The Fed and mortgages: different species, life spans |
|
|
|
The economy has more moving parts than a belly dancer. And you can't isolate one thing. Take, for example, the federal funds rate. By reducing it, the Fed runs the risk of reducing the dollar's value on world markets. That makes imports more expensive.
Recent record-high prices for crude oil "are in part due to the weak dollar, because others on international markets are finding oil is typically bought in dollar denominations, and their money goes further," Fleming says. "So they're actually snapping up inventories because it's more affordable to them, so a reduction in interest rates could further pressure oil prices."
Shorter version: The lower federal funds rate could spell higher prices at the gas pump.
If higher fuel prices lead to higher prices for products that are shipped long distances -- food, cars, televisions, toys and all the stuff we buy that's made in China -- that's inflation, and higher inflation means higher mortgage rates.
Skyrocket back to earth
Fleming points out that the Fed didn't drop just the federal funds rate. It also lowered the discount rate, which is what the Fed charges banks for short-term loans. The discount rate "is the mechanism they're using to try to add more liquidity to the credit markets," Fleming says -- and a logjam in credit markets is partly what's keeping jumbo mortgage rates so high.
A jumbo mortgage is a home loan for more than the conforming limit, which is $417,000 this year. Historically, jumbo rates are about a quarter of a percentage point higher than conforming rates, but for the last couple of months, the difference has been about three-quarters of a percentage point. The Fed seems to be trying to narrow that difference.
The problem with jumbos is a legacy of the boom years, when the Fed cut the federal funds rate to 1 percent and mortgage rates lingered below 6 percent. Money was cheap to borrow, so house prices skyrocketed. Homebuyers, fearful of getting priced out, got exotic mortgages. A lot of those loans blew up.
Alan Greenspan, chairman of the Fed during the housing boom, "owes the U.S. an apology for letting the mortgage market get so out of control, particularly when he saw housing prices skyrocketing," says Anthony Sanders, professor of finance and real estate at Arizona State University.
Expect Greenspan's successor, Ben Bernanke, to learn from the housing boom and crash. Many observers believe that the Fed is finished with cutting rates -- unless the central bank sees unmistakable signs of a recession.
|
