What Will the $789 Billion Stimulus Package Do to Interest Rates?
February 13, 2009
Now that Congress has struck a deal on the largest economic stimulus bill since the New Deal in the 1930s, the questions about the potential effectiveness of the bill have already begun. The primary goal of the government's spending package is to stimulate the economy and create new jobs. The Obama administration has also used the bill to push forward some of the items on the President's agenda including modernizing health care, widespread spending on education, and creating public works programs. It is estimated that almost a third of the cost of the bill is from a variety tax cuts aimed at promoting consumer spending, while the remainder would be from actual government spending on projects and initiatives.
The initial reaction on Wall Street to the stimulus deal being struck in Congress has been negative with the Dow Jones Industrial Average down over three hundred points since the news was released. The reality of the United States government borrowing what could easily end up being close to a trillion dollars is giving many economists and perhaps investors concerns. Even the most hardened Keynesians admit that the risks of stagflation (combined inflation and lack of economic growth) and higher long-term interest rates will exist by flooding this amount of money into a faltering economy.
To a large degree the United States government can control short-term interest rates through their monetary policy and action by the Federal Reserve. The Fed has committed to keeping short-term interest rates low for the immediate future by keeping the benchmark federal funds target rate close to 0.00% and corresponding monetary policy. Banks, in turn, will continue to set their own deposit rates on money market accounts, savings accounts, checking accounts, and CDs based on what the Fed does. So while Money-Rates.com continues to report on the best online bank deals, local banks are expected to keep rates low on deposits even after the stimulus package is passed into law.
The Fed, on the other hand, cannot directly control long-term interest rates, which are driven by market forces. Anytime the government issues debt either a public investor (like China or Japan) or a private investor is buying the debit in the form of United States Treasury securities. Eventually, if the economic condition in the United States deteriorates further, these buyers of US debt may require higher interest rates to compensate for the poor economic condition of the issuer. Mortgage rates, in particular, could be affected if Treasury yields are pushed higher.
The good news for homebuyers is that the final version of the stimulus bill is expected to contain some relief for the housing market. Democrats have pushed for a significant tax credit for homebuyers, while Republicans have advocated government intervention allowing homeowners to refinance their mortgages at a lower fixed rate. Either measure would help take some of the sting out of higher mortgage rates for homeowners and homebuyers.
Track the latest rates on mortgages and home equity loans on the Money-Rates.com Mortgage Page.
