Each day the Research staff takes a look at recently released economic indicators, addressing what these indicators mean for REALTORS® and their clients. Today’s update discusses mortgage rates.
Each day the Research staff takes a look at recently released economic indicators, addressing what these indicators mean for REALTORS® and their clients. Today’s update discusses the federal deficit and interest rates.
Every week the Research staff analyzes key data releases and explain what they mean for you and your business. In this update, we give the highlights of the most important data releases for the week of August 22-August 26, 2011, along with graphs that show the latest movement and overall trends.
Each day the Research staff takes a look at recently released economic indicators, addressing what these indicators mean for REALTORS® and their clients. Today’s update highlights mortgage purchase applications.
The Federal Reserve announced recently that it will not raise interest rates for at least 2 years. Given the current weakness in the economy, the Fed has been forced to keep rates low this year. The Fed, though legally independent from the White House and Congress, generally does not want to do anything during an election year. So the next rate increase from the current rate of zero will be sometime in 2013, assuming that the economy has measurably improved by then. Not every voting member of the monetary policy agreed and there were 3 dissents, which is quite unusual.
What does this mean for real estate practitioners? First, the Fed controls — not mortgage rates — but what is known as the Fed Funds rate. The Fed Funds rate is a very short-term borrowing rate between banking institutions. The banks can always go to the Fed discount window if borrowing from each other proves difficult. This rate is essentially at zero and it will remain that way for the next two years.
Each day the Research staff takes a look at recently released economic indicators, addressing what these indicators mean for REALTORS® and their clients. Today’s update highlights jobless claims and the 10-year Treasury borrowing rate.
Here in Washington, D.C., the debt ceiling debate continues, with the the deadline for a deal fast approaching. If there is no resolution and the U.S. technically defaults on August 2nd, then the unemployment rate could hit 9.5 percent by year-end, up from the current 9.2 percent. The employment conditions had made some progress with the unemployment rate dipping from a cyclical high of 10.1 percent in late 2009 to 8.8 percent in March of this year, but the very slow economic recovery is doing nothing to push down the jobless rate.
The higher unemployment scenario comes about from higher interest rates for everyone: governments at all levels, businesses, and consumers, including mortgage rates. If global bond investors of U.S. debt become skittish then the supply of loanable funds will shrink and higher interest rates will be required to woo bond investors.
So far, global bond buyers have shown absolute calm. The benchmark 10-year U.S. Treasury borrowing rate is only 3 percent, near historic lows.
By contrast, the borrowing rates by other sovereign governments are as follows:
Some of these differences are attributed to differing inflationary conditions in the respective countries. Japan’s low borrowing cost is due in part to falling prices. Still a higher borrowing cost, for example Italy vis-à-vis Germany, shows the investors’ level of trust that Germany more than Italy will honor its debt commitments. Greece certainly made mistakes in the past, by offering way too many promises as related to government spending versus what the country could reasonably honor. There is no free lunch of easy promises.
Back to the United States. If there is no debt ceiling resolution then it is possible (though not certain) that U.S. interest rates will rise. If the 10-year Treasury borrowing cost goes up to 4 percent, with other no other economic news, then it will shave U.S. economic growth such that the unemployment rate could rise to 9.5 percent by year end.
More specifically, GDP growth in the second half could be in the 1 to 2 percent range. GDP needs to expand by 4 percent to make a steady, meaningful improvement to the job picture. GDP growth of about 2 percent essentially means a neutral economy with an unchanging unemployment rate. Growth of less than 2 percent means a higher unemployment rate. A fresh GDP figure for the second quarter will be released later this week, and I am afraid it could be as low as 1.5 percent. Continuing this pace of sluggishness will be very bad news for job hunters.
August 2, 2011 is the date given by when the federal government will run out of money to pay all its obligations – including social security checks, government employee salaries, interest on borrowed money, etc. The message has been that without the ability to borrow more to pay the obligations by raising the debt ceiling, catastrophe awaits. Foreign countries holding U.S. government bonds have been wagging their finger at the U.S. to not default or else.
We’re experiencing a sluggish economy, high unemployment, and a runaway debt. Are there any magical solutions? What about applying Albert Einstein’s “the most powerful force in the universe?” He once quipped that compound interest was just that.
The concept of compound interest is fairly straightforward. Put money in bank, for example, and let the money multiply and multiply. At a 10 percent interest rate, $100 becomes $110 in one year, $121 in two, and so on and so forth, becoming $10,670 in 50 years. That’s the power. If the person had withdrawn the yearly interest income of $10 each year, rather than let it sit in bank and multiply, then one would be left with just the original $100 in 50 years (though he would have consumed $500 over the 50 year period.) When a grandmother shouts “eureka” from the attic after digging up a very old stock or bond certificate with re-invested dividends or compound interests – she’s made a discovery of that most powerful force in the universe.
Higher Interest Rates Expected from End of Fed Bond Buying
Mortgage rates and other long-term interest rates are bound to rise measurably in the second half of this year, if not earlier. The Federal Reserve has been aggressive in buying U.S. government bonds as part of Quantitative Easing and has tried to hold down the long-term rates with Operation Twist. But both measures will soon be coming to an end. Furthermore, there will inevitably be a reversal of these policies at some point, which means the Federal Reserve will be selling back the bonds it had already purchased and sitting on the balance sheet, probably at the same time the U.S. government will continue to sell its bonds to cover the deficit spending. That means someone has to buy the flood of U.S. government bonds. If there is a lack of investors, then higher interest rates will be required to induce buyers to step forward. Higher offered interest rates also mean higher mortgage rates as well.
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