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Fixing the financial crisis has only just begun, and it has a long, long way to go...probably well into 2010 would be my guess. When you see interest rates start moving back up it will be a good indicator that the bottom was (past tense) seen at least a quarter prior to the increase in rates.
During the huge increase we have seen in housing prices over the past years interest rates (consumer credit if you will) "should have" moved up to 10%-15% or higher to find an equilibrium for [house] values versus the cost of consumer credit to buy [houses], however our friendly (and very stupid) government kept rates artificially way too low, which prevented equilibrium being sought. Therefore we had runaway [housing] values because consumer credit was too cheap. If the Fed goes back to using sound economic principles (what is correct and proven to work in the past) in the future this won't happen in the foreseeable future again. In the meantime [house] values will continue to decrease until they find a value level where they "should have been" if the Fed had done it correctly in the first place.
Basically, housing starts is one of the leading economic indicators. A higher-than-expected increase in housing starts triggers economic growth and is considered inflationary, causing bond prices to fall and yields and interest rates to rise. Likewise, decline or declining trend in housing activity slows the economy and can push it into a recession, causing yields and interest rates to fall. That said, when housing starts were very high the value of houses continued to increase, but instead of interest rates rising to offset inflation they remained [artificially] too low. Throw in a heavy dose of easy credit and 100% financing along with a Fed mandate (thanks to Barney Frank and his many Dem buddies) to easily put high-risk people in houses (many of which couldn't even afford to own a house) and it was just a matter of time before everything fell apart and came tumbling down. That is exactly what must continue to happen (house values tumbling down) and finding a level of true value before things can ever get turned around and start operating correctly.
If the Fed uses smoke and mirrors to keep house values propped up higher than what they really should be, they have not corrected the situation...and we will face yet another implosion sooner rather than later.
Look at the last two graphs/charts -- note that the 30 year fixed non-jumbo (that is, the cheapest possible mortgage) approached 15% interest rate in the late 1970s through the mid-1980s. I think the mortgage rate will soon get back to 10-15% (instead of 5-7% like the last six years). As an aside, homes became so expensive over the last few years as any purchaser could borrow cheaply -- too much cash chasing the same number of homes created excessive appreciation. As the mortgage rates go back to 10-15% (the real fair market value taking into account the risk of lending for the purchase of a home and the chance of inflation), that will, of course, drive down the cost of homes as fewer buyers can afford to spend (borrow) as much. And of course, non-government backed jumbo mortgages will be priced several percentage points higher (even more lending risk, more inflation risk, not sellable to the government, not government backed) meaning there will be even more contraction in the upper end homes.
The figure that matters to most people, of course, is the financing-affected cost of a house. You are not just paying the cost of the house, but the cost of the house plus the cost of the financing to purchase the house. If the price of the house goes down (good) but the price of the financing goes up even more (bad), then the financing-affected cost of the house is actually worse. Your goal (like a private equity shopper looking for the next company to buy with 80% borrowed money) is to find the bottom of the market, taking into account both house prices and mortgage rates.
To put it in simple terms - if house values are too high then interest rates should move higher (causing people not to be able to afford and buy houses) which brings the values back down and in-line with where they should be. Likewise, if house values are too low then interest rates should move lower (creating higher demand for people to be able to afford and buy houses) which causes house values to rise. The optimum is when equilibrium is reached and maintained in a narrow window.
Mortgage rates are set by supply and demand. There is not much demand for 5-6% mortgages now , nor do lenders feel real good about lending out their supply funds. While they might be feel better if they could get a higher interest rate there will be even less demand for higher rate mortgages.
Simple.
Consumers won't setup demand until they feel that housing might appreciate in value.
Lenders won't increase supply until they feel risks are better.
If you don't lower the interest rates and increase debt perpetually you end up with a depression. If you hold to high rates then the depression happens sooner. The game is reset when there is little or no public equity, like the Depression. This means people have nothing. As some acquire assets again through labor many begin to secure loans again which will grow the money supply which will drive up prices allowing one to secure more debt and so on until it bursts and the assets are harvested again.
In this system anything that does not cause the money supply to increase about 3-5 percent per year is not sustainable since the money supply = principle and what is owed to banks is principle + interest. Anyone who says the rate should be any particular value while using debt as money is just not privy to the system. It does not matter what it is. Depressions , confiscations and oppression is inevitable at any rate.
People also forget that lower home values mean lower property taxes which will help stimulate the economy. Property taxes go to support bloated local governments and are a cost that prevents anyone but the government from owning a home. So those who pay 300,000 for a house around here pay 6,000.00 a year just in property taxes. The same home being worth less than 100,000 cuts that waste drastically. Instead of flushing money down the municipal toilet, it can go back into the economy. Land values can never be too low in my opinion.
Will this next "wave" be eased by any of the government bailouts to help homeowners?
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