Wednesday, December 17, 2008

Implications Of The Latest, Last Fed Rate Cut

In terms of stimulating the economy through rate cuts, the Fed is now officially out of bullets. Yesterday's bold move to cut the fed funds rate from 1% to a target of 0%-0.25%, means that strategy is tapped. The implications of the cut are somewhat minimal. The prime rate drops to 3.5% which helps people who have borrowing tied to that rate, but it does not have a direct impact on mortgage rates (at least like it used to).

Not all hope is lost however, as the Fed has plenty of other weapons at it's disposal. Most significantly to the real estate market is the Fed's willingness to buy mortgage backed securities, which, in turn, drives down mortgage rates. The effects are already being seen as rates have dropped significantly in the past few weeks. The Fed made clear in it's statement yesterday that it will continue to buy up these securities, which should, at least in the short term, continue to drive mortgage rates lower. Just in the past few days, 30 year conventional mortgages have been quoted as low as just under 5%. This is a huge plus to the real estate market, as those able to refinance are less likely to lose their homes, impacting supply, and those that are looking for homes have significantly lower prices (nationally) and homes have become significantly more affordable. The Fed has learned a fair amount about what not to do when rates are at 0%. They have the Japanese to thank as a case study.

Between the fed aggressive intervention, low mortgage rates, and well constructed Obama stimulus plan (that should amount to something along the lines of 5% of GDP), there is a glimmer of hope that we may actually have a return to economic growth by the time 2009 has come to a close.

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