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Economic Rescue Plan Could Be Economy's Undoing

It seems the plan to rescue the economy could accidentally lead to its undoing. What’s going on?

The trouble stems from spiking mortgage rates, which in turn drove down total home loan applications last week -- that’s according to the Mortgage Bankers Association. The swift rate rise crimps affordability making those monthly payments that much harder to swing.

And as you well know, providing a floor under the tumbling real estate market is a cornerstone of the plan to jumpstart the economy.

Rising Rates To Zap Recovery?

What’s gone wrong?

Borrowing costs have soared as bond yields have risen, due to the vast amount of Treasuries flooding the market. Yields continue to rise even as the Federal Reserve sops up hundreds of billions of dollars in bonds – a move that should have kept rates low.

“Mortgage rates went down because of quantitative easing; the decision by the Fed to directly buy bonds to get rates down,” explains Chris Thornberg of Beacon Economics. “But it doesn’t seem to be working.”

In fact, the average 30-year fixed mortgage rate jumped 0.32 percentage point in the June 5 week to 5.57 percent. That was nearly a full point, about 100 basis points, above the record low rate of 4.61 percent in March.

National 30 Year Fixed Mortgage

"Clearly, 50 or 100 basis points more on mortgage rates is enough to matter. It effects what people can afford to buy," says Bill Cheney, chief economist at John Hancock Financial Services .

The swift percentage point rise in mortgage rates cuts the purchasing power of a borrower by about 10 percent, he says.

Sometimes when rates turn higher the housing market actually benefits because buyers rush in before rates climb any further. But that doesn’t seem to be happening this time around.

"Employment is still bad, wages are still low, interest rates are up. That's going to hurt the housing market," Cheney added.

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