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Econ 101 on Rate Cuts



September 24, 2007 – Comments (4)

9:18 AM

After mulling over the possible consequences of last week’s rate cut – I realize that this topic has been permeating all of my posts to date – I decided to go back to some Economics 101 material and some of the events that have already transpired for further reflection.

Rate cuts have multiple effects on the economy, as it pulls multiple levers, some of which may very well have offsetting impacts. For one, as interest rates decline, domestic money-market/ fixed interest assets become relatively less attractive to international investors, causing them to withdraw their funds from the U.S. in search of relatively higher yields. This should cause the value of the dollar to decline relative to other currencies, which is something that we have already witnessed. In fact, at $1.41/ Euro, the greenback has now reached an all-time low against the European currency. The dollar is also reaching record lows against the yen.

Furthermore, the rate cut, though it may serve to allay fears of a U.S. recession, is stoking concerns of inflation – this has served to drive up long rates. Increasing long term bond yields also mean that mortgage rates will not be dropping anytime soon.

Which leads to my final thought for the day, which is the most important: the rate cut will do little, if anything, to alleviate the pressure on mortgage borrowers.

Total: 219 words

Time: 10 minutes

*** The above text was written (and spell-checked) in ten minutes. As a result, some of it may not stand up to rational scrutiny. I apologize preemptively for any errors, omissions and misrepresentations. ***

4 Comments – Post Your Own

#1) On September 24, 2007 at 11:16 AM, XMFHelical (< 20) wrote:

You may be right about not alleviating the pressure on mortgage borrowers.  Ideally, the rate cut should allow mortgage rates (which are set by the market) to dip some.  But the corollary isn't a given.

According to Bankrate - they dipped a bit on the announcement then came back up.  Shame really, as even a small dip might allow some (but not a large percentage) to refinance or better tolerate an ARM adjustment.  Still the trend in mortgage rates was down over the past few months, perhaps in anticipation of the rate cut which should help.


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#2) On September 24, 2007 at 12:17 PM, EScroogeJr (< 20) wrote:

The rates had fallen 50 points several weeks in advance because people were expecting that announcement. The subsequent 4 point increase is well within the limits of statistical fluctuaction. The bottom line is, Bernanke's cut has caused mortgage rates to go down.

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#3) On September 24, 2007 at 7:19 PM, retailsails (98.36) wrote:

What does 50 basis points, or even 150 assuming they keep cutting rates really mean for people who are going to have AMR resets to double digits?  The Fed is helpless regarding the majority of the 2mm+ who are facing foreclosure over the next 18 months...

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#4) On September 25, 2007 at 8:59 AM, TMFAleph1 (91.84) wrote:

I would tend to side with JR10022 here, rather than EScroogeJr but am open to look at data that would support the latter's point of view.


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