Mortgage rates rise: Is Federal Reserve policy backfiring?
Mortgage rates are evidence that the Federal Reserve 'quantitative easing' plan is failing, say critics. The Fed bought $600 billion in Treasury bonds to exert downward pressure on interest rates and help spur the economy.
Home buyers suddenly have to pay more to get a mortgage loan. The US Treasury suddenly has to pay more when it borrows to finance the government.Skip to next paragraph
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This surge in interest rates raises a stark question about Federal Reserve policy: Is the Fed's latest effort to boost the economy helping or backfiring?
After all, just a few weeks ago economists were saying that, by launching a new program of buying US Treasury bonds, the Fed would exert downward pressure on interest rates and help spur the economy forward.
Instead, on Thursday Freddie Mac reported that the interest rate on a 30-year fixed mortgage averages 4.61 percent, a five-month high and up from 4.46 percent a week earlier. Keeping mortgage rates down is a key goal of the Fed, since rising borrowing costs make it harder for the housing market to recover.
Since October, interest rates on 10-year notes issued by the US Treasury have also soared, rising a full percentage point including a big spike this week. A rise of that speed and scale hasn't occurred since the immediate aftermath of the 2008 financial crisis.
Interest rates on corporate debts, which tend to follow Treasury trends, have also jumped.
All this doesn't prove that the Federal Reserve's policy called "quantitative easing" is failing. Many factors shape bond-market interest rates.
An improved economic outlook has made many investors more interested in owning stocks. In this situation, with fewer investors buying bonds, borrowers must pay a higher rate to obtain credit.
But to critics of the central bank, the Fed has some explaining to do.
At the very least, Fed policies have raised concerns about inflation in some quarters – which prompts lenders to demand higher interest rates to hedge the added risk to their money.
The Fed is already waging a public relations battle to defend its credibility. A new Bloomberg poll finds that more than half of Americans say the Fed should either be brought under tighter political control or abolished.
Those are harsh views of an institution that economists typically say should exist as a politically independent institution, tending the economy's money supply and acting as a bank for other banks during a crisis.
Currently, the Fed's mandate from Congress is to seek both full employment and stability in the general price of goods and services.
The Fed's latest campaign is designed with both goals in mind. The stated aim is both to boost growth (helping employment) and to head off the risk of deflation if the economic recovery were to falter.
Here's how "quantitative easing," a policy that the Fed began hinting at in September and launched in November, is supposed to work.
By buying about $600 billion more Treasury debt in coming months, the Fed expands the quantity of assets on its balance sheet. In turn, this could ease monetary conditions in the economy, as stronger demand for Treasuries pushes down interest rates on those and other bonds.
The move could also stimulate the economy in other ways. It could nudge private-sector investors away from bonds and toward riskier assets – stocks. (A rising stock market could help American consumers and businesses feel able to spend more.)
Although many economists support the idea, others have voiced deep concerns that the policy will fuel inflation and debase the foreign-exchange value of the dollar.
Critics argue that the risk of relapse into recession is low, so more easing isn't needed. They question whether it will work. And beyond that, they worry it will backfire by fanning inflation and making it harder for the Fed to develop an exit strategy from monetary stimulus.
The recent rise in interest rates appears to have accelerated this week, which may reflect the influence of a tax-cut deal forged by President Obama with Republicans.
That news could push up interests rates for a good reason (more optimism about the economy and stock market) or a bad reason (worry that rising government debt makes American bonds riskier).