Federal Reserve Interest Rate Cut Might Not Affect Mortgages
December 16 2008 - The Federal Reserve took unprecedented steps Tuesday to bolster the crumbling economy that could ease interest rates on credit cards and other short-term loans but might have little impact on the mortgage market that ignited the crisis.
In a surprise move, the central bank dropped its benchmark rate from 1 percent to between 0 and 0.25 percent, a record low and well beyond the half-point cut that had been anticipated. It’s the first time the Fed has used a range instead of a specific percentage.
The Fed’s move was greeted enthusiastically by Wall Street. The Dow Jones Industrial Average finished the day up nearly 360 points, a gain of more than 4 percent.
The overnight rate typically establishes the price at which banks loan money to one another and the “prime” rate they charge their best customers. In a plus for consumers, the change could quickly reduce rates on millions of credit cards, car loans, home equity lines of credit and adjustable-rate mortgages tied to prime.
Most banks, including San Francisco’s Wells Fargo & Co., immediately cut their prime rate to 3.25 percent from 4 percent. The last time it was that low was in 1955, according to data from the Federal Reserve Bank of St. Louis. On the downside, the change could reduce returns from savings accounts and certificates of deposits.
During normal economic times, the benchmark rate also can sway fixed-rate mortgages. But skyrocketing foreclosures and a deepening recession have made these anything but normal times. Banks are reluctant to lend to all but the most qualified borrowers ready with hefty down payments. When financial companies do lend, they’re requiring a greater than normal spread above the bond prices that typically set the rates for housing loans, reflecting higher-than-normal perceived risks.
The critical challenge isn’t pushing mortgage rates lower but is getting banks to hand out money more readily, said Ken Rosen, chairman of the Fisher Center for Real Estate and Urban Economics at UC Berkeley.
He and other economists believe the more important part of the announcement on Tuesday was that the central bank will reach beyond its usual arsenal and expand upon previously announced programs.
“The Federal Reserve will employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability,” the board of governors said in a prepared statement.
The Fed said it is weighing purchasing longer-term Treasury securities, facilitating the flow of credit to households and small businesses and could expand on its plan to buy “large quantities” of debt and mortgage-backed securities to support the housing market.
“Eventually the other efforts will make mortgages more available, if they do it correctly,” Rosen said.
The central bank announced last month that it planned to buy up to a half trillion dollars worth of mortgage-backed securities and $100 billion in debt from government-controlled mortgage giants Fannie Mae and Freddie Mac.
Those moves have already helped push down home loan rates. Average 30-year mortgages for qualified borrowers with 20 percent down are between 5 percent and 5.5 percent, around three quarters of a point lower than at the beginning of last month, said Stanley Tseng, owner of Santa Clara mortgage brokerage firm Nova Financial Services.
The expansion of these efforts may push rates down further still, said Esmael Adibi, director of the Anderson Center for Economic Research at Chapman University in Orange.
“Basically, they’re giving a comfort zone to financial institutions, saying, ‘don’t be afraid to buy those mortgages, we’ll buy those bonds,’ ” he said.
The Treasury Department is reportedly weighing a plan to push the 30-year mortgages down to 4.5 percent and James Lockhart, director of the agency that oversees Fannie and Freddie, predicted last week that government efforts could propel them “well below 4 percent.”
The news of the Treasury plan, however, had the unintended affect of slowing borrowing as consumers decided to delay purchases or refinancings until they could secure that promised rate.
“Consumers got crazy, everyone was asking, where can I get that 4.5 percent?” Tseng said. “But actually, it doesn’t exist.”
In addition to having little impact on mortgage rates, cutting the benchmark rate to nearly zero could have several negative consequences, Rosen said. Taking such a drastic step exacerbates the fear already in the marketplace, discourages savings and money market investments, and makes it harder for banks to attract deposits, he said.
On the other hand, Stephen Levy, senior economist at the Center for Continuing Study of the California Economy in Palo Alto, said he believes the moves send a important message to the markets.
“They’re underlining there are a lot of other ways beside their traditional interest rate policy that they can intervene and that they’re going to do that,” he said.
The Federal Reserve took historic steps to save the sinking economy on Tuesday. Among other things, it said it would:
– lower its benchmark interest rate from 1 percent to a range between 0 percent and 0.25 percent, a record low;
– pursue and possibly expand its plans to buy “large quantities” of debt and mortgage-backed securities to support the mortgage and housing markets
– facilitate the flow of credit to households and small businesses;
– weigh purchasing longer-term Treasury securities;
– consider additional ways of using its balance sheet to support credit markets and economic activity.
Fed cut might have little impact on mortgage rates
by James Temple | San Francisco Chronicle
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