It’s been on the news a few times lately, so let’s address a key misconception about the Fed and its relationship to mortgage rates.
The markets now anticipate that the Fed will lower the Fed Funds Rate within the next 45 days. As a mortgage rate shopper, there’s not much reason to be interested. That’s because the Fed Funds Rate is not directly tied to mortgage rates.
The chart above is courtesy of HSH Associates and shows how the Fed Funds Rate has moved in relation to mortgage rates since June of 2004. If there was a connection between the two, mortgage rates would have moved higher along with the FFR (brown) line.
The FFR is important because it’s used as a throttle for the economy. The higher the rate, the harder is it to borrow money and/or finance “stuff”, and so, therefore, the lower the throttle. When the FFR is lowered, it signals that the economy is slowing down too fast for the Fed and a little bit more “gas” is needed.
Economists are fearful right now that credit market turmoil will rapidly decelerate the U.S. economy and that is why they are calling for the Fed to lower the Fed Funds Rate. A lower FFR could add some life to business and consumer spending and that is what propels our economy forward, of course.
Whether the Fed does, or whether the Fed doesn’t, expect mortgage rates to remain relatively stable regardless. Interest rates on mortgages are set by the demand for mortgage-backed securities, not by the Fed Funds Rate.
