What can the Fed do about mortgage rates?

The Federal Open Market Committee meets June 23-24, and while any changes to short-term interest rates are light-years away, many are wondering if the Fed will further target long-term interest rates.

An early June spike in Treasury yields had the 10-year note kissing 4 percent and conforming 30-year, zero-point fixed rates flirting with 6 percent. With approximately $1 trillion left in Treasury, mortgage-backed and GSE debt buybacks over the balance of 2009, this will keep a lid on mortgage rates. But a 58 percent plunge in the Mortgage Bankers Association Applications Survey Refinance Index from May 20 through June 17 of this year shows there is a big difference between keeping a lid on mortgage rates and pushing rates down to levels that generate a frenzy of refinancing and home buying activity.

So the question begs: What can the Fed do, and what, if anything, will they do? The options at their disposal include accelerating the pace of purchases, increasing the amount of purchases, extending the time period over which the purchases take place or do nothing further than already announced.

Accelerating the pace of debt purchases pumps more of that remaining money into bond markets sooner rather than later and could help bring rates down from current levels.

Increasing the amount of the purchases seems like an obvious answer, after all, it worked well in November when the initial mortgage debt buyback was announced and again in March when the program was increased and extended to include Treasury debt.

But further increases to the amount in play could do more harm than good. For starters, it was a concern about the eventual inflationary consequences from pumping so much stimulus into the economy that sparked the late May/early June rise in rates. Increasing the buyback program only exacerbates those concerns. And even if the Fed did bring mortgage rates lower, it doesn't change the dynamics of the real estate market. Sure, refinancing applications would surge again, but those are applications, not loan closings. There are plenty of other obstacles between loan application and closing day, including the issue of sufficient equity or being too far upside-down to qualify; tighter underwriting guidelines for debt ratios, credit scores and proof of income; and whether or not an appraisal ordered under the new Home Valuation Code of Conduct will support or torpedo the deal. For homebuyers, mortgage rates are still low enough that they're not an impediment to a well-qualified buyer and even lower mortgage rates don't solve the buyer's down-payment dilemma.

The Fed could extend the time period of the purchases beyond 2009, but that does nothing to bring the current level of bond yields and mortgage rates lower while potentially diluting what effect upcoming buybacks would have.

Finally, the Fed could administer the silent treatment and make no announcements about further changes. This "let the chips fall where they may" policy only impacts long-term rates if it deviates from expectations.

And just what should our expectations be? The post-meeting FOMC statement will contain an economic assessment largely the same as following the April meeting. Given the recent rise in energy prices, we can expect a nod to the inflation concerns through the Fed reiterating an intent to maintain price stability. And an acknowledgement of improvement in financial markets as the TED spread -- the difference between 3-month LIBOR and 3-month Treasury yields that reflects tensions in interbank lending -- has fallen to pre-credit crunch levels of 43 basis points.

But as far as quantitative programs designed to reduce long-term bond yields and fixed mortgage rates, accelerating the pace of purchases rather than the amount is more likely. If any new initiatives are announced, one area that has been ignored up to this point is the jumbo mortgage market, where rates remain stubbornly near the 7 percent mark with no viable secondary market