As my clients know, I am fond of reminding anyone in earshot how abysmally wrong the conventional consensus has been in predicting interest rates over the last twenty-five years. There has always been a bias toward inflation in the prognostications of most experts. Everyone has been looking in the rear-view mirror to the 1970s. As we know, driving a car on a busy road while looking only in the rear-view mirror has a predictable result.
There is a commonly held belief that when the Federal Reserve increases the federal funds rate, as they did in December, mortgages will follow in lock-step. While this has often been true in the past, it will not be true in the current economic climate. I have never wavered in my view that mortgage interest rates are going to continue to drop, and I believe that now more than ever.
There are several reasons why you can expect lower mortgage rates this year. The world economy has entered a period of deflation after decades of expansion due to: increased productivity and efficiency driven by advances in technology and the ubiquity of the internet; developing nations, especially China and India, integrating more fully into the world economy; and, most important, the willingness of the world’s financiers, led by Wall Street, in promoting credit growth at every level of the economy and in every area of the world.
Now, all three of these past drivers of economic growth are driving deflation. The increase in efficiency and technology brought by technology keeps lowering the costs of manufacturing and shipping. The developing nations, especially China, overbuilt in almost every area – manufacturing, industrial, housing, commercial property. Now, as worldwide growth slows, over-capacity is leading to continued price-cutting. Most important is the credit situation. The developed world’s consumers are simply either maxed out on credit or not interested in having any more debt. Deleveraging is the new buzzword.
The final piece of the puzzle is the strength of the US dollar. The Fed’s apparent determination to raise the federal fund’s rate in the face of a worldwide economic slowdown makes the dollar, and US assets in general, desirable to own. The safest way to own dollars is in the form of government securities. It is the interest rate on these debt instruments – not what the Fed does with the federal funds rate – that drives mortgage rates. When there is strong international demand for US government debt, interest rates on government bonds, and on mortgages, will drop.
There are other factors that make me feel increasingly confident that we will see all-time lows in mortgage rates in the next 18 months. The world economy on the brink of recession, cratering oil prices, and growing trade tensions, are all deflation drivers. For homeowners these dark clouds on the economic horizon may have one silver lining – refinancing that home mortgage and lowering the monthly payment.