The MBA's report is a useful for two reasons. First, it provides a very early indicator for home buying demand. For example, the National Association of Realtor's existing home sales report that comes out on Thursday provides sales that closed in July, which means it really provides buying demand for as far back as May and June. The MBA report shows us how consumer demand for homes looked just last week.
Second, the report provides a way to gauge consumer confidence on a weekly basis. Big sentiment declines don't always translate into big drops in consumer spending on a whole, because a fair amount of spending isn't discretionary. But most home buying can be delayed until consumers are more comfortable with the economic situation. Assuming that no housing market specific shocks are playing a role, a big decline in mortgage purchase applications implies a big drop in consumer sentiment.
So What Happened?
This wasn't just any week during which mortgage applications for purchases plummeted. It occurred during a week when mortgage interest rates hit a new record low, according to Freddie Mac. As a result, mortgage applications for refinancing are experiencing a mini-boom. But those ultra low rates weren't enough to convince more consumers to purchase homes; indeed, we saw the opposite. Sentiment must have been so low that even the benefit of ridiculously low mortgage interest rates couldn't prevent a big 9.1% drop in purchase applications.
We can easily guess what's causing Americans' nervousness. Last week consumers reacted to the news that the U.S. had been downgraded. The S&P 500 also fell 7.7% in the prior week, ending August 5th. Then stocks experienced crazy volatility last week, which consumers probably interpreted as significant uncertainty about the economy. Although stocks aren't moving as wildly this week, those other shocks remain intact. So there's little reason to believe that consumers are feeling much more optimistic this week than they were last week.
Pessimistic Consumers: The Most Dangerous Threat to Recovery
We've seen a lot of harmful economic shocks recently, like natural disasters, instability in Europe, political unrest, rising oil prices, volatile markets, and downgrades. Those all play a part in stifling economic activity. But their real risk is indirect, as they drag down consumer sentiment.
The biggest problem that the economy faces right now is unemployment. If the U.S. suddenly added 15 million jobs, then most of the other issues would work themselves out: home sales would jump, tax receipts would increase, the stock market would stabilize, and even rising gasoline prices would be a little easier to stomach. But firms aren't going to ramp up their hiring if consumer demand doesn't rise. In fact, if it falls they may resume layoffs.