So, what exactly is a mortgage? Essentially, it is an agreement between a mortgage company and a buyer of a property where the buyer borrows money from the company to finance the purchase of the property from the previous owner. However, the buyer makes the house collateral, meaning that if they are unable to pay back the amount owed plus interest to the company, the latter can seize the house. A mortgage rate is the interest rate at which the company has lent money to the buyer. The mortgage company determines the interest rate, which is impacted by many factors, including the current market rate. When the economy is in a good condition, with lower unemployment rates, borrowers are able to afford more, allowing interest rates to rise. Alternatively, when the economy slows down and unemployment increases, interest rates fall and become more affordable for borrowers.
Mortgage rates have been increasing alongside the interest rates driven by the Federal Reserve (the Fed). Depending on how the economy is faring, the Fed will increase or decrease the rate at which it lends money to the banks and lenders, who in turn lend money to consumers. Banks and lenders will change their rates to account for the rate they paid to the Fed.
Since March 2022, when the rates started to go up, there have been declining home sales for multiple consecutive months. These declining sales can be attributed to affordability, since higher mortgage rates imply a higher monthly payment to own a house, making it more expensive for buyers to afford a home of their choice. However, not only do higher mortgage rates contribute to reducing demand, as people are less likely to buy a house when it would cost more, but it also worsens sentiment for buyers, sellers, and builders, all of whom scale back their role in the housing market due to the high rates. Sellers withdraw or delay listings, resulting in reduced home supply, while buyers scale back or defer home purchase, contributing to a downward spiral in the housing market. The business press is already reporting that mortgage applications are in decline and refinances are down.
Unfortunately, it does not appear that the problem will disappear anytime soon. Interest rates may not decrease, as the Fed may continue to raise interest rates to tackle the persisting inflation in the economy. As a student of economics, what’s interesting is that it was very difficult for buyers to get a home at the beginning of the year and now as well towards the latter part of the year, but for two totally different reasons. In the early part of the year with low interest rates, the market was highly competitive, and buyers were trying to outbid each other, making it difficult to buy for a good price. Now, the mortgage rates are so high that buyers no longer want to shoulder the financial costs and are even unable to afford the home they want.
