In a move that caught many people off guard, the Federal Reserve announced that it would begin to taper the stimulus support that it has been providing to the U.S. economy come January 2014.
Many have suspected that the Federal Reserve would likely begin tapering several months ago, but those predictions turned out to be inaccurate. What the Fed has done is plan to slowly start turning off its nozzle of support which has consistently been pumping $85 billion dollars worth of stimulus money into the economy for several years now.
The Fed announced that it will begin buying only $35 billion a month worth of mortgage-backed-securities as opposed to $40 billion. Similarly, the Fed will only purchase $40 billion in long-term T-bills rather than $45 billion.
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How the Housing Market Will Be Affected
The stimulus was widely credited with keeping interest rates on home purchase and refinance loans low. It is also perhaps one of the main reasons the American financial system has been in the midst of a bull market for the past 5 years. To give some perspective the Dow Jones Industrial Average has more than doubled from its lowest point in 2009 when it sat at 6,626. As of December of 2013, the Dow sits at an all time high of 16,221.
The reasoning behind the Fed’s decision is relatively straightforward. Chairman Bernanke and other key leaders at the Fed don’t want to create a sense of complacency among investors. Moreover, engaging in perpetual stimulus spending could heighten the risk of creating dangerous bubbles in the market that could undermine the recovery when they burst. Slowly pulling back support will give the markets enough time to react as opposed to quickly pulling the rug out from investors.
Time will tell if there is enough consumer demand for housing to offset potential setbacks that may occur from this announcement. One of the key fears that Bernanke and other members of the Fed have shared is that demand for housing was artificially created and sustained by investors looking to take advantage of low interest rates.
Implications for Prospective Homeowners
One of the reasons that Ben Bernanke and other leaders at the Federal Reserve instituted a policy of quantitative easing was to lower interest rates to spur home sales and generate economic growth. Homeowners and especially home investors have taken advantage of those low rates to get a home or possibly make a considerable profit.
An obvious implication of the Fed’s decision to begin tapering is that there will be one less constraint on the housing sector to help push interest rates low. That means that if your New Year’s resolution is to purchase a home or refinance, the sooner you do this the better.
Bernanke is retiring at the beginning of the New Year when Janet Yellen will take over if she is able to be confirmed. In his last press conference, Bernanke stated that his goal was to have the Fed tie the rate of its stimulus reduction to job growth and inflation. If either of those two factors isn’t where the Fed wants them to be, he stated that the Fed would consider slowing down the rate of its tapering.
