Friday, February 19, 2010

A quick word about yesterday's 25 basis-point increase in the Federal Reserve Bank's discount rate.


In case you are wondering - the discount rate is the interest rate the Federal Reserve Bank charges member banks for short-term loans normally overnight but terms had been extended out 30-days during the height of the financial crisis. A fed funds transaction involves a bank lending funds they have on deposit at the Federal Reserve to another bank. The term of the transaction is limited to overnight and is designed specifically to enable the borrowing bank to meet its reserve requirements.


Before the credit crisis began in 2007, the discount rate was typically a full percentage point above the fed funds rate. Yesterday's decision by the Fed to move the discount rate back to its traditional premium over the fed funds rate certainly surprised mortgage market participants - and created some rather dramatic knee-jerk selling pressure in the mortgage market. But as the dust settles here -- the expectation is that calmer, cooler heads will prevail and the modest increase in the rate of interest the Federal Reserve Bank charges member banks for overnight loans will once again have an almost imperceptible influence on the rates investors charge for multi-year mortgage loans.



The Labor Department reported this morning that the Consumer Price Index rose a less than expected 0.2% in January, while prices excluding food and energy fell 0.1%, the first decline in this metric since 1982, supporting the Federal Reserve's contention it will keep its benchmark fed fund rate low for an "extended period" of time. The Fed's quarterly economic forecast contained in Wednesday's minutes of last month's Open Market Committee's meeting showed policymakers expect inflation pressures on the consumer level to remain muted through 2012.


Prices at the manufacturing level may increase but until the employment picture brightens considerably - final demand will remain so anemic that businesses will find it difficult it not impossible to push price increase through to the consumer - and that's good news for the probabilities that 30-year fixed-rate mortgages will remain below 6.0% this year.



Looking ahead to next week -- Uncle Sam's four-part $126 billion Treasury debt auctions together with Fed Chairman Ben Bernanke's semi-annual monetary policy "show-and-tell" before House and Senate committees on Wednesday and Thursday will easily trump the coming week's lineup of economic news that includes January New Home sales figures on Wednesday and Existing Home sale stats on Friday. The path-of-least-resistance for mortgage interest rates will likely favor steady to fractionally higher levels through the conclusion of the government's debt sales on Thursday afternoon at 1:00 p.m. ET