Mortgage rates have been low for many years now. Even recently, when they’ve started to rise, they’ve fallen back down again. But we all know this can’t last forever. In fact The Federal Reserve Chair, Janet Yellen, recently indicated rate increases can be expected in the not too distant future.
Yellen may not have mentioned mortgage rates specifically, but when the Federal Reserve stops buying up bonds and allows inflation to take its natural course — that means it will rise — then mortgage interest rates will also be affected, along with many other costs associated with purchasing and owning a home.
How does inflation affect mortgage rates? Let’s start with understanding what inflation is. Inflation basically means that prices are rising. When inflation runs its natural course, the cost of products slowly rises, so that you’re paying more for the same item as time passes. In a stable economy, wages will rise to match inflation, so that costs aren’t out of control and the people can still keep the economy moving by making purchases and circulating cash.
As a country we are in a good place economically now with low unemployment, rising wages and robust consumer spending. However, if the people start spending more and create a risk of supply not being able to meet demand for goods and services, the Fed may raise interest rates to slow things down. So a strong economy can itself trigger inflation to grow, affecting a home buyer’s purchasing power.
Act Now Before Rates Rise
When inflation rises quickly, an individual’s buying power won’t keep up, and you won’t be able to buy the same items and services for the same cost as you once could. That includes mortgages. Inflation will cause the mortgage interest rate, and possibly the fees associated with a home mortgage purchase, to rise. For some people this could put homeownership out of reach.
Consider this example:
When interest rates are at 5 percent, a home buyer can pay around $1,600 per month on a $300,000 loan; but at 6 percent, $1,600 per month gets them a loan of $270,000.
In addition to mortgages costing you more, the house itself will cost you more. If you buy a brand-new home, the cost of building materials will increase, raising the price. Even in an older home, you will be paying higher rates for things like new flooring, HVAC maintenance and home warranty.
Of course, no one can say with certainty how prices and inflation will change over the next six months, or 12, or the next five years. What we do know is that mortgage interest rates are still at historic lows; that home prices are still affordable, but they are rising; and that inflation will probably soon be on the rise: all factors which make now the right time to buy a new home.
Considering Buying a Home?
Once you own your home, you will benefit from inflation. As the value of the dollar decreases and prices increase, the value of your home will increase. Thus, your equity in your home will increase. The path to wealth is purchasing assets that appreciate in value.
To answer the original question, yes, inflation will affect home buying. Depending on your financial situation, purchasing a home may make sense for you.