How Inflation Affects Mortgage Rates

If you’ve read about the housing market recently in the news, you may have seen talk about a decision made by the Federal Reserve (the Fed) to raise rates. But how does this decision affect you and your plans to buy a home? Here’s what you need to know.

The Fed is making a lot of effort to lower inflation. The most current data reveals that inflation is still above the Fed’s target of 2% despite cooling for 12 consecutive months (see graph below):

While you might have hoped the Fed would stop raising rates now that they are succeeding in lowering inflation, they don’t want to stop too soon for fear of inflation rising once again. As a result, the Fed made the decision to raise the Federal Funds Rate once more last week. According to Fed Chairman Jerome Powell:

“We remain committed to bringing inflation back to our 2 percent goal and to keeping longer-term inflation expectations well anchored.”

Greg McBride, Senior VP and Chief Financial Analyst at Bankrate, outlines how the Fed’s most recent decision is influenced by high inflation and a robust economy:

“Inflation remains stubbornly high. The economy has been remarkably resilient, the labor market is still robust, but that may be contributing to the stubbornly high inflation. So, Fed has to pump the brakes a bit more.”

A Federal Funds Rate increase by the Fed has an impact on mortgage rates even if it doesn’t directly determine them. According to a recent Fortune article:

“The federal funds rate is an interest rate that banks charge other banks when they lend one another money… When inflation is running high, the Fed will increase rates to increase the cost of borrowing and slow down the economy. When it’s too low, they’ll lower rates to stimulate the economy and get things moving again.”

SO HOW DOES THIS AFFECT YOU?

In the most straightforward sense, rising inflation corresponds to high mortgage rates. However, if the Fed is successful in reducing inflation, it can eventually result in lower mortgage rates, making it more feasible for you to purchase a home.

This graph, which shows that as inflation declines, mortgage rates often decline as well (see graph below), serves to highlight that point:

According to the statistics above, inflation (represented by the blue trend line) is gradually decreasing, and based on past patterns, mortgage rates (shown by the green trend line) are probably going to follow. Regarding the trajectory of mortgage rates, McBride states:

“With the backdrop of easing inflation pressures, we should see more consistent declines in mortgage rates as the year progresses, particularly if the economy and labor market slow noticeably.”

HERE’S THE BOTTON LINE

Inflation determines how mortgage rates change. Mortgage rates should decrease as inflation slows. For knowledgeable guidance on changes in the housing market and what they imply for you, rely on a real estate expert you can trust.