For the first time in three years, Federal Reserve officials signaled interest rate hikes are coming soon with the first increase expected in March. So, what does this mean for homeowners and prospective buyers? Let’s take a closer look. 

How does the Federal Reserve affect mortgages? 

The Federal Reserve (the Fed) is the central banking system of the U.S. that executes national monetary policy through supervision and regulation of banks. The Fed is charged with three key objectives — maximizing employment, stabilizing prices, and moderating long-term interest rates. 

Bryan Clark, senior vice president of mortgage banking with Dart Bank, says it’s important to understand that the Fed itself does not set mortgage rates, but it does create the policies that affect them indirectly.

“The Fed sets the overall tone for the direction of mortgage interest rates,” he explained. 

When the Fed increases the federal funds rate, banks in turn pass on the higher costs to their customers. Interest rates on consumer borrowing then tend to go up. And as short-term rates increase, long-term rates typically follow suit.  

Why are interest rates increasing? 

Inflation, which hit 7% in early January, and the Fed’s tightening monetary policies are driving rates higher, and the increases are expected to continue throughout 2022. So far, Federal Reserve officials have indicated they expect to raise interest rates three times in 2022, with increases expected in March, June, and September. 

One year ago, mortgage rates reached the latest record low in their history. The National Association of REALTORS® reported that in the first week of 2021, the 30-year fixed mortgage rate was 2.65%. The association says, “Since then, despite the effects of the Delta and Omicron variants, the job market added more than 6 million jobs, the economy is expanding, and the housing market continues to outperform.” As a result, in the first week of 2022, “the 30-year fixed mortgage rate jumped to 3.22%, nearly 60 basis points higher than a year earlier.”

“The general consensus is that rates will likely rise to around 4% by the end of the year,” said Clark. “I can remember years ago when rates were around 9%, so 4% is still low by historical standards and it’s still an attractive rate for those looking to purchase.” 

What does this mean for the housing market? 

The question on every buyer’s mind is: Will higher rates lead to lower home prices? 

Before you assume an increased interest rate will price you out of the market, it’s important to put things into perspective. Clark says that small mortgage rate increases over time will likely have a “minimal effect” on most borrowers’ buying power. 

For example, on a $200,000, 30-year fixed mortgage, a .25% increase in interest rate would potentially translate to an additional $25 on the monthly payment, depending on the borrowers’ financial profile.  

However, this is a simplified breakdown and Clark says homebuyers should first meet with a lender because there are many factors that play into an individual’s interest rate. 

“While the overall level of mortgage rates is determined by market forces, like inflation, the economy, the Fed, etc., your individual interest rate is also determined by factors like credit score, debt-to-income ratio, the type of property you are purchasing and how you are using it, etc.,” he said. “What’s important for homebuyers and homeowners isn’t just where rates are headed, but also whether or not a refinance or purchase is the right financial move for their specific situation.” 

For a list of trusted lenders who can help you with your next transaction, visit the Greater Lansing Association of REALTORS® website at www.lansing-realestate.com.