(FORTUNE Magazine) – An 8.5% mortgage? Who wouldda thunk that rates could have jumped so far so fast? But that's where they stood in mid-April, up from only 7% as recently as early February. Consumers' immediate reaction was to tear up their mortgage refinancing applications, cutting off a potential new supply of spendable cash that could have helped propel economic growth. More ominously, higher rates could threaten the robust homebuilding industry, which has created some 150,000 jobs during the past year. The last time rates rose this much in a strong economy -- in early 1987 -- single-family-housing starts tumbled 15% the following year. It shouldn't be so bad this time around. Rather than presaging a bust, the rate rise signals that housing's significant boost to the economy is simply tapering off. FORTUNE expects single-family starts to decline a modest 5% by the end of 1995, though the absolute level will remain healthy (see chart). Starts were up 11% in March, confirming that the housing falloff of the two previous months was largely the result of harsh weather. The key point justly hammered home by builders, real estate agents, and economists is that even with the recent rate hikes, most people will still find houses highly affordable. At 8.5%, the 30-year mortgage rate is lower than at almost any time in the past 20 years -- in the 1980s it rarely dipped below 10%. A National Association of Realtors affordability measure that also includes incomes and prices shows ownership remains well within reach of most people. Timothy R. Eller, CEO of Centex Homes, the largest builder of single-family houses in the U.S., says he's concerned by the recent rate rise, but he believes the brisk pace of employment growth should keep demand strong. After a 20% improvement in Centex's new-home construction for the year ended March 31, Eller expects his company to record a lower -- but still double-digit -- gain this fiscal year. Based on the latest reading of consumers' moods, real estate professionals have reason to be upbeat: The University of Michigan confidence survey found that as of mid-April, Americans were unfazed by rising interest rates and their inclination to buy a home was still strong. Even in hard-pressed California, poster state for the recession, the housing market looks promising. Resales of single-family dwellings through March were running 25% ahead of last year, according to the California Association of Realtors. Residential building permits should reach 132,000 this year, up from a severely depressed 85,000 in 1993, predict economists at UCLA. Roger Menard, president of domestic operations for Kaufman & Broad, the biggest builder in California, says his company's goal is to complete construction on 7,500 new homes in the state this year, vs. 5,800 last year. With Northern California's economy on the mend, and the South benefiting from earthquake disaster aid, that goal seems attainable. Across the country, builders are especially bullish on trade-up buyers. These folks have become a major force in the market only in the past year, as firmer prices prompted more homeowners to stick for sale signs on the lawn. Toll Brothers, which builds homes averaging $335,000 in ten states, will set a sales record in the quarter ending in April, says Chairman Robert Toll, and demand shows no sign of slackening despite higher mortgage rates. Good thing, too, because the outlook for first-time homebuyers is downright dim. The Census Bureau projects that the number of people ages 25 to 34 -- the prime first-time homebuyers -- will decline by more than a million from 1993 to 1995. This group expanded by more than a million per year on average during the 1970s when housing was hot, and by more than half a million annually during the go-go Eighties. First-timers are also very sensitive to rising interest rates -- every uptick pushes payments just high enough to knock some people out of the market. The blow will be cushioned somewhat as more buyers go for adjustable-rate mortgages, which sport initial tickler rates some three percentage points below conventional rates. But ARMs simply aren't popular in the South and Midwest, and some would-be buyers elsewhere won't want the interest rate risk that comes with these loans. As it is, the Mortgage Bankers Association reports that overall mortgage applications for home purchases have started to fall. And a National Association of Home Builders survey finds that just 26% of builders enjoyed "high to very high" traffic through model homes in March, off from 39% in January. These reports help confirm that housing is no longer an economic hot spot. One nasty result: Small, underfinanced builders will exit the market. But with the big companies framing away aggressively, and the economy's foundation in good shape, housing is not about to cave in. One hopeful sign: Many economists, including FORTUNE's, believe long-term interest rates have about peaked and could ease before year-end because inflation is not a threat. Remember, the economy is not overheating -- for proof, just keep your eye on housing.

BOX: OVERVIEW

-- Mortgage rates look good compared with the 1980s. -- Major builders plan for big sales gains in 1994. -- Trade-up buyers become a larger market force.

CHART: NOT AVAILABLE CREDIT: FORTUNE CHART/SOURCE: NATIONAL ASSN. OF REALTORS CAPTION: HOMES ARE STILL CHEAP . . .

CHART: NOT AVAILABLE CREDIT: FORTUNE CHART/SOURCE: CENSUS BUREAU CAPTION: BUT YOUNG BUYERS ARE FEW . . .

CHART: NOT AVAILABLE CREDIT: FORTUNE CHART CAPTION: SO CONSTRUCTION WILL SLOW