How the Fed Impacts Mortgage Rates

From RobChrisman.com:

With the Fed decisions to raise or lower rates, we’re commonly asked how the Fed moves impact mortgage rates. MCT offers an excellent primer that reminds us, “Many people believe the Federal Reserve, through the actions of the Federal Open Market Committee, has a direct impact on mortgage rates. It’s actually more so that speeches from Federal Reserve Committee members, announcements of what the Fed is doing, and its actions in the open market serve as useful predictors of future rate movement.

“Changes in the federal funds rate trigger a chain of events that affect other short-term interest rates, foreign exchange rates, long-term interest rates, the amount of money and credit, and a range of economic variables (e.g. employment, output, and the prices of goods and services). The fed funds rate affects short-term loans, such as credit card debt and adjustable-rate mortgages. Long-term rates for fixed-rate mortgages are generally not affected by changes in the federal funds rate but track the 10-year U.S. Treasury yield much more closely.”

Dennis C. Smith of Stratis Financial opines, “The Federal Reserve’s stated purpose is, “Conducting the nation’s monetary policy by influencing money and credit conditions in the economy in pursuit off full employment and stable prices. The Fed has several tools available to increase or decrease the amount of money in the economy. Full employment results in greater demand for goods and services, which puts upward pressure on prices, i.e. inflation. Less than full employment decreases overall purchasing power and ability. Lower demand leads to stable, or declining prices.

“Contrary to what many believe, the Federal Reserve only controls one interest rate, the federal funds rate (referred to often as the “benchmark rate”). This is the rate that banks lend money to each other, typically on an overnight basis. Mortgage rates are determined by investors who purchase mortgages as an investment. The mortgage market is generically known as MBS, or mortgage-backed-securities. Investors want to make a profit, their decisions to purchase or not purchase any investment is based upon their opinion as to what they think will happen in the future and if their investment will be worth more or less money. In the case of MBS, this includes what they feel interest rates will be, or should be, in the future. Part of their decision-making criteria is what they feel the Fed will do in regard to monetary policy, or what the Fed has announced it will do.”