The Inflation Factor: Exploring Its Effect on Mortgage Rates

The Federal Reserve's decision to address inflation can have implications for the housing market and your plans to buy a home. Inflation refers to the general increase in prices of goods and services over time, and it can impact the overall economy and consumers' purchasing power.

To combat inflation, the Federal Reserve may implement monetary policies, such as raising interest rates. One of the key tools the Fed uses is the federal funds rate, which influences other interest rates, including mortgage rates. When the Fed raises interest rates, it becomes more expensive for banks to borrow money, leading to higher borrowing costs for consumers, including homebuyers.

Higher interest rates can affect your plans to buy a home in several ways. First, it can increase the cost of borrowing for your mortgage, resulting in higher monthly payments. This may impact your affordability and the type of home you can purchase. Additionally, higher interest rates may deter some potential buyers from entering the market, leading to decreased demand and potentially stabilizing or cooling home prices.

However, it's essential to note that the Fed's decisions on interest rates are not the sole factor influencing the housing market. Other factors, such as housing inventory, job market conditions, and overall economic health, also play a significant role in determining the housing market's direction.

As a potential homebuyer, staying informed about the Fed's decisions and their potential impact on mortgage rates can help you make informed decisions. It's advisable to work closely with a trusted real estate professional who can guide you through these market dynamics, assist in finding the best mortgage rates, and help you navigate the home buying process with confidence. Remember that the housing market is dynamic, and staying up-to-date with the latest developments is crucial in making sound decisions for your homeownership journey.

While you may have been hoping the Fed would stop their hikes since they’re making progress on their goal of bringing down inflation, they don’t want to stop too soon, and risk inflation climbing back up as a result. Because of this, the Fed decided to increase the Federal Funds Rate again last week. As Jerome Powell, Chairman of the Fed, says:

“We remain committed to bringing inflation back to our 2 percent goal and to keeping longer-term inflation expectations well anchored.”

Greg McBride, Senior VP, and Chief Financial Analyst at Bankrate, explains how high inflation and a strong economy play into the Fed’s recent decision:


“Inflation remains stubbornly high. The economy has been remarkably resilient, the labor market is still robust, but that may be contributing to the stubbornly high inflation. So, Fed has to pump the brakes a bit more.”

Even though a Federal Fund Rate hike by the Fed doesn’t directly dictate what happens with mortgage rates, it does have an impact. As a recent article from Fortune says:

“The federal funds rate is an interest rate that banks charge other banks when they lend one another money . . . When inflation is running high, the Fed will increase rates to increase the cost of borrowing and slow down the economy. When it’s too low, they’ll lower rates to stimulate the economy and get things moving again.”

How All of This Affects You 

The relationship between inflation and mortgage rates is indeed significant and can directly impact your ability to buy a home. As inflation rises, it erodes the purchasing power of the dollar over time, leading to higher prices for goods and services. To combat inflation, the Federal Reserve may raise interest rates to reduce borrowing and spending, which can have a direct effect on mortgage rates.

When inflation is high, mortgage rates tend to follow suit, as lenders factor in the higher inflation rate when determining the interest rate for loans. As a result, higher mortgage rates can lead to higher monthly mortgage payments and potentially reduce your buying power.

On the other hand, if the Federal Reserve's efforts to combat inflation are successful, inflation rates may come down. As a consequence, mortgage rates could also decrease, making homeownership more affordable for buyers. Lower mortgage rates mean lower borrowing costs, resulting in more favorable monthly payments and potentially increasing your purchasing power.

It's important to keep in mind that the relationship between inflation and mortgage rates is not always immediate or direct. Many other economic factors also influence mortgage rates, including overall economic growth, market sentiment, and global economic conditions.

As you consider buying a home, keeping an eye on inflation trends and Federal Reserve policy changes can be helpful in understanding the potential direction of mortgage rates. Working with a knowledgeable real estate agent and a mortgage professional can provide you with valuable insights and help you navigate the current market conditions to make the best decisions for your homeownership goals. Remember that the housing market is dynamic, and being proactive in your approach can give you a competitive advantage in today's changing landscape.

As the data above shows, inflation (shown in the pink trend line) is slowly coming down and, based on historical trends, mortgage rates (shown in the blue trend line) are likely to follow. McBride says this about the future of mortgage rates:

“With the backdrop of easing inflation pressures, we should see more consistent declines in mortgage rates as the year progresses, particularly if the economy and labor market slow noticeably.”

Bottom Line

What happens to mortgage rates depends on inflation. If inflation cools down, mortgage rates should go down too. Let's talk so you can get expert advice on housing market changes and what they mean for you.