Ask Adam: Will Interest Rates Stay Low?

This regularly-scheduled sponsored Q&A column is written by Adam Gallegos of Arlington-based real estate firm Arbour Realty, voted one of Arlington Magazine’s Best Realtors of 2013 & 2014. Please submit your questions via email.

Q. We are looking at homes that will require us to obtain a jumbo loan. We’ve been pleasantly surprised by how low interest rates still are. Do you expect that to continue through the summer and possibly the rest of this year?

A. The short answer to your question, and good news,  is “yes” — rates are expected to remain low through the summer and perhaps even into parts of 2015. This is true for FHA, V.A., Conventional, as well as Jumbo loans.

To get to the “why” that these rates are expected to remain low, let me digress to a bit of recent history and then come back to expectations for the future. Months ago, rates were extremely low because the Federal Reserve was directly subsidizing interest rates (i.e. keeping them lower than rates would have been without the subsidy). Over the past months, the Fed has begun to eliminate this subsidy program, and rates were expected to rise to 5 percent or higher once this occurred. However, over the past few months, when the subsidy phase out actually did begin to occur, rates remained relatively constant, and even decreased a small bit. Experts scratched their heads.

While the Fed did phase out it’s direct subsidy of interest rates, the Fed also decided to keep what is called “short term borrowing” rates very low. Keeping short term rates low is a traditional manner that the Fed has used throughout history to keep overall borrowing rates low, and the Fed does this when they feel an overall lower cost of borrowing is the best way to assist a fragile economy to continue to recover.

Interestingly enough, the elimination of the rate subsidy by the Fed was not an indication that the Fed thought the economy was strong and that rates should increase. The Fed still believes that low rates are needed to help economic recovery, but they felt that the rate subsidy program was no longer necessary to achieve this goal. Most thought the subsidy would be eliminated because the Fed was OK with higher interest rates, but in reality, the Fed still believes and wants to maintain lower interest rates, but is doing this in a manner now where the rate subsidy is no longer necessary.

It is expected that the economy will not significantly recover at least until early 2015, and since the Fed has stated that they prefer lower interest rates until there are signs of economic recovery, the most likely expectation is that rates will remain low through that period, which is very good news for homebuyers this summer. 

Of note, the primary statistic that the Fed is focusing on is inflation, so watch the news for indications of higher inflation, as this is most likely the best indicator that rates will begin to increase. Based on the early 1970s, most agree that very high inflation is very bad. What is interesting is that actually very low inflation is less than ideal, as well. There are books written on this topic, but it’s sufficient to share here that healthy/ideal economies tend to grow at 2-3 percent per year and inflation that is either lower or higher than this target is a symptom that the economy is not doing as well as it could.

Currently, the US.. inflation rate is below 2 percent, which is another indicator that the economy has yet to fully recover and, if certain unfavorable events occurred (high mortgage rates would be one of these), the economy could actually get worse. Hence, one should expect to see the Fed allow rates to increase when and only when inflation appears to be heading toward the 2-3 percent range.

While this will be very good news for the overall United States economy, it will also be a time where mortgage interest rates move away from the historic lows that we have enjoyed for quite some time.

The response to this week’s question was provided by Paul Nagel of First Home Mortgage. The views and opinions expressed in the column are those of the author and do not necessarily reflect the views of ARLnow.com.