Saturday, January 3, 2009

Are Lower Interest Rates the Recession Cure?

Now that we know this recession started in Dec. 2007, what are the various tools to help us climb out of it? We can look at the stimulus packages already in the works, but immediate help may come from several proposals to lower interest rates that would stimulate real estate sales.

The Federal Reserve has agreed to use $500B to buy up all manner of debt and Mortgage Backed Securities from the GSEs, including Fannie Mae, Freddie Mac, and FHA/VA. This will in effect bring down the cost of new mortgages by relieving them of any questionable assets on their books. Just the announcement of this plan has already driven down conforming fixed rates one half percent in a week.

And the new Jumbo-conforming product with higher loan limits that takes effect in 2009 should give real estate a boost if rates remain as low, or lower than they are now. The 2009 jumbo-conforming 30-year fixed rate is currently quoted at 5.25 percent, for loans that will be funded in 2009.

And lastly, the Treasury is talking about buying down fixed rates to around 4.5 percent for home purchases, in order to reduce the huge inventory of unsold new and existing homes. This will give a boost to housing values, which is what lower interest rates tend to do. In fact, rates are still too high for most homeowners. Some 10 million homebuyers have negative equity in their homes and that total will continue to climb if values don’t stabilize, thus causing more foreclosures.

The latest housing price indicators are still falling. The Case-Shiller index said all three aggregate indices and 13 of the 20 metro areas are reporting new record rates of decline. Looking at the returns of the U.S. National Index, prices are back to where they were in early 2004. As of September 2008, the 10-City Composite is down 23.4 percent from its peak, the 20-City Composite is down 21.8 percent and the National Composite is down 21.0 percent.

But pending purchase contracts for existing homes have begun to level out. The National Association of Realtors’ Pending Home Sales Index, a forward-looking indicator based on contracts signed in October, slipped 0.7 percent to 88.9 from an upwardly revised reading of 89.5 in September, and is 1.0 percent below October 2007 when it was 89.8.

Lawrence Yun, NAR chief economist, said a review of the past year is instructive. “Despite the turmoil in the economy, the overall level of pending home sales has been remarkably stable over the past year, holding in a generally narrow range,” he said. “We did see a spike in August when mortgage conditions temporarily improved, which underscores two things – there is a pent-up demand, and access to safe, affordable mortgages will bring more buyers into the market.”

There is no question that any further drop in interest rates will continue to help home sales and prices. The NAR’s Affordability Index has continued to climb and is up a whopping 34 percent from 2006, at the height of the housing boom. This is both due to the lower interest rates, and the fact that the national median existing-home price has fallen 18 percent since 2006.

© Harlan Green 2008

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