How the Fed Combat Inflation

According to this survey 80% of Americans don’t understand the relationship between interest rates and inflation. With inflation at a 40 year high the Federal Reserve is expected to increase short term interest rates (the Fed Funds rate). It’s important to understand how this impacts the economy. Essential it increases the cost of loans like HELOCs, auto loans, and business lines of credit. When ‘cheap money’ is cutoff people and businesses slow down spending (maybe I won’t buy that new car!). Gradually this process pumps the break on inflation by slowing employment gains, price increases, and consumer spending. Since mortgage rates (longer term) hate inflation Fed rate hikes are actually good for mortgage rates but there isn’t always a direct correlation. For example, mortgage rates are currently being impacted by both quantitative tightening (Fed reducing their balance sheet of Mortgage Backed Securities they purchased during pandemic) and inflation which is increasing mortgage rates. During heavy inflationary periods rate hikes have significantly reduced inflation and have even caused the economy to quickly go into recession (mortgage rates drop during recessions). The fed will be doing a tight rope walk to keep inflation near their 2% target and the economy still moving.

Mortgage Rates – increased again this week as Mortgage Backed Securities moved downward maintaining their downward trading pattern. Rates are up 1% from this time last year.

Inflation – the Bureau of Labor and Statistics (BLS) released their Consumer Price Index and the headline inflation number is up 0.6% from last month and 7.5% from this time last year – the largest increase since 1982 . When you strip out food and energy the ‘Core Rate’ increased 0.6% in January which marks the 7th time in the last 10 months the index has increased by at least 0.5%. Year over year the core reading is up 6%.


Jobs- the number of people filing for unemployment for the first time decreased again last week, remaining at pre-covid levels. The labor market remains tight.

Core Logic Loan Performance Insights

Loan Performance – for the first time since the onset of the pandemic national delinquency levels dropped below the March 2020 level at 3.6%. Year over year delinquencies are down significantly and the percent of folks going from 30 day lates to 60 day lates is down from 26% to 17%. The number of homes in foreclosure remains very small at 0.2% of homes with loans (remember that 1/3 of homes are owned outright).

Fed – Atlanta Fed President and non-voting member Raphael Bostic believes inflation will begin to decline soon. He anticipates 3-4 rate hikes this year and favors the 25bp rate hike (not ruling out a 50bp). While Fed rate hikes are good for mortgage rates because Fed rate hikes combat inflation- the arch-nemesis of mortgage rates- Bostic also anticipates about $1T in balance sheet reduction which is bad for mortgage rates. Fed Futures estimates five 25bp hikes and BofA is forecasting seven.

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