Are Lower Mortgage Rates Really Helping the Economy?

The Fed's intention by implementing it's Operation Twist is to lower long term rates which should lower rates for most homeowners mortgages. The theory goes that as people save money in one area they will spend it in other areas. But is this true? Can the Fed really manipulate homeowners and therefore consumers?

Will Rates Fall Low Enough to Make a Difference?

Typically most homeowners will look for at least a quarter percentage dip from their current rate to even consider refinancing their mortgage. This is more rule of thumb than anything more financially sophisticated. Some homeowners are more focused on rate, others on nominal dollar savings, and others on costs associated with refinancing. Right now most analysts expect Operation Twist to lower long term rates by 20 basis points or 0.20 percent. Based on the refinancing rule of thumb discussed above the Feds actions won't lower rates enough to provoke widespread refinancing by homeowners. If most homeowners that were qualified based on traditional measures such as credit quality and sufficient home equity have already refinanced, and that is a big assumption of course, how many of these folks will be encouraged to go out and do it again, probably having just gone through the process? In an effort to generate more revenues, banks are looking at more ways to charge fees to consumers and some of these are showing up in home loan closing costs. A borrower who refinanced 6 months ago will probably face higher closing costs requiring a bigger savings from refinancing to justify the time and expense involved.


Now that Rates Have Fallen Low Enough, Will Consumers Spend Their Savings?

We have just given the Fed the benefit of the doubt that Operation Twist was successful in lowering rates and that a slew of homeowners have rushed out and refinanced their mortgages. With lower monthly housing payments of around $200 each (I made that up. Most homeowners I've talked to seem to have a love affair with saving at least $200 to even consider refinancing) homeowners are feeling flush with cash and cannot wait to go....(drum roll please)...save it. Sure some folks are going to feel good enough, at least initially, to go out to dinner one more time each month, but how long will that good feeling last? With the latest consumer confidence figures out and not looking very optimistic, how realistic is it to think consumers will be in a spending mood?

Now That the Entire Mortgaged Population has Refinanced, What GDP Growth Can We Expect?

The most optimistic outlook would only contribute a modest bump to GDP, and that's assuming most go out and spend their savings. How do we figure this? Well, let's look at some rough numbers since we cannot be truly accurate. If there are about 75,500,000 residential mortgages on US properties and each of them were refinanced, and each could save $200 a month, and each homeowner went out and spent those extra $200 each month, that would add about 1.2% to our national GDP. For simplicity, let's ignore the velocity of money for now, because I think it is very realistic to assume not that many mortgages can or will be refinanced for various reasons already discussed. So if the actual number were half these numbers, is this a substantial boost to the economy? Maybe so if you're talking about an election year and you're looking for any port in a storm. As important as the contribution to GDP is the improvement to the US labor market, particularly in an election year. Can this modest contribution to GDP from Operation Twist help to bring down unemployment in the US? Perhaps as part of a larger package to stimulate economic growth Operation Twist can be considered a successful endeavor by the Fed, but on its own it will probably not succeed.