Luke Mullins

Existing home sales fell 27 percent in July to the lowest level in the 11-year history of this data series

Home sales took a nosedive last month, suggesting that prices may soon decline and underscoring concerns about the real estate market's capacity to recover.

Existing home sales fell 27 percent in July from June to the lowest level in the 11-year history of this data series, the National Association of Realtors said Tuesday. (Sales were roughly 26 percent below year-earlier levels.) As transaction volumes plummeted, inventories swelled. The months' supply of unsold homes at the current sales pace -- a key inventory yardstick -- ballooned to 12.5 in July. That's nearly double the 6.5 mark reached in November 2009.

Although the national median existing home price, $182,600, increased slightly from July 2009, the sharp drop in sales "increases the chances that house prices will soften in the coming months," Zach Pandl, an economist at Nomura Securities, said in a report.

Economists had expected home sales to fall in July -- although not as precipitously as they did -- on account of the expiration of the federal home buyer tax credit. In an effort to jump-start the real estate market, the Obama administration offered tax incentives worth up to $8,000 to home buyers who signed a sales contract by April 30 and closed the transaction by June 30. (The closing deadline was later pushed back to September 30.) As a result, consumers that would otherwise have bought homes in later months scrambled to complete their transactions by the end of June. Home-sales activity increased significantly in the runup to the deadline, but has fallen dramatically since then.

Economists are particularly concerned because the post-tax-credit "hangover" has been severe despite a pair of forces that should be working to pull buyers into the market. Home prices in 20 major metro areas have fallen 29 percent from their 2006 peaks, restoring affordability to many local markets. At the same time, mortgage rates have fallen to record lows. Average rates on 30-year fixed mortgages slipped to 4.56 percent in July from 5.22 a year earlier. "The most worrying feature of the recent housing data is the absence of evidence of any underlying improvement in sales," Nigel Gault, an economist at IHS Global Insight, said in a report. "All of the action earlier this year appears to have been driven by the tax credit."

Gault, however, argues that July's existing home sales report may actually overstate the weakness in the market. "The underlying path of housing sales is not as disastrous as July's number suggests," he said. "We are now undershooting, as sales that would have happened now were pulled forward by the tax credit."

Celia Chen, senior director at Moody's Analytics, predicts that sales will improve in short order. "We expect that job growth and low mortgage interest rates will help sales pick up in the remainder of the year," Chen said in a report. "Help will also come from some faint slackening of mortgage credit conditions -- at least for prime borrowers."

But Michelle Meyer, a senior U.S. economist at Bank of America Merrill Lynch, argues that even when a sustainable recovery materializes, it will proceed at a sluggish pace. It could be five years before the housing market returns to normal, she says. "This would make it the slowest housing recovery in post-war history," she said in a report. And that's assuming everything else goes according to plan. "If foreclosures flood the market faster than we expect, home prices could take another serious leg down, tipping the economy back into recession," she said.