The Impact of Higher Mortgage Rates on the Housing and Mortgage Markets

Abstract

With the Federal Reserve tightening monetary policy, mortgage rates are up considerably. Although higher rates challenge affordability nationwide, they are also associated with periods of strong economic growth, low unemployment, and higher inflation. These latter effects have historically outweighed the affordability effect, and home prices have generally risen, albeit at a slower rate, during periods of increasing interest rates. Although affordability is even more challenged now than it was just prior to the Global Financial Crisis, the housing supply shortage and solid labor market conditions provide a cushion for home price appreciation. Higher rates will reshape the housing and mortgage markets, however: Rate/term refinances are largely choked off, cash-out refinances are likely to continue at much lower levels, and purchase activity will be lower, as there will be fewer buyers and sellers. Higher rates will also lead to the expansion of the second-lien market.