The Impact of Increased Interest Rates by the Federal Reserve on the Housing Market
By Brendan Connelly | March 31, 2022
In an effort to combat rising inflation, the Federal Reserve has announced plans to increase interest rates. The Federal Reserve recently announced a .25% increase in benchmark interest rates, after near-zero rates have persisted since the start of the pandemic, with officials expecting rates to rise to nearly 2% by the end of this year, and 2.75% by the end of 2023. This is part of what Federal Reserve Chairman Jerome Powell notes as a plan to raise interest rates in half percentage point increments to slow economic demand, but avoid a recession. Increasing interest rates is an effective tool in curbing inflation for multiple reasons. Increasing benchmark interest rates raises the cost of borrowing on overnight loans between banks, thus limiting the money supply available for risky assets. In addition, increasing interest rates discourages consumer and business spending, and causes consumers to believe that more contractionary monetary policy is expected in the future, causing inflation expectations to fall. Thus, the Federal Reserve raising interest rates is an effective tool to combat inflation, and lower consumer and business spending. However, while there are benefits to this policy, there are possible costs in other areas of the economy.
One economic sector negatively impacted by the rise in interest rates is the housing market. Though still historically low, 30 year mortgage rates have increased past 4%, which would be the highest they have been since 2019. 30 year mortgage rates, along with home equity lines of credit and adjustable rate mortgages, may increase further as the Fed implements more interest rate increases. The impact of monetary tightening policy by the Federal Reserve may also bleed into other metrics of the housing market. Realtor website Zillow’s latest projections for the housing market note that the current demand for homes exceeding the supply is driving up the price of homes. However, rising mortgage rates from Fed policy may negatively impact housing demand and drive housing prices down. MarketWatch’s Alisa Wolfson notes that high interest rates may nudge home buyers out of certain markets and force them to buy at lower prices. This may cause the home appreciation rates to decline as interest rates rise. Though the growth rate of housing prices is still expected to be positive, the current rates may not remain by the end of the year. Thus, as the Fed navigates bringing down inflation rates in the U.S., this may permeate to areas of the economy, such as housing prices. Though a recession period is currently not expected in light of these policies, the Fed ramping up monetary tightening as the year progresses may increase the effects of these policies on the economy.
Edited by Zachary Elias