I ran across a little fact the other day that has just bugged the hell out of me since then.
I was writing a story about interest rates for a small newspaper in Little Rock. It seems they’ve popped up over 5 percent and that has slowed down both sales and refinances. My task, of course, was to find out why mortgage rates are rising.
I should point out that it’s ridiculous to claim that any interest rate below 6 percent is high on a 30-year, fixed mortgage. Still, rates hovered between 4 and 5 percent for so many months that people got used to it.
Here’s the thing about those low interest rates – they are primarily the result of the Federal Reserve buying up mortgage backed securities on the secondary market. Now, mortgage backed securities are exactly what they sound like – you take a bunch of mortgages, package up that debt and sell it to investors. They behave rather like bonds.
On the day after Thanksgiving, the Federal Reserve announced it was essentially guaranteeing $500 billion in mortgage backed securities. The hope, of course, was that investors would then regard those securities as safer investors and buy them. Because the yields would drop, interest rates would fall and people would be motivated to purchase homes.
Additionally, buying up and guaranteeing those loans would give more capital to banks which would, in turn, lend money to people seeking mortgages.
That plan worked. Sort of. Mortgage rates dropped and capital started flowing a bit more freely. Ultimately, however, people started refinancing like crazy at low interest rates, thus flooding the market with more debt.
So, we’ve got far more mortgage backed securities out there than investors are willing to buy. Naturally, then, the yields on them have increased and that has caused interest rates to rise a bit.
Bear in mind, too, that the current mortgage rates are terribly artificial. According to the Mortgage Bankers Association of Arkansas, the Fed is buying $20 to $40 billion worth of mortgage backed securities per month.
A lot of that money has been borrowed from our good friends in China, of course. That causes a whole set of problems I won’t bother examining now. However, it should be said that being heavily in debt to your ideological enemy is a terrible idea.
The question, of course, is what happens when the Fed starts buying up those securities? Interest rates will likely go through the roof, of course, thus causing all kinds of problems.
What’s fascinating about all of this is that an alternative plan that makes a whole lot of sense (and may have cost less) has been watered down horribly. A couple of years ago, the National Association of Realtors suggested that the housing market would be helped considerably if the government gave a $15,000, non-refundable tax credit to everyone who purchased a home.
What we got was a $7,500, refundable tax credit to first time homebuyers last year. This year, of course, that credit was extended through Nov. 30, was raised to $8,000 and is non-refundable. The hope of a $15,000 credit for everyone is back before Congress, but who knows how that will do?
In other words, we’ve opted for a very expensive plan that artificially decreases interest rates and, obviously, can’t last forever. Had the government opted for a $15,000 tax credit to every homebuyer, it goes without saying that sales would have gone through the roof and the desired economic boost would have been in the works.
Further, people receiving $15,000 from the government after filing their 2009 tax returns would have provided an additional economic boost by purchasing things. Expensive things like cars (which would have certainly helped the struggling U.S. auto industry).
I can’t help but wonder why on earth that plan didn’t gain more traction. It couldn’t have cost more than we’ve already spent in an attempt to help the housing market. Furthermore, it may have actually been more effective.
So, what’s the deal? Are the feds afraid to turn that much money over to individuals? Are they afraid we’d just be “foolish” and save it?
The whole thing is confusing. Meanwhile, we’re spending billions trying to keep interest rates low. What kind of hell will be unleashed when the government stops spending that money?