Recessions and Mortgage Rates
When Recessions Loom, Interest Rates Decline
Recessions generally have a negative effect on the economy. New homebuyers, however, should welcome recessions because they normally lead to a drop in mortgage rates.
Recession has become the new buzz word of the media over the last few weeks. With mortgage write-downs hurting lenders and shutting many consumers out of the mortgage process, it stands to reason that an economic recession will have some effect on mortgage rates.
A Recession Defined
A recession is defined as a decline in a country’s Gross Domestic Product (GDP) for two or more successive quarters. In laymen terms, a recession is a slowdown in the growth of an economy. This can be felt by consumers in an increase in the unemployment rates, usually coupled with less spending by consumers and/or businesses. The tricky thing about recessions is that a period can only be called a recession after the fact. Additionally, once it has been established that the economy is in a recession, it takes two quarters (six months) to determine when the economy is out.
Mortgage Rates and Recessions
Depending on the leading cause of the recession, mortgage rates will have a variety of reactions. In the case of today’s economy, real estate prices and their subsequent decline seem to be leaving a hole in consumer’s pockets. This has led to lower spending and the potential for a recession. In conjunction with housing prices declining, lending institutions have begun to tighten their lending standards. While this may not result directly in higher rates, it does limit the access to financing. These two factors acting together would certainly be enough to cause a recession.
The wildcard in this process is the Federal Reserve. They set the Fed Funds Rate target and generally control the money supply. Recently the Fed aggressively lowered their rate and indicated they would continue to lower rates. This is the typical reaction during a recession and will lead to lower mortgage rates. During recessions the government does its best to get people and businesses access to capital cheaply. The only time this becomes problematic is when a recession is coupled with inflation. This makes it almost impossible (and certainly unwise) to lower interest rates.
Inflation Fears and Possibilities
Currently inflation expectations are moderate, though some certainly argue they could increase as the Federal Reserve continues to lower rates. People interested in pursuing mortgages should watch out for this because inflation will inevitably lead to higher rates. During inflationary times the government seeks to restrain capital flow, resulting in higher mortgage interest rates. Without inflation, however, consumers should expect an impending recession to bring lower mortgage rates.
