End of Fed Mortgage Buying Program Could Bump Interest Rates One Percent

September 21, 2009 No Comments »


If the Federal Reserve were to abruptly stop purchasing mortgage-backed securities (MBS) and agency housing debt, mortgage rates could climb a half to a full percentage point in a hurry, according to Peter Hooper, chief economist at Deutsche Bank Securities.

The program allows the Fed to purchase up to $1.25 trillion in MBS and $200 billion in agency debt by the end of this year; so far, it has purchased $862 billion and $125 billion, respectively.

However, come 2010, that could all come to a halt, putting upward pressure on mortgage rates that have played a huge role in fueling home buying and refinancing over the past year.

Assuming the Fed exits the mortgage market in January, the spread between yields on mortgage-backed debt and Treasuries will have to widen to attract more buyers, in turn raising interest rates for consumers (how are mortgage rates determined).

To soften the blow, tapering off purchases could have a “muted effect,” Hooper told Bloomberg, raising mortgage rates around a quarter of a percent.

Adding to the misery is the looming expiration of the first-time homebuyer tax credit, which has also aided flagging home sales.

The combination of these events could throw off a potential recovery, though with all the government intervention, it’s hard to tell if things have really improved at all.

You could easily argue that the manipulation of mortgage rates and the homebuyer tax credit have simply kept home prices inflated (to help builders), instead of allowing for a natural correction.

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