The Fed's Shift in Policy: The Mortgage Industry Is Poised for a Hit from Higher Interest Rates in 2005. Here's Some Insight into the Fed's Thinking as It Reacts to Economic News and Positions Itself to Move Rates Higher in the Months Ahead

By England, Robert Stowe | Mortgage Banking, October 2004 | Go to article overview

The Fed's Shift in Policy: The Mortgage Industry Is Poised for a Hit from Higher Interest Rates in 2005. Here's Some Insight into the Fed's Thinking as It Reacts to Economic News and Positions Itself to Move Rates Higher in the Months Ahead


England, Robert Stowe, Mortgage Banking


THE FEDERAL OPEN MARKET COMMITTEE (FOMC), the arm of the Federal Reserve that sets interest rate policy, earlier this spring set a new course to restore the central bank's monetary policy stance to neutrality. For four years, it has pursued a policy of accommodation in the face of a series of threats to the economy: recession; rising unemployment; 9/11 and its economic aftermath; corporate accounting scandals of 2002 with their market fallout; and worries about deflation in 2003.

With the economy showing signs of inflation since early this year, fears the Fed held previously that prices might fall (deflation) were largely dispelled. Throw in a strengthening economy, rising profits and significant improvements in the number of new payroll jobs, and the FOMC found by its May 4 meeting that conditions suggest it is time to change the course of monetary policy.

In its characteristically brief style, the FOMC stated after its May meeting that it "believes that policy accommodation can be removed at a pace that is likely to be measured."

The key question for Fed watchers and mortgage bankers is how will the FOMC go about charting its course and, in turn, how will that affect interest rates, the mortgage market and the economy? More specifically, what is meant by "measured," and how rapid and how big will be the steps the FOMC plans to take to reach its goal of neutrality?

In July, Sen. Richard Shelby (R-Alabama), chairman of the Banking, Housing and Urban Affairs Committee, asked Federal Reserve Chairman Alan Greenspan to explain further what the FOMC meant by a "measured pace" when Greenspan gave his semiannual report on monetary policy. Characteristically, Greenspan answered in an indirect way that revealed some key elements of his thinking, but also left out considerable detail.

"[I]f we are to maintain the mandate which the Congress has given us to create price stability, mainly for the purpose of maintaining and fostering maximum sustainable long-term growth--because that's our objective--we will do what is required to achieve that objective," Greenspan told Shelby.

Greenspan shed light on this point in his prepared remarks, in which he laid out two potential general scenarios the Fed might follow: one measured and the other dynamic. Here's the money quote: "If economic developments are such that monetary policy neutrality can be restored at a measured pace, a relatively smooth adjustment of businesses and households to a more typical level of interest rates seems likely. Even if economic developments dictate that the stance of policy must be adjusted in a less gradual manner to ensure price stability, our economy appears to have prepared itself for a more dynamic adjustment of interest rates."

Or, to paraphrase, the Fed is planning a gradual increase in interest rates, but if conditions warrant, it could become a bumpy ride. And, by the way, the chairman implied, if this approach is necessary, the economy will be strong enough to take a bumpy ride.

The Fed's anticipated gradualist approach to higher interest rates contrasts with its approach a decade ago. Back in February 1994, the markets were surprised by the Fed's interest rate increase that came at a time of accelerating economic growth.

Back then, after the Fed announced a quarter-point rate increase in the target for the federal funds rate (from 3 percent to 3 1/4 percent), the bond market plummeted while interest rates jumped across the yield curve. A series of additional interest rate increases followed as the Fed fought an incipient spike in inflation, pushing the economy into a slowdown that came close to being a recession.

"In effect, they're telling us that it's not 1994 all over again," explains Bob Hormats, vice chairman of Goldman Sachs International, New York. "Back then the Fed thought it was behind the curve. They were worried they had fallen behind and had to catch up. …

The rest of this article is only available to active members of Questia

Sign up now for a free, 1-day trial and receive full access to:

  • Questia's entire collection
  • Automatic bibliography creation
  • More helpful research tools like notes, citations, and highlights
  • Ad-free environment

Already a member? Log in now.

Notes for this article

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
One moment ...
Default project is now your active project.
Project items

Items saved from this article

This article has been saved
Highlights (0)
Some of your highlights are legacy items.

Highlights saved before July 30, 2012 will not be displayed on their respective source pages.

You can easily re-create the highlights by opening the book page or article, selecting the text, and clicking “Highlight.”

Citations (0)
Some of your citations are legacy items.

Any citation created before July 30, 2012 will labeled as a “Cited page.” New citations will be saved as cited passages, pages or articles.

We also added the ability to view new citations from your projects or the book or article where you created them.

Notes (0)
Bookmarks (0)

You have no saved items from this article

Project items include:
  • Saved book/article
  • Highlights
  • Quotes/citations
  • Notes
  • Bookmarks
Notes
Cite this article

Cited article

Style
Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

(Einhorn, 1992, p. 25)

(Einhorn 25)

1

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited article

The Fed's Shift in Policy: The Mortgage Industry Is Poised for a Hit from Higher Interest Rates in 2005. Here's Some Insight into the Fed's Thinking as It Reacts to Economic News and Positions Itself to Move Rates Higher in the Months Ahead
Settings

Settings

Typeface
Text size Smaller Larger Reset View mode
Search within

Search within this article

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

Full screen

matching results for page

Cited passage

Style
Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn, 1992, p. 25).

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences."1

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited passage

Thanks for trying Questia!

Please continue trying out our research tools, but please note, full functionality is available only to our active members.

Your work will be lost once you leave this Web page.

For full access in an ad-free environment, sign up now for a FREE, 1-day trial.

Already a member? Log in now.