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30 Year -vs- Inflation - What's the next step?


Looking at the FRED data, there are only two times inflation rates were higher than the 30 year fixed: 1973 and 1979. In both cases, the long term mortgage rates had to go higher to slow inflation. The question - is this time different? Will the FED protect the market and lower rates (risking inflation goes higher) or will they protect the consumer and raise rates (which hurts the consumer, but ultimately tames inflation hurting the consumer).



Historically lender want a premium for the money they lend - and to have a premium they want the interest they earn on the money they lend to be higher than inflation rates... why? If I lend you $100,000 at 5%, and inflation is 7%, each dollar you pay me back is worth 2% less.


You pay (the lender) $5,000 in interest on $100,000 at 5% over the first year, but what (the lender) wants to buy has gone up by 7% in cost, so the $5,000 you give (the lender) back won't buy $5,000 worth of 'goods', it would take $7,000 to buy those same goods that have gone up in cost by 7%, so the lender is losing $2,000 a year... this flips things upside down. Historically (the lender) will keep raising rates to get that premium, so either inflation rates come down OR expect rates to continue till there is a premium.


What's the average premium? Since 1975 it has averaged 2.6%.

That would mean that today, if inflation is at 6%, then 30 year mortgage rates need to go to about 8.6%. If the FED can get inflation back to 2% eventually, then the expectation is that the 30 year mortgage could drop back below 5% again.

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