What Rate Hikes Mean to You & Your Mortgage

Fed Hiking Rates

You’ve heard it. Your mom’s heard it. Everyone’s been talking about it. The Fed is raising interest rates. But why is that making mortgage rates go down?

If you’re confused by this whole rate hike thing, congrats you are not alone. Just about everybody is confused by it (even some of the people at the Fed). So, let’s break down a couple of the things that we know. 

Number one, inflation is ghost pepper hot.

Number two, if inflation is a ghost pepper, the Fed is using interest rate hikes as a glass of milk to cool down that inflation.

Number three, the Fed dished out the biggest rate hike since 1994.

Number four, the most confusing one of all, somehow amongst all of this that is making mortgage rates go down.

So, “inflation is transitory” turned out to be the biggest understatement of 2021. We actually saw record level inflation in 2021, 8.6% to be exact. We have not seen that kind of inflation since the year Journey released Don’t Stop Believing.

There is so much to unpack when it comes to inflation, from cargo ships sitting at docks without enough workers to unload them all the way to trillions of dollars being pumped into our economy through stimulus. But at the end of the day, COVID messed a lot of stuff up and now things are harder and more expensive to make and in turn, everything costs more.


It’s the Fed’s job

It’s the Fed’s job to balance a healthy inflation rate with a healthy GDP by controlling how easily people have access to capital. When the Fed makes money cheaper or they lower interest rates, people tend to borrow more money, spend more money, invest more money, pour more money into the economy – and that makes the economy grow, which causes inflation.

On the flip side, when the Fed makes money more expensive, people borrow less money, spend less money, invest less money, the economy sees less money and in turn you see the opposite of inflation. You see deflation, at least that’s the thought.

Today’s inflation number is threat level midnight. The Fed has allowed inflation to hit a 40-year high. So, they’re having to take some serious action.

Enter a 75-basis point rate, the biggest since 1994. When everyone is talking about the Fed hiking rates, what they are actually talking about is the Fed hiking something called the federal funds rate, which is used as a baseline for all short-term lending. Think student loans, credit cards, auto loans, etc.

The Fed hiking the federal funds rate has a direct impact on these short-term lending rates. So, the Fed increases that rate when they want people to spend less money and reduce inflation.


So why are mortgage rates not a part of this?

Because mortgage rates are not short term. Mortgage rates are long term, typically 30 years. So, the federal funds rate does not have an immediate impact on mortgage rates. However, they did get absolutely smashed by inflation.

Inflation is the kryptonite of mortgage rates because mortgage rates are fixed. Think about it this way. Your mortgage payment does not care what inflation is. Inflation could be negative 10% or positive 10%, and your mortgage payment would be the same because most likely it is fixed.

That is great for you as a homeowner, but imagine you’re somebody who had invested in mortgages, you invested at a certain point, and you were guaranteed a certain dollar amount every month. But every single month, that dollar amount becomes effectively less and less valuable due to inflation.

Inflation literally makes your mortgage payment cheaper and cheaper every month. So, when there is high inflation, mortgage payments have to go up too.


Let’s wrap up what we know.

Number one, inflation is absolutely out of control. You’re feeling this when you go buy a new car, when you drop your kids off at a daycare, or when you go grocery shopping. It’s a serious problem.

Number two, mortgage investors also felt that (inflation), and that’s why mortgage rates went up so fast at the beginning of this year.

Number three, the Fed who had publicly claimed that inflation is transitory and would not be a problem going into 2022 completely changed their course and implemented the biggest rate hike that we’ve had since 1994.

Number four, mortgage rates actually liked that the Fed increased rates. Mortgage rates hate inflation, and they reacted positively to the Fed fighting it.

Now, the big question is: Is the Fed actually able to pull this off? Are they able to get inflation under control by increasing the federal funds rate? Or are we just going to see them increase the federal funds rate, slow our economy while inflation continues to rise and put us into an even deeper recession?

We do not know the answer to that, but what we do know is that mortgage rates hate inflation, and they will continue to rise as inflation goes up. However, if the Fed is able to start bring inflation down again, we could see mortgage rates start to follow.

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