loan tax deductions that translated to a substantial tax refund experience high mortgage loan uptake. The refund is determined by the marginal tax margin, implying its benefit depends on the mortgage principal. The effects of taxation on mortgage loans are limited, it depends on the interaction between demand for rental housing and demand for owned housing.
High Prices of Houses
The cost incurred to acquire a house is also a significant reason why individuals are staying in rental homes. In the economic sense, prices have a direct relationship with the quantity demanded. When prices go high, the people's propensity to consume reduces because the available income will not be enough to pay for the cost of acquiring house ownership ( Ariemba, Kimeu & Riri 2015) . Thus, people prefer taking the cheaper alternative available since housing is an essential human want; individuals start living in rents to supplement owned housing. Hence high house prices are the reason why people are still living in rental houses.
Location
Location is another reason why some people stay in rentals. Housing is considered a longterm investment and is subject to price volatility, a factor that ought to be considered in house purchase decisions. Location influence the price of a house, people living in areas that are secure, good road network, and proximity to social amenities are likely pay more for houses as opposed to those living in areas that have limited access to good social amenities. Since people may want to live in neighborhoods that are not affordable, renting might be considered a viable option.
In conclusion, some people live in rentals as a result of macro-economic factors. Some of the factors that influence their decision include the level of the per capita income, inflation rate, exchange rates, level of savings, availability of collateral, and the availability of mortgage finance. In light of the massive financial commitment associated with mortgages, some individuals may opt to use a relatively cheaper option; renting a house. After considering all the explored factors, I am certain that renting is a better option for me, given my financial strength.
References
Ariemba J.M., Kimeu R.M &Riri K. (2015). The Influence of Macro-Economic factors on Mortgage Growth in Kenya, Journal of Finance and Accounting. ,. 4(3), 2015, pp 77-85.
Armelius, H., Bonaumol P. Strid I. & Walentin, K. (2014). Lower Neutral Interest in Sweden, Economic Commentaries Journal, and 8(1)
Campbell, J & Coco J. (2011). A Model of Mortgage Default, Unpublished paper, Harvard University
Favilukis, J., Ludvigson, S. C., & Van Nieuwerburgh, S. (2017). The macroeconomic effects of housing wealth, housing finance, and limited risk-sharing in general equilibrium. Journal of Political Economy , 125 (1), 140-223.
Foà, G., Gambacorta, L., Guiso, L., & Mistrulli, P. E. (2019). The supply side of household finance. The Review of Financial Studies , 32 (10), 3762-3798.
'Foote, A (2012). Negative equity and foreclosure theory and evidence, journal of Urban Economics 64, pp234-245.
Stafford, F. (2012). Diminishing Margins: Housing Market dealings and family financial responses. Research paper 276, Michigan Retirement Research Center
