Sept. 24 (Bloomberg) -- Sales of previously owned U.S. homes fell more than forecast in August and prices dropped the most on record as Federal Reserve Chairman Ben S. Bernanke suggested the housing market may get worse before it gets better.

Sales of existing homes dropped 2.2 percent to an annual rate of 4.91 million units from 5.02 million the prior month, the National Association of Realtors said today in Washington. The median price declined 9.5 percent from August 2007 and the number of properties fell from a record.

Bernanke told lawmakers that lenders will become ``still more cautious,'' with terms on home loans tightening ``significantly.'' The slide in property values threatens to hurt consumer spending, which Bernanke said today would be ```sluggish at best'' in coming months.

``You have foreclosures which are pushing prices down, but you have tight credit conditions keeping sales from rising,'' Patrick Newport, an economist a Global Insight Inc. in Lexington, Massachusetts, said in a Bloomberg Television interview. ``Sales are probably going to drop 10 to 15 percent more over the next few months.''

Stocks fell for a third day on concern lawmakers will derail a $700 billion White House plan to bail out banks. The Standard & Poor's 500 Index closed down 0.2 percent at 1185.87. Treasuries pared early gains and were little changed at 4:32 p.m. in New York, with the benchmark 10-year note yielding 3.8 percent.

Resales were forecast to fall to a 4.94 million annual rate, according to the median estimate of 73 economists in a Bloomberg News survey. Projections ranged from 4.7 million to 5.15 million.

Bernanke Testimony

Bernanke said today in testimony before Congress that the U.S. is facing ``grave threats'' to financial stability and warned that the credit crisis has started to damage household and business spending.

``Economic activity appears to have decelerated broadly,'' Bernanke said in remarks prepared for a Joint Economic Committee hearing, downgrading the assessment of Fed officials when they met on Sept. 16. ``Stabilization of our financial system is an essential precondition for economic recovery.''

`Some Stabilization'

While the prospect of still lower prices is deterring some buyers, Bernanke said there are signs of ``some stabilization'' in home sales. Cheaper prices and lower interest rates ``are making housing increasingly affordable over time,'' he said.

Home resales were down 10.7 percent compared with a year earlier. Resales totaled 5.65 million in 2007.

Today's figures compare with the 4.85 million level reached in June, the lowest in a decade and 33 percent down from the record reached in September 2005.

The number of previously owned unsold homes on the market at the end of August represented 10.4 months' worth at the current sales pace, down from 10.9 months' at the end of the prior month.

There were 4.255 million properties on the market in August, down 7 percent from the prior month, the biggest drop since December 2006.

The median price of an existing home dropped to $203,100 from $224,400 a year ago. For single-family houses, the median price dropped 9.7 percent, the biggest decline since records began in 1968.

Resales account for about 90 percent of the market, while purchases of new homes make up the rest. Sales of existing homes are compiled from contract closings and may reflect contracts signed one or two months earlier.

New-Home Sales

Tomorrow, the Commerce Department is forecast to report that sales of new houses dropped to an annual pace of 510,000 from 515,000 in July, according to survey estimates. Sales of new homes are down 63 percent from their July 2005 peak.

Today's report showed resales of single-family homes fell 1.4 percent to an annual rate of 4.35 million. Sales of condos and co-ops declined 8.2 percent to a 560,000 rate.

The Northeast suffered a 6.6 percent decline in sales, followed by a 5.3 percent drop in the West. Purchases rose in the Midwest and Southeast.

``Some of the declines in sales were due to tighter lending standards that Fannie Mae and Freddie Mac had imposed prior to the takeover,'' Lawrence Yun, chief economist at the Realtors' group, said in a press conference.

Builders Scale Back

As sales shrank, builders scaled back construction projects to pare swelling inventories. Work began in August on the fewest houses since 1991, the Commerce Department reported last week. The number of building permits issued also fell, signaling construction cutbacks will continue to hurt the economy.

``The biggest issue is consumer confidence in housing right now,'' Ara Hovnanian, chief executive officer of Hovnanian Enterprises Inc., New Jersey's largest homebuilder, said in a Sept. 19 interview on Bloomberg Television. ``It remains a very challenging environment.''

Hovnanian said sales in ``some select markets,'' such as northern California and the Washington suburbs in Virginia, ``have really started to pick up.'' It's ``absolutely'' too early to call a bottom for the market, he said.

Resales stabilized in recent months as some Americans took advantage of depressed property values. One-third to 40 percent of July purchases reflected distressed properties, including foreclosures, the real-estate agent's group said last month.

Stricter lending regulations and tumbling home prices make it harder for Americans to tap home equity for extra cash. Consumer spending in the third quarter will probably be the weakest since 1991, according to economists surveyed earlier this month.

`Root Cause'

The housing slump is the ``root cause'' of the turmoil in financial markets, Treasury Secretary Henry Paulson said in testimony before the Senate yesterday. It ``has resulted in illiquid mortgage-related assets that are choking off the flow of credit which is so vitally important to our economy.''

Bernanke joined Paulson in urging lawmakers to quickly pass the $700 billion rescue plan for financial institutions and warned the economy will shrink if markets don't begin functioning normally.

To contact the reporter on this story: Bob Willis in Washington at bwillis@bloomberg.net

Last Updated: September 24, 2008 16:52 EDT