Why The 30-Year-Fixed Mortgage Rate Should Be Below 3%

Ben Bernanke, Chairman of the Federal Reserve, must be tearing out what's left of his hair.


He has increased the Federal Reserve's balance sheet to an all time high of almost $3 trillion, primarily through bond purchases.

Unfortunately, mortgage rates haven't declined as much as he would have hoped.
He is frustrated that the lower yield on mortgage backed securities are not being passed onto borrowers in form of lower mortgage interest rates.

He recently said the situation is "unfortunate" and the Federal Reserve Bank of New York conducted a workshop to examine the issue.

Imagine the 30-year-fixed-rate-mortgage interest dropping below 3 percent?
That would generate another wave of refinancing, helping homeowners across nation save hundreds to thousands of dollars each year, while boosting the economy.
Bernanke hoped the savings would increase consumer spending and provide the economy and employment with a much needed boost.

Why the 30-year-fixed mortgage rate should be 2.75%
The spread between so-called primary and secondary rates is about 1.1 percentage points, compared with less 0.7 percentage point in March and an average of about 0.5 percentage point years before the credit crisis, according to Bloomberg.

Primary rates are what lenders charge borrowers and secondary rates are what lenders are paid when they sell the loans on the secondary market. If the spread was at the pre-credit crisis level of 0.5 percent, mortgage rates to borrowers would decline by 0.6 percent.
Today, the current average 30-year-fixed mortgage rate is just below 3.40 percent, which means the rates should be at or below 2.80 percent.

Some say the higher spreads today reflect bank profiteering.
In early December, a study from the New York Federal Reserve Bank reported that banks earn about $5 per $100 in loans they originate today, up from $4 in 2009 and $2 from 2005-2008.

Why mortgage rates aren't lower
Banks have their own explanation for the disparity.
Bernanke concedes, higher fees charged by Fannie Mae and Freddie Mac and other banking industry changes are contributing to higher spreads. Banks today also experience the added cost of longer processing times.

Banks understand that low mortgage rates won't last forever. That makes them reluctant to add more staff, which would increase their fixed costs. Short-staffing results in longer loan processing time and, again, time is money.

Tighter underwriting guidelines also contribute to longer processing times. Banks analyze many more income, asset and credit documents then they have in the past.

Mortgage industry officials also say that rising litigation expenses, federal and state investigations and new regulations contribute to a cost structure that is difficult to predict.

"Until we have a rational, articulated plan where institutions know they can extend credit in a way that protects them as well as the consumer, I think we're going to see these spreads stay wide," said David Stevens, chief executive of the Mortgage Bankers Association.

Critics say banks have too much business and too little competition. The law of supply and demand rules. With more business than they can handle, there is little incentive for them to reduce rates.

Once these low mortgage rates begin to rise and refinancing business dwindles, the spreads could narrow. Few complain about a 3.5 percent mortgage rate, but economic and employment gains would be greater if banks made smaller profits and allowed rates to fall below 3 percent.
That's Bernanke's goal.