Sept. 25 (Bloomberg) -- Prices of existing homes in the U.S. fell last month for the first time in 11 years as sales declined to the lowest level since early 2004.

The median price of a previously owned home dropped 1.7 percent in August from the same month last year, the National Association of Realtors said today in Washington. Purchases dropped 0.5 percent to an annual rate of 6.3 million.

Sellers may have to keep lowering prices after the supply of homes on the market jumped to the highest in more than 13 years. Falling prices will make it harder for consumers to tap the equity in their homes, a major source of cash in recent years. That may pose a risk to their spending, which makes up 70 percent of the economy.

``There is worse news in the pipeline,'' said Ian Shepherdson, chief U.S. economist at High Frequency Economics in Valhalla, New York. ``With inventory still rising, there is no chance of any short-term relief. Prices and volumes have a long way to fall yet.''

The report suggests that price-cutting may have cushioned the decline in sales, which fell less than economists forecast. Resales were expected to drop 2.1 percent to an annual rate of 6.2 million, the median estimate of 58 economists in a Bloomberg News survey.

The price decline ``should be viewed in the context of the 111 percent leap that occurred from early 1995 through this summer,'' said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc., a New York forecasting firm. ``It should not be a huge shock that we are seeing a price correction.''

Mortgage Applications

Applications to buy homes have stabilized in recent weeks. The Mortgage Bankers Association's index has increased 5.9 percent since the last week of August, when it dropped to the lowest level since November 2003.

The benchmark 10-year Treasury note rose 3/8, pushing down the yield 5 basis points to a seven-month low of 4.54 percent, at 3:42 p.m. in New York. Stocks rose, and a Standard & Poor's index of 16 homebuilders increased 3 percent on signs lower borrowing costs will bolster demand.

Federal Reserve policy makers, who last week held interest rates steady for a second month, expect housing will cool gradually to slow the economy and help curb inflation.

``We have a serious correction taking place in the housing sector,'' Federal Reserve Bank of Dallas President Richard Fisher said at a speech today in Monterrey, Mexico.

The median price of a previously owned home declined 1.7 percent to $225,000 last month, the first decrease since April 1995.

Declines Since February

Home sales haven't increased since February. They averaged 7.06 million last year. Existing home sales account for about 85 percent of the housing market and are recorded when a contract is closed, while new home sales are counted when a contract is signed.

The supply of homes for sale increased to 3.918 million, a 7.5 months supply that was the highest since April 1993, up from 7.3 months at the end of July. Resales of single-family homes were unchanged at an annual rate of 5.51 million, the report said. Sales of condos and co-ops fell 3.5 percent to a 793,000 rate.

Purchases fell 2.3 percent in the West and 0.8 percent in the South. They rose 0.7 percent in the Midwest and 1.9 percent in the Northeast.

Homes were ``extremely over-valued'' during the second quarter in 79 metropolitan areas, accounting for 40 percent of all single-family housing by value, according to a joint study by Global Insight Inc. and National City Corp.

Price Forecast

Existing-home prices will rise 2.8 percent this year and 2.2 percent next year, down from 12.4 percent growth in 2005, according to forecasts from the Realtors' group.

The group predicts sales of previously-owned homes will fall 7.6 percent in 2006 and 1.7 percent in 2007.

The Commerce Department will probably report Sept. 27 that sales of newly constructed homes dropped to an annual rate of 1.04 million in August from 1.072 million in July, according to the median estimate in a Bloomberg survey.

Lennar Corp., the third-largest U.S. homebuilder by market value, is scheduled to report fiscal third-quarter earnings tomorrow before the open of regular stock market trading. The Miami-based builder said on Sept. 8 profit would fall to $1.25 a share to $1.35 a share in the three months ended Aug. 31, compared with $2.06 a year earlier.

Builder Incentives

Higher mortgage rates and rising inventories have decreased demand for new houses. U.S. homebuilders have been offering incentives to potential buyers to reduce the number of unsold homes and that has hurt profit and sent the Standard & Poor's Supercomposite Homebuilding Index of 16 companies down 29 percent this year.

Homebuilders, including Lennar, Los Angeles-based KB Home, the sixth-largest homebuilder, and Irvine, California-based Standard Pacific Corp., the 12-largest homebuilder, have reduced earnings forecasts because of the housing slump.

Housing starts in the U.S. fell 6 percent last month to an annual rate of 1.665 million, the lowest level in three years, the Commerce Department said Sept. 19. Building permits dropped for a seventh straight month to the lowest level in four years, a sign home construction will keep slowing.

Builder confidence took a hit, with the National Association of Home Builders/Wells Fargo's index of builder optimism plunging this month to the lowest level in 15 years.

Interest Rates

Borrowing costs, which rose as the Fed raised interest rates 17 consecutive times since 2004 to contain inflation, have eased. The average rate on a 30-year fixed mortgage slipped to 6.4 percent this week, from 6.43 percent the prior week, according to McLean, Virginia-based Freddie Mac, the second- biggest purchaser of U.S. mortgages. The rate was 5.8 percent a year earlier.

Housing demand is getting some lift from a healthy labor market, with last month's unemployment rate at 4.7, approaching the lowest level in five years. Refinancing, which gave consumers extra cash during the expansion, is slowing, and smaller gains in home prices are leaving homeowners feeling less wealthy. That may hurt consumer spending, which accounts for two-thirds of the U.S. economy, economists said.

``What worries me is how long we can sustain consumption on the basis of what we have sustained it in the last several years: by taking money out of your house,'' Joseph Stiglitz, Columbia University economics and Nobel laureate, said in an interview Sept. 22.

Home construction in the second quarter subtracted more from economic growth than at any time since the first three months of 1991, the Commerce Department said.

Economic growth may average an annual rate of 2.7 percent in the second half this year, down from a 4.25 percent pace in the first six months, according to the median forecast of economists surveyed by Bloomberg.

To contact the reporter on this story: Shobhana Chandra in Washington schandra1@bloomberg.net; Joe Richter in Washington jrichter1@bloomberg.net

Last Updated: September 25, 2006 15:58 EDT