The housing market is a complex industry. It is driven by various factors that can affect the price of a home and consumer spending. In addition to supply and demand, interest rate fluctuations are part of the housing market’s up-and-down cycle.
Mortgage interest rates are impacted by changes in the federal funds rate and a few other variables. The Federal Reserve Board (FRB), the Fed’s governing body, influences the national money supply. They do so by altering reserve requirements. Banks lend more money when the minimum requirement falls and the economy’s money supply grows. Raising reserve requirements, on the other hand, reduces the money supply. Interest rate increases are widely regarded as the central bank’s primary instrument for lowering inflation. Increasing the cost of borrowing money reduces the demand for goods and services. This affects all types of borrowing, including mortgage loans.
The historically low-interest rates we experienced over the past two years were never meant to be permanent. They were temporary measures the Federal Reserve took to help the economy during the pandemic. The rise in interest rates started in November 2021 when the Federal Reserve began to scale back its efforts to contain the spread of the pandemic.
When interest rates rise, there is a direct impact on property prices and mortgage payments. The average purchase loan is around $380,000. With each half-percent increase in interest rates, a person’s monthly mortgage payment goes up by approximately $120. Correspondingly, a buyer’s purchasing power drops by about 5% when the interest rate goes up by half a percent. If a homebuyer were pre-approved for a home at the cost of $375,000, their purchasing power would be reduced by $17,500 if the interest rate goes up by half a percent.
Larger monthly mortgage payments mean the average American’s spending habits are reevaluated and re-prioritized. Property prices are sometimes affected when consumers’ purchasing power is limited because prospective house hunters will shy away from higher-end, expensive homes when loan interest rates go up. This decrease in demand can, in turn, affect the prices of homes that formerly had a higher value. Despite the rising interest rates, the overall housing market has been experiencing a robust growth rate over the past couple of years. In March 2022, the CEIC data reported that housing prices had risen by 17.5%.
From a seller’s perspective, rising interest rates could cause a slowdown in the sales of homes, which could lead to a lowering of property prices in the future. However, it’s unclear whether the market will experience a correction due to the increasing interest rates.