[quote=FlyerInHi]SK, good point on interest rates.
I have to admit that my understanding of the Fed was lacking but has much improved through reading. It’s their job to set interest rates as they have always done.
Therefore interest rates are neither artificial nor natural. In a fiat currency and a floating exchange rate environment, interest rates could be zero forever.
Mortgage rates may be historically low, but they are not artificially low.[/quote]
The fed primarily set the Federal Funds rate which is the overnight borrowing rate for big banks. They do not have the power to arbitrarily set us treasuries or MBS bonds rates although QE has been an attempt to bend the supply demand curve so that the price of those bonds goes up and the interest rates go down. The big bank business model is to borrow short and lend long and use the spread to pay their costs and make profits. You are somewhat limited in how low mortgage rates can go. 2-2.5% is probably as low as you could see a 30 year mortgage, although who knows what would happen if there was a severe supply constraint (nobody wanting to borrow anymore).
The biggest risk in my eyes is what really happens if we’ve hit the secular low in mortgage rates and are faced with a long term trend change where rates will generally rise rather than generally fall. We’ve had 30 years of down trend in rates and often we experienced severe economic problems when the rates have moved counter to that downward trend for any length of time. The logic in me says if we are faced with a world of generally rising rates all leveraged assets that are being purchased based on the carrying cost will fall in value over time. That would include houses, stocks, bonds, etc. because all assets experience some degree of leveraged speculation. Now we can obviously defy that logic for awhile and build a speculative bubble, but the math tends to win in the end.
If you haven’t lived in the world of rising rate and most of us haven’t then we might be in for a rude awakening when we take our previous experiences about how asset prices should function in our leveraged world and apply them to the future. In the 1930’s the debt bubble blew up and reset itself. We still haven’t seen that happen here yet. Japan hasn’t seen the debt bubble blow up but they have seen have 0 bound interest rates for a long time and asset prices in Japan have been flat at best. Why should we expect something different, although most of us probably need 5+% asset price inflation to make our retirement goals.
