The debt ceiling’s impact
With the national default deadline looming, the federal government reached an agreement to raise the debt ceiling.
The economy’s resilience and uncertainty surrounding the debt ceiling negotiations caused mortgage rates to climb, according to Freddie Mac Chief Economist Sam Khater.
Many homeowners and potential home buyers hope this means lower interest rates as we head into summer. Read on to learn more about the debt ceiling and its impact on the housing market and mortgage rates.
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What is the debt ceiling?
Also known as the debt limit, the debt ceiling represents the maximum amount of money that the United States Treasury can borrow to pay the nation’s bills.
The U.S. hit its current borrowing limit of $31.4 trillion in January. That means the federal government cannot currently increase the amount of its outstanding debt, and paying the nation’s bills becomes more complicated.
In a letter to Congress, Treasury Secretary Janet Yellen said the U.S. could be incapable of paying its debt as early as June 1. If so, the federal government is at risk of defaulting for the first time in U.S. history.
She goes on to say the U.S. defaulting on its bills could cause “irreparable harm” to the U.S. economy. Interest rates on credit cards, auto loans and mortgage rates could skyrocket.
By increasing the debt ceiling, the Treasury can borrow funds to pay for government obligations, such as Social Security and Medicare benefits, tax refunds, military salaries, and interest payments on national debt.
What is the relationship between the debt ceiling and mortgage rates?
Although the debt ceiling itself doesn’t directly determine mortgage rates, its impact on the overall economy could wreak havoc on rates. The potential consequences and uncertainty associated with reaching the debt ceiling could impact investor confidence and lead to changes in interest rates, including mortgage rates.
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“The debt ceiling debate can have a direct impact on the economy and mortgage rates. Continued delays will lead to increased uncertainty and result in upward pressure on mortgage rates,” said Shane Spink, regional manager for Acopia Home Loans.
What happens to mortgage rates if the debt ceiling is raised?
With a resolution reached and the debt ceiling raised, things should mostly return to normal. The U.S. never hit the ceiling before — although it’s gotten close in a few instances and those came with minor economic repercussions.
With the fear of a default removed and stability reestablished, consumer confidence will likely be restored and interest rates should slowly start coming down over the next 60 days.
What happens if the federal government does not raise the debt ceiling?
Not raising the debt ceiling could lead to dire consequences for the U.S. economy.
If the debt ceiling isn’t raised in time, the added uncertainty in our nation’s economy could negatively affect financial markets and interest rates across many sectors, including mortgage rates. This is because a debt default would force the Treasury Department to pay higher interest on its bonds to convince investors to stay the course.
Mortgage rates typically move in lockstep with yields on 10-year Treasury notes. Unless Congress moves quickly, yields could rise as the demand for Treasury notes could temporarily halt if investors worry that Treasuries are now a risky investment. Additionally, bondholders could seek higher rates to balance the increased exposure.
In either of these scenarios, rising yields could push mortgage rates higher. Higher mortgage rates can have several effects on the housing market and potential homebuyers.
First, higher rates increase the cost of borrowing, making mortgages less affordable for many buyers. This could also reduce overall demand for homes and potentially slow down an already struggling housing market.
Second, higher mortgage rates can impact the ability for existing homeowners to refinance their mortgages. When rates rise, refinancing becomes less popular, as the potential savings from refinancing decrease. This can impact a homeowner’s ability to access lower rates and potentially reduce their monthly mortgage payments.
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Higher mortgage rates can also result in a ripple effect within other sectors of the economy. The housing market is deeply linked to a number of industries, such as construction, real estate and home improvement. Slower housing activity due to higher rates can dampen all these sectors, leading to job loss and decreased economic growth.
What happens to the housing market if US defaults on debt?
Any default, whether its short-lived or a lengthy road to recovery, could trigger a recession. The potential for job loss is massive, leading to an interruption in income for millions of Americans.
Consumers and workers could be hurt almost immediately as the federal government may be forced to cut back benefits and paychecks. As interest rates rise, so do borrowing costs. Rising rates in addition to withheld paychecks, could seriously impact housing, both in the short-term and long-term.
Investor sentiment would be impacted negatively, as it raises concerns about the government’s ability to repay its debts.
Not only would it add to an already struggling housing market that’s suffering from a lack of inventory and rising mortgage rates, getting a mortgage loan would become even more challenging. Small businesses would also struggle as getting a small business loan would become more difficult.
“We are already seeing what higher rates are doing to the overall housing market,” Spink says. “If the debt ceiling isn’t raised in time, this could be an unnecessary addition to already higher rates in a time where we would typically see accelerated applications during peak summer months”.
The bottom line
The debt ceiling has long been a contentious issue in the United States, with debates and political battles often becoming a major topic when the government nears its borrowing limit.
Whenever the risk of defaulting on the nation’s debt looms over the U.S economy, it’s important to keep a close eye on the debt ceiling debate, as well as its potential effect on mortgage rates and the housing market.
Whether you’re considering a new home purchase or a refinance, mortgage borrowers should speak with a lender about the available options for locking in a favorable rate prior to a potentially drastic jump in interest rates.
