Mortgage and Fed Rates Remain Firm

May 11, 2007 -- Stumbly economic times continue, and mortgage rates wander aimlessly. The average 30-year fixed rate mortgage (FRM) failed to move at all, ending the nation's leading survey of mortgage prices at 6.35%. For the week, Hybrid 5/1 ARMs ticked one basis point higher, to 6.14%, but mortgage rates have largely been treading water the past few weeks as the markets, and everyone else, seeks clarity about the direction of economic growth and inflation.

Perhaps the economic highlight of the week was the latest meeting by the Federal Reserve Open Market Committee. There was little expectation that any change in short-term interest rates would come, and none did. Some wondered whether the Fed might again make a meaningful change to its assessments of present economic conditions and the risks for inflation. Largely, though, the press release which followed the meeting was the same as the March release, in which the Fed noted that inflation risks were uppermost in their collective minds. The Fed did note that economic growth had slowed early this year, but didn't suggest that this caused any material change in their stance.

Slow growth should ultimately produce resource slack, particularly a loosening in tight labor markets, and the fall in demand should serve to trim inflation. So far, that hasn't occurred, despite sub-par (and lately, decelerating) growth for nearly a year.

The Fed's concern about inflation isn't unfounded by any means. Prices of imported goods rose by 1.3% during April, and that came on the heels of a 1.1% lift in March. Those increases were mostly the result of rising petroleum prices, but excluding them still left a 0.2% increase; 'core' import prices have risen by 2.9% over the past year. The recently weak dollar may exacerbate these increases somewhat. The aggregate value of goods destined for export rose by 0.3% for the month and now by 4.9% for the year.

The expansion of oil and gas costs served to expand the nation's imbalance of trade expanded to $63.9 billion during March. Exports increased but imports increased more, and costly oil largely fueled the $6 billion widening of the gap between them.

Price pressures were evident in the Producer Price Index, too. The PPI for April rose by 0.7% and is now 3.2% higher than a year ago. However, the so-called 'core' PPI, which excludes the most volatile components such as energy costs, failed to increase for the second month in a row. This prompted some renewed speculation that the Fed might be more likely to cut rates sooner, but there are considerable unrealized price pressures in earlier forms of production which may or may not be fully passed through in the months ahead. Until inflation at all levels is in full retreat, it remains unlikely that the Fed will feel compelled to trim interest rates.

Part of the falloff in economic activity occurred because inventory levels of goods had been accumulating faster than they could be sold off, causing a slowdown in manufacturing. The process of working through those stockpiles continues, and in March, inventory levels at wholesalers rose by a less-than-expected 0.3%, while the measurement of goods-on-hand relative to sales shrank a little. On a wider scale, the collective measurement of business inventories for March at retailers, wholesalers and manufacturers showed an overall decline of 0.1%, and in general, the steady reduction of goods on hand suggests that manufacturing production should begin to move higher in the months ahead.

One fly in the economic ointment may be weak Retail Sales. During April, the total value of goods and services sold fell by 0.2%. A meager 0.3% increase was expected, but that forecast had been largely knocked down by early-week reports from major retailers detailing poor April showings at stores open at least a year. March's Retail Sales figure was revised higher to a rise of 1%, and as Easter was early this year (and lousy weather was the early-April rule around the country) it was no surprise that April put in a weak showing. Averaging the two months together left a less-bleak picture, though, and May will probably recover somewhat.

That should be the case if consumers continue to borrow and spend. In March, consumer borrowing expanded by $13.5 billion, about triple expectations. Spending on plastic rose nearly 10%, while installment credit rose over 5% for the month. There have been discussions and concerns that a significant slowdown in spending may occur due to falling home prices keeping homeowners from tapping equity, but that doesn't mean that there aren't other (albeit more expensive) ways to borrow money quickly and easily.

While the Fed is hoping for some loosening on the labor front, it seems like it may have to happen from weaker hiring instead of stronger firing. Weekly claims for new unemployment benefits have been shrinking in recent weeks, and the 297,000 new applications filed in the week of May 5th was the smallest number since January. Unemployment claims have now been falling for four weeks. The lack of pink slips may have contributed to an improvement in the Consumer Comfort figure from ABC News and the Washington Post. That number rose to -3, the best showing since late March.

For the most part, there hasn't been anything to move mortgage rates out of their recent ranges -- not inflation potential, not meager economic growth, not even the fallover in subprime credit markets. Something will, eventually, but at the moment the opposing forces of weak economic growth and moderate-but-firm inflation pressure are keeping rates stable, like a piece of steel between two magnets. We'll be watching a mixed bag of data next week, including reports from the National Association of Home Builders and those for Housing Starts (which will probably continue to reveal softness, although to an unknown degree). There are also reports covering manufacturing in regional surveys from the New York and Philadelphia Fed, and, coupled with readings for Industrial Production, may show that manufacturing is recovering. The Consumer Price Index for April is also due, as well as measurements of consumer sentiment and a forward-looking index.

We'd expects some to be weaker, some to be a little stronger, and for the most part, the magnets will remain in roughly the same position, as will mortgage rates.

If you haven't been following the trouble in subprime mortgage lending but wonder where it came from and where it may go, you should consider reading "Is a Credit Crunch Coming to the Mortgage Market?", our latest discussion piece.

For more pithy commentary, see our latest two-month forecast.

Did you ever actually read your mortgage docs? Yes? No? Which ones? Tell us about it!

Read a discussion of the results of our last survey question: "Did you actually read the documents provided to you both before and after you got your mortgage?". The results may surprise you!