For the 10th time this year the Federal Reserve
has lowered short-term interest rates.
The federal funds rate was reduced by 50 basis points to 2 percent.
This is the overnight lending rate charged to banks and the lowest
rate since September 1961, 40 years ago when John Kennedy was first at
the White House.
In response, several banks immediately reduced their "prime" rate to 5
percent, down from 5.5 percent.
The Fed expands and contracts the nation's money supply in an effort
to moderate both inflation and recession. By lowering rates, the Fed
creates incentives for companies to invest, expand and hire.
But while the Fed can change rates in minutes, the impact of such
changes is gradual. It takes time for discount-rate changes to filter
through the economy, months rather than weeks or days. Because the of
the time lag, the Fed seeks to anticipate national trends by changing
rates before the economy drifts into either an inflation or recession.
The problem, of course, is that we do not know with certainty just how
much inflation or how much recession to expect. The result is that the
Fed often makes a series of rate changes rather than a huge, lump-sum
reduction in an effort to fine-tune the economy.
In terms of the mortgage market, a downward rate change by the Fed may
mean something or nothing, depending on the type of loan you have.
- For those with adjustable home equity loans, especially if such
financing is pegged to a prime rate, a Fed reduction is likely to
result in lower interest costs.
- Adjustable-rate mortgages (ARMs) will likely have lower start
rates for new borrowers. Once past the first full-rate period, ARM
borrowers are likely to see rates drop.
- Those with fixed-rate loans will probably see no change, plus or
minus. Such mortgages have rates which are set at the beginning of the
loan and last throughout the mortgage term. This is good news when
rates are rising, but not so great when rates are falling. However,
the Fed rate change will likely have little impact on fixed-rates.
Why? Because mortgages are long-term debt instruments and the Fed move
effects short-term rates.
Mortgage interest levels have been attractive for months.
Today, says the National
Association of Home Builders, consumers can find 6.5 percent
fixed-rate mortgages and 5.25 percent ARMs.
"This significant drop in mortgage interest rates from last year's
peak of 8.5 percent," according to Bruce Smith, NAHB president and a
home builder from Walnut Creek, Calif. NAHB says the monthly principal
and interest on a $100,000, 30-year mortgage is $632, down $137 from
the $769 that home owners were paying in May of 2000 when mortgage
rates stood at 8.5 percent."
NAHB says it is forecasting a rebound in housing activity early next
year following about a 10 to 15 percent decline in housing production
during the fourth quarter of 2001.
Related Articles:
Should
Mortgage Borrowers Await Federal Reserve Rate Reductions?
NAHB
Predicts A Lackluster 2001
Fed
Interest Cut May Produce Mixed Mortgage Impact
Fed
Drops Key Rates In Aftermath Of Tragedy
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