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When Will Ben Bernanke Blink? Is the Federal Reserve’s Rate Raising Fight Against Inflation Going Too Far?
By:Sydney Jackson
There is a lot of speculation and debate among economists about whether the Federal Reserve will raise the Fed’s short term interest rate to 5% in their meeting on Wednesday. If they do, it will make 16 straight jumps of .25%, since it reached it’s low point of 1%. Most people seem to feel that statements by Fed Chairman Ben Bernanke have sent mixed signals about whether or not this meeting will be the time for a pause. Or, will they keep consistently raising rates through the rest of the year? No one at the Fed seems willing to commit to an answer. This is no surprise, considering the economy seems to be sending mixed signals as well, and although the risk seems small, some economists fear a pause in rate increases would trigger a rapid increase in inflation.
One problem with judging how far to go with a rate based battle against inflation is the fact that many economic indicators take months to show their full impact. Recent decreases in retail jobs, coupled with increases in manufacturing, apparently caused a sharp jump in the average hourly wage last month. This doesn’t appear to be an indication of true inflation, just a shift in the job market. The increase in oil prices only fueled a small inflationary spark, but as the fuel costs filter down through all manufacturing and transportation in the next 60 days, it could cause widespread price increases. Mr. Bernanke and the Fed have to judge whether its time to put on the brakes, but they can’t know for sure how fast they’re going.
Some economists blame the volatile changes in the Fed’s policy under Alan Greenspan from 1987 to 2006 for the inflation and recession that occurred, as well as the crash of the tech stocks, which caused huge losses in the stock market. During that time, the Fed’s policy changed 7 times in 19 years, going back and forth between raising and lowering rates. Several of these changes were quick and radical, and the effects, of course, were dramatic. From the crash in 1987, until 1990, the Fed raised rates as inflation picked up. Then from 1990 to 1991, they sharply cut rates during the recession. In 1994, Greenspan overreacted to a fear of inflation by raising rates, but the inflation fear was overblown, and never materialized. It did serve to create a very bear market on Wall Street, however. As a result, when rates gradually decreased, and more money was injected into the economy, a massive bubble developed in high tech, and the stock market in general, as an almost irrational exuberance caused both the Dow and the Nasdaq to soar to new levels.
When Greenspan reversed his position and decided to quickly increase rates and curtail liquidity in 2000, the stock market collapsed and entered a three-year bear market, with the Dow losing almost 50% of its value, and the Nasdaq over 70%. Later in 2000, Greenspan embarked on a program of reducing rates all the way down to 1%, which many consider an artificially low rate of interest. This was based on his fears of deflation leading to a recession, which never materialized. Since 2003, the Fed’s current policy of raising rates has continued unchecked.
One thing that is not receiving much attention in all of this is how these steady increases are effecting the bond market. During the time that artificially low interest rates ruled, Wall Street investors bid up mortgage REITs, and other interest-sensitive investments, to astronomically high levels. Now, under Alan Greenspan, and Benanke, the Fed has embarked on a campaign of raising rates every six weeks. As a result, the mortgage REITs, muni bonds, and other interest-sensitive investments have come down.
The inversion in the bond market has caused a change in mortgage interest rates that hasn’t been seen in over 20 years. Right now, fixed rate mortgages, which are traditionally much higher than adjustable rate mortgages (ARMs), are basically at the same interest rate, or lower. While this makes fixed rate home loans more attractive to both buyers and homeowners, in the long term it may prove to be a more expensive choice, if the rates on ARMs decrease. But the problem for many homeowners is that their current ARM, which was a great deal originally, is now costing them more every month. Even ARMs that are based on a traditionally stable index, such as the COSI (Cost of Savings Index, an average of what banks pay as savings account interest), have seen large increases in the last year.
"It’s a difficult situation to judge", said Karen Pooley, President of Star Mortgage, Inc., in Tampa, Florida, "but right now, I’m telling my clients with ARMs that their best bet is to ride out the current increases. In the past, ARMs have always outperformed fixed rate mortgages in the long run, but you have to be willing to live with the changes as they happen."
"One option I have used with a few people who were having real problems making the payment, and who had sufficient equity, is to refinance them with a fixed rate mortgage at about the same rate, plus get them some cash out." Ms. Pooley continued, "This allows them to skip a few payments, and gets them some extra cash on hand to help cover their new, slightly higher payment."
Even Alan Greenspan, in a speech early in 2004, had recommended ARMs as a better deal for homeowners, and said many could have saved thousands of dollars a year over the last decade, if they had one. But this was before the Fed’s constant increases had caused such a significant increase in the average rate on all mortgages, and especially on ARMs. One thing Ben Bernanke and the Federal Reserve should consider in their meeting this week, is how the constant increase in rates is effecting homeowners who took Alan Greenspan’s advice, and now have payments much higher than they expected. According to industry reports, foreclosures are on the rise, and that’s an economic indicator that may be telling Mr. Bernanke and the Fed that the time to pause in their rate hikes is actually past due.
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Article keywords: Ben Nernanke, Federal Reserve, mortgage rates, florida mortgage, mortgage broker, prime rate, ARM, fixed rate mortgage, adjustable rate mortgage
Article Source: http://www.articles2k.com
CONTACT INFORMATION: Jack S. Pooley, Star Mortgage, Inc. www.starmortgagebroker.com Call Us at 813.882.8878 or to email us-Click Here To access copies of your Credit Reports for Free Click Here
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