With all the hype and turmoil surrounding the financial markets and the mortgage industry, it might be a good time to take a deeper look into the situation.  The reason that the Federal Reserve has steadily raised interest rates over the past couple of years (we have been told) was too cool off the heat of inflationary pressures on our economy.  At the same time our politicians and television personalities told us that there was NO inflation (Hmmm).  Meanwhile the housing and mortgage industries have suffered a high rate of foreclosures and many of the mainstream players have gone out of business faster than people leaving a theater after someone yelled “FIRE”!   With this paradoxical combination of messages, it is no wonder that the general public is a little confused about trying to make sense of it all.

Just recently the Federal Reserve lowered the “PRIME” interest rate by ½ of a point.  This writer believes that this move was more intended to restore confidence in the financial system than to repair the apparent damage that has been inflicted in financial markets recently and apparently with more damage to come.  The interpretation of the Fed’s move can vary, depending one’s particular vantage point.  It’s true that most of us, business people and consumers alike, desire lower interest rates.  Yet while a half a point reduction in the prime rate might be helpful, any decisions the Federal Reserve Board might make at their October meeting will be strongly influenced, if credit remains tight in the mortgage industry and continues to spread to other businesses. Another factor to remember is that if interest rates are reduced, for the borrower it is likely that credit will tighten more.

Nearly half of the CFO’s, according to the CFO.com poll, said that a cut of a half a percentage point would not help their company at all, and most of the other half saw only a small benefit from such a move.  In the same survey, nearly two-thirds of CFOs feel more pessimistic about the upcoming quarter than they did three months ago, and their real concerns are focused on the availability of credit rather than its cost. They don’t believe that the traditional credit markets are wide enough to continue financing expansion and capital acquisitions needed by the sub prime borrowers and the prime borrowers have become increasingly hard to find.  The fact is that a quarter point drop in the prime rate, the rate at which banks lend to one another, may indicate just how little the present Federal governing board is in touch.  A half a point drop will definitely make it less expensive for the very top credits to raise money, and perhaps some will filter down to their subsidiaries. However, it does not address the real issues that have caused the credit market to become tighter.

In the mortgage industry, Freddie Mac, a key mortgage investment pool entity, reported recently that 30-year, fixed-rate mortgages averaged 6.31%, the lowest level since May 2007.  However, the question remains if lower rates would curb the foreclosure rate materially. This writer believes that even a half point reduction in mortgage rates would not make much of a difference to an adjustable rate borrower that should never have been approved in the first place.  Furthermore the mortgage rates are NOT directly tied to what the Federal Reserve does with the “PRIME” rate in the banking system.  Mortgage rates are more tied to 10-Treasuries, and they don’t move that much over time.  The Fed needs to get in touch with the basics and realize that too much government spending, the federal government deficit, and the continuing financial cost of the war in Iraq needs to be addressed with a hard line after making some hard choices.