[quote=deadzone]It may be true that high interest rates have not historically led to housing downturns. However, the current situation is unlike any in history. Due to the number of I/O ARM loans outstanding (reset chart), as we’ve discussed ad-nauseum, higher interest rates right now would abolutely DESTROY the housing market.[/quote]

ARMs are typically pegged to either prime rate or LIBOR. Both are short term lending rates.

Of the non mortgage interest rates, the one mortgages are most closely tied to is the ten year treasury rate. That correlation is not very strong, however. One reason they are as strongly correlated as they are is a substantial portion of the mortgages enjoy an implicit government guarantee.

Mortgage rates are only weakly correlated with housing prices. Part of this is because there is not one mortgage rate, but a range of rates corresponding to a range of creditworthiness among borrowers, among other factors. Distortions among different rates (such as subprime) were a driving force behind the housing bubble.

The distortions have been largely eliminated.

LIBOR and prime will stay low for a while, one to two years at least, as long as the recovery remains tepid.

With increased inflation expectations, or decline in Treasury creditworthiness, benchmark mortgage rates will rise rapidly. When these arrive, and how strong they will be, is anybody’s guess.