Where are interest rates headed?
By Scott Ramella - June 2000
If you have a mortgage, plan on buying a new car, or carry any balance at all on your credit card, it is good to have some idea of where interest rates are headed in the future. No single other factor can have as much impact on the buying and spending habits of the American consumer and businessman as the interest rates charged on all forms of loans.
We have recently enjoyed an extraordinary run of low interest rates. From the mortgage refi boom of 1992 until the 2nd quarter of 2000, there has never been such a sustained period of low rates in modern history. This is due in no small part to the healthy and continuing economic expansion and ballooning stock markets. The remarkable part of this excellent run of low rates is that we are currently proving many time held economic theories invalid. The model taught in economics classes is this. If the economy is strong, ratchet up interest rates to slow it down. If the economy is doing poorly, you should lower rates to encourage borrowing and spending. If this is how it's supposed to work, why have we had remarkably low rates during a great economy?
The simple explanation for this is worker productivity. With the advent of high technology and improved productivity, the U.S. economy has been able to keep "one upping" itself and increasing it's ability to produce goods and services before the shadow of price pressure and inflation are able to catch up and ruin the party. Every time we are told on the nightly news that the economic downturn is right around the corner, in roll the economic reports showing that our businesses and industry are as healthy as ever.
The question then becomes, when does it all end? Alan Greenspan and the Federal Reserve have made repeated attempts since the June of 1999 to increase borrowing rates and slow down the growth of GDP (gross domestic product, or the value of every good and service created in the U.S.) Up to this point, they have been unsuccessful, but it is only a matter of time before the rate increases eat into companies cash and start to slow expansion and new hiring. When will this happen and how will it affect rates? Compounding their problems, mortgage rates are not rising in proportion to the increases in the Discount rate, partly due to the U.S. government running a surplus and the Federal government actually buying and retiring billions of dollars in Treasury Bonds, which has the effect of lowering rates.
In my estimation, by the end of 2000, the feverish economic pace of the past few years will begin to slow and the Fed may actually then cut rates slightly in an attempt to create a "soft landing" for the economy. They will try to keep growth around 1.5-2.0% without the country slipping into a recession. The good news for people holding or seeking a mortgage is that mortgage rates may fall to all time lows as already low rates (at least historically) of 8.00-9.00% may actually fall to or below 6% on fixed mortgages. The combination of cutting by the Fed to reduce the chances of a recession together with the continuation in retirement of U.S. treasuries may create the biggest "refi boom" yet.
In Japan, they have such an abundant money supply that mortgage rates of between 1-2% have become the norm in recent years. While the financial sector in America will never allow rates here to drop that low, don't be surprised if sometime in the next 2 years you are able to obtain a fixed 15 or 30 year mortgage in the low to mid 5 percent range with very few if any points. This will allow people significant savings on their mortgage payments which increases disposable wealth. This effect will then help to push us into the next economic upcycle.
Scott Ramella (SRamella@aol.com) is a licensed mortgage broker for the State of Florida, has a bachelor's degree in Finance, and has been actively involved in the mortgage business since 1995 in several capacities.
**None of the opinions stated here are meant to be construed as the opinion, in whole or in part, of MortgageRatesUSA.com**