WASHINGTON - Construction of new homes fell in July to the lowest level in 10 1/2 years, and analysts said there is no end in sight to the deepening housing slump.

The Commerce Department reported Thursday that construction of new homes and apartments dropped 6.1 percent in July from the June pace to an annual rate of 1.38 million units.

That was down 20.9 percent from the pace of activity a year ago and represented the slowest construction pace since January 1997.

Analysts said the housing problems are worsening because of rising mortgage defaults, especially in the market for subprime loans. That is dumping more homes on an already glutted market and causing banks to tighten lending standards, making it harder for prospective buyers to qualify for new mortgages.

'Declining starts and permits clearly reflect deepening problems in the mortgage market, which erupted earlier this year in the subprime sector and now have spilled over into other components of mortgage finance,' said David Seiders, chief economist for the National Association of Home Builders.

The group's builder confidence survey fell to 22 in early August, the lowest point since January 1991, when the country was going through another severe housing downturn.

Seiders said it will be some time before housing starts to rebound. He is forecasting that sales will stop falling by the end of this year and construction will stabilize in the middle of 2008.

Other analysts said to expect more bad news before housing stabilizes.

'As bad as July's numbers were, they are bound to get worse in the next one to three months because of the turmoil in financial markets today,' said Patrick Newport, chief U.S. economist for Global Insight. 'A mortgage is getting harder to get, especially for those who cannot qualify for prime loans.'

The troubles in subprime mortgages, which are offered to borrowers with weak credit histories, have roiled other segments of the credit market and sent stock prices plunging in recent days as investors worried about what big institutions could be at risk because they cannot get repaid on loans they have made.

Wall Street continued its volatility Thursday following news that Countrywide Financial Corp., the country's biggest mortgage lender, confirmed that its credit problems were spreading.

The Federal Reserve and other central banks around the world have been supplying billions in money to banks in the past week to try to calm fears that credit is drying up.

In a second report, the Labor Department said Thursday that the number of newly laid off workers filing for unemployment benefits rose by 6,000 last week to 322,000. The increase was unexpected. Analysts had expected a decline of about 1,000.

Building permit applications, considered a good barometer of future activity, fell 2.8 percent in July to an annual rate of 1.373 million units.

Drop In Starts Worst In South

Housing construction fell in all parts of the country except the Midwest, which had a 2.6 percent increase in July. Construction starts were down 11 percent in the South, 3.7 percent in the West and 1.3 percent in the Northeast.

The current housing slump is the worst since a downturn that occurred during an economic recession in 1990-91.

Overall economic growth has slowed, but so far there has been no recession as other sectors have offset the weakness in housing. However, private economists say the threat of a recession will rise if consumer and business confidence is eroded by the troubles in financial markets.

Paulson Offers Reassurance

Seeking to reassure investors, Treasury Secretary Henry Paulson said the sharp downturn in financial markets 'will extract a penalty on the growth rate' but the economy and markets are strong enough to absorb the losses without a recession.

'Looking over periods of stress that I've seen, this is the strongest global economy we've had,' Paulson, a 32-year veteran of Wall Street, said in an interview published Thursday in The Wall Street Journal.

The housing construction drop followed news from the National Association of Realtors that existing home sales fell in 41 states in the April-June quarter while one-third of metropolitan areas surveyed experienced price declines.