Interest Rates Have Nowhere to Go but Up
04/12/2010 – 11:46 pmEven as prospects for the American economy brighten, consumers are about to face a new financial burden: a sustained period of rising interest rates.
That, economists say, is the inevitable outcome of the nation’s ballooning debt and the renewed prospect of inflation as the economy recovers from the depths of the recent recession.
The shift is sure to come as a shock to consumers whose spending habits were shaped by a historic 30-year decline in the cost of borrowing.
“Americans have assumed the roller coaster goes one way,” said Bill Gross, whose investment firm, Pimco, has taken part in a broad sell-off of government debt, which has pushed up interest rates. “It’s been a great thrill as rates descended, but now we face an extended climb.”
The impact of higher rates is likely to be felt first in the housing market, which has only recently begun to rebound from a deep slump. The rate for a 30-year fixed rate mortgage has risen half a point since December, hitting 5.31 last week, the highest level since last summer.
Along with the sell-off in bonds, the Federal Reserve has halted its emergency $1.25 trillion program to buy mortgage debt, placing even more upward pressure on rates. The 30-year fixed rate before the Federal Reserve bailout plan was 6%. When the government bailout plan went into effect, consumers saw interest rates fall to historical lows below 4%. Experts believe the end of the bailout plan on March 31 will spark a rise in mortgage interest rates back to levels before the bailout plan went into effect.
Each increase of 1 percentage point in rates adds as much as 19 percent to the total cost of a home, according to Christopher J. Mayer, a professor of finance and economics at Columbia Business School.
The Mortgage Bankers Association expects the rise to continue, with the 30-year mortgage rate going to 5.5 percent by late summer and as high as 6 percent by the end of the year.
“We’ve gotten spoiled by the idea that interest rates will stay in the low single-digits forever,” said Jim Caron, an interest rate strategist with Morgan Stanley. “We’ve also had a generation of consumers and investors get used to low rates.”
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For young home buyers today considering 30-year mortgages with a rate of just over 5 percent, it might be hard to conceive of a time like October 1981, when mortgage rates peaked at 18.2 percent. That meant monthly payments of $1,523 then compared with $556 now for a $100,000 loan.
No one expects rates to return to anything resembling 1981 levels. Still, for much of Wall Street, the question is not whether rates will go up, but rather by how much.
Some firms, like Morgan Stanley, are predicting that rates could rise by a percentage point and a half by the end of the year. Others, like JPMorgan Chase are forecasting a more modest half-point jump.
But the consensus is clear, according to Terrence M. Belton, global head of fixed-income strategy for J. P. Morgan Securities. “Everyone knows that rates will eventually go higher,” he said.
Source: New York Times
