Fed intentions revealed. Here’s what they mean to youby Keith Gumbinger
The Federal Reserve kicked off its new strategy of clearer communications at the close of January’s Open Market Committee meeting last Wednesday afternoon. With just a few words, plus some charts (page 3), the Fed now expects to keep interest rates “extraordinarily low” for a period up to 18 months longer than the mid-2013 estimate previously in place. Also for the first time, the Fed officially revealed more explicitly that it will use an inflation target to help control monetary policy.
The Fed’s influence on mortgage rates
Armed with this news and with Fed Chairman Ben Bernanke commenting at his news conference afterward that a QE3 is certainly possible sometime this year, markets turned. Mortgage rates were rising somewhat in the early part of the week, goosed by warmer economic news, but reversed course to some degree.
If nothing else, it reinforces the idea that the Fed expects the economy to continue to experience sub-par growth which will require additional assistance, and that price pressures are low and will likely remain that way for some time.
Mortgage rates tick upward
HSH.com’s broad-market mortgage tracker–our weekly Fixed-Rate Mortgage Indicator (FRMI)–found that the overall average rate for 30-year fixed-rate mortgages (conforming, non-conforming and jumbo) rose by six basis points (.06 percent) from the week prior, climbing to an average 4.28 percent, closing January just shy of where it began.
The FRMI’s 15-year companion increased only two basis points (.02 percent) to finish the weekly survey at an average 3.55 percent. Important to homebuyers and low-equity-stake refinancers, FHA-backed 30-year mortgages rose by just a single hundredth of a percentage point to 3.87 percent, while the overall average for 5/1 Hybrid ARMs increased by two basis points to end the week at 3.06 percent.
QE3 will depend on the economy
Will the Fed start a new program of purchasing Treasuries and mortgage-backed securities? If the economy falters, that would be a consideration, especially given that this year is an election year and getting meaningful fiscal support from Congress is unlikely.
That said, the economy has generally been on an improving bent after suffering considerably early in 2011, with all kinds of weather-related interruptions capped off by the Japan disaster. After growing just 0.4 percent in the first quarter of 2011, the path for GDP has been an improving one, with 1.3 percent in the second quarter, 1.8 percent in the third and 2.8 percent in the fourth, according to the advanced report.
The present rate is solid enough, but insufficient to bring down unemployment very quickly, and with euro headwinds forming for 2012, the upward march of the economy might be disturbed, and the Fed would feel compelled to act. Should economic growth continue on even a modest upward trajectory, the Fed is more likely to hold off, since these programs don’t come without consequence of inflation or even more lasting market distortion.
Is the Fed really worried about inflation?
Mr. Bernanke mentioned that he would think it acceptable if inflation ran above the Fed’s 2 percent level for a time, if it was to promote stronger job growth. That’s fine, but we wonder how the market would react to a Fed who states a goal and then feels they can ignore it. Admittedly, that’s not much of a problem at the moment when inflation is easing, but should the reverse occur the market might not like it. Inflation is a monetary policy issue; if it runs hot, failing to control it can cause serious damage, and often worse trouble ensues when it must be corralled again.
Fed goal: Revive housing
The Fed’s commitment to a low interest rate policy (and possibly a QE3) is aimed squarely at reviving the housing market. Sales of new homes came in at an annualized rate of 307,000 in December, down by some 7,000 units from November. While it was the worst year for new home sales since records were kept (1963), we have been encouraged by both the stable pattern of sales and also that inventory levels are at record lows (157,000 units built and ready for sale, about 6.1 months worth at the present rate of absorption). With lows of 281,000 annualized units and highs of 316,000 annualized, we are closer to the top than the bottom of a weak range, so any increase in demand must be met with new construction.
The Fed’s dark assessment
The Fed’s assessment of the economy over the next few quarters is no doubt darker than the conditions we are experiencing. The effects of a slowdown in Europe have yet to be fully felt here, which may trim exports to a measurable degree, and the economy here is by no means firing on all cylinders and is less able to endure any kind of shock.
That being the case, of course the Fed would say that they stand ready to do more, but all the while, it’s a safe bet that they would rather not. The value of the Fed’s previous actions is not nil, but it is limited, as is the Fed’s ability to manage issues better done from the fiscal side rather than the monetary. That is to say, low interest rates are great for some things, but they only go so far.
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