Some Estimates on the Needed Housing Inventory Reduction

UPDATE: Here is an article from BusinessWeek talking about the housing inventory.

WSJ Economics Blog refers to Richard Berner of Morgan Stanley who is forecasting the needed decline in housing starts and prices to bring a balance to the industry.

Brace for a much deeper housing retrenchment: Builders may have to cut 40% more from single-family housing starts to balance out supply and demand, Morgan Stanley chief economist Richard Berner says. At the same time, real home prices will have to drop by 10% to make housing more affordable. “Neither that construction decline nor its potential effect on economic activity seems to be in any forecast,” he says in a note to clients today.

I don't have access to research reports (except some free ones from my discount broker) so I'm not sure what they are saying. But this is the first time I have seen some concrete numbers for the decline that is needed.

Already, housing starts have dropped by almost a third over the last year to an annual rate of 1.19 million in September. And sales of both new and existing homes are off sharply. Tighter lending terms are depressing demand even more now. A 10% drop in prices might clear half of the excess housing supply from a total overhang that amounts to 600,000 vacant homes, Mr. Berner says. The other 300,000 would have to be cleared by builders cutting back activity.

The homebuilders haven't ratcheted down their starts to balance the market. The inventory overhang is the biggest threat and until that is brought into balance, homebuilders and related industries are quite risky. The bottom may be early next year.