We know the Federal Reserve has lowered its target overnight lending rate to 3.75% from 4%. That sounds great to most people; however, is it signaling a slowdown in the economy, or is it responding to one? The answer to this might very well surprise you. We will also need to discuss where interest rates are going from here. There is a lot at play in the financial markets currently that is not being reported in the mainstream media.
Let’s jump right in to why the Federal Reserve, or the “FED”, lowered its rate in the first place. The Fed lowers interest rates to stimulate the economy, and this has been done for decades. The only interest rate the Fed has to work with is the Federal funds rate, or referred to as the overnight lending rate. This is the interest rate that member banks can borrow from the Fed to accommodate their reserve requirements or to loan more money to their customers. This is called fractionalized banking, where banks can lend out the majority of people’s savings held in their bank. The idea of lowering rates is to stimulate banks to lend more money, so if the money is cheaper, they can lend at lower interest rates. Lending at lower rates means lower rates for the consumer and businesses.
Ok, now that we understand how the lower Fed funds rates come back to the economy, we need to ask the question as to why they want to create more demand for money. The main reason is to stimulate consumers and commercial borrowers to borrow more money. By lowering interest rates, the idea is that people and businesses will borrow more money for expansion or to lower the payments on existing debt, freeing up more money to invest in the economy. When the economy has more money, the theory is that it will create more jobs by companies investing in expansion, and it will put more money in the consumer’s hands to buy more stuff. This demand side effect stimulates producers of goods and services to produce more, thus expanding the economy.
This is all theory and has proven to work in the past, as it makes sense. Will this strategy work this time, or will it not be enough or too much? If the Fed lowers rates too much, what we see is inflation. The reason we see inflation with low interest rates is that consumers will borrow more to buy more stuff, like houses and cars, and other goods and services. If supply can’t keep up with demand for goods and services, then the cost of goods and services goes up with higher demand. This is why it is a dance; every time the Fed does something with interest rates, it is basically an educated guess when they raise or lower interest rates. When interest rates come down, the Fed also must authorize the printing of more money so it can accommodate the demand for it, and with the supply of money increasing, it can lower the value of the dollar, and you get inflation, which is a killer to all economies. We have been seeing the devaluation of the dollar on the world stage over the last 5 years as the petro dollar is going away slowly (this is a discussion for another article). This causes the price of foreign goods to go up. The Tariffs that are being imposed on other countries on their goods being imported to the US are also something to be taken into consideration. In fact, the tariffs that this administration has put on other countries scared the FED into believing that this would cause inflation, and that is a reason they have taken so long to lower interest rates.
Next, we need to ask the question of where interest rates are headed in the future. This will depend on how the Federal Reserve perceives the economy as growing or contracting. If the economy shows signs of heating up and inflation continues to be outside of their 2% annual target rate, then they may not lower rates again in the near future. If the Fed sees the economy as slowing still, with higher unemployment and low growth, they will continue to lower interest rates.
What I believe will happen, based on my economic background of 40+ years, is that the data that is usually given to the Fed to make their economic decisions has been suppressed due to the government shutdown, and the Fed is running blind until the real numbers are revealed. The Bureau of Labor and Statistics (BLS)is where the Fed gets the data to make its economic decisions, and the BLS has been far less than reliable over the last 5 years, with huge data corrections in the numbers they issue for the Fed to make decisions. We have not had real unemployment numbers from the BLS since September, and those numbers were corrected later in the month to show a large number of people filing new claims for unemployment. What this means is that the economy is in far worse shape than what is being reported, and when the Fed gets wind of what the actual numbers are they will have to lower interest rates. I have worked in the mortgage business for 40+ years now, and I have seen many different market indicators, but this one has me seriously concerned. The last two and a half years in my business have been extremely slow, with no real money moving. This has been because the rates were way too low in 2020 and 2021and those who have those low rates have not wanted to refinance to a higher rate to take money out to help the economy. Then rates went from the 2’s and 3’s to 7% in a matter of months, effectively slowing down the economy and taking out a whole segment of people who now could not afford to buy a house. I think that Interest rates will have to come down significantly in the next 6 months once the FED realizes that the economy is far worse than they imagined. The wild card will be inflation numbers if jobs continue to be lost, along with higher inflation, which will give the Fed an almost impossible task. Look for a new Federal Reserve Chair next year as Jerome Powell will be stepping down sometime in 2026. One thing that will stay constant is change, so keep learning and make good financial decisions.
As I write this article, I currently have a home listed for sale out of my portfolio, and it is not being shown even though it falls into the affordability range for a normal wage earner in California which is a $399,000 sale price. You will need to make upwards of $10,000 a month in income to qualify for this house, and a 3% down is $12,000, which does not include closing costs. The mortgage payment would be around $3,000 a month. You would need to make upwards of $8,000 a month or right about $100,000 a year to qualify for this starter home. If you are wondering why Real Estate sales are slow, this is a perfect example.
So how do you fix this situation? It will not be an easy fix, but first, the interest rates must move down. However, Jerome Powell, who is the head of the Federal Reserve, just said they are not lowering interest rates, so the economy will continue to falter. I truly believe that we are currently in a recession, but the numbers being reported by the Bureau of Labor Statistics are stating otherwise, and those are the numbers the Fed goes by when making interest rate decisions. I truly believe that something is amiss, and we the people are not being told the truth, neither are the President and his advisors, and they all go off the same numbers to make economic decisions. Apparently, they figured this out, and President Trump just fired the head of the BLS. The problem now is how to fix the damage that has been done.
Aside from the bad numbers being reported, there is real trouble in California and other states with getting Insurance for houses. With all the wildfires in California, Insurance companies have left the state as the state legislature has not allowed private insurance companies to raise their rates to cover the losses. Meanwhile, you have the California Fair Plan (play on words or double speak for us older folks), which is California’s attempt to issue insurance for fire coverage. The “fair plan” isn’t so fair, as it is 3 to 4 times more expensive than regular insurance companies. I understand that as I write this, the California Fair Plan is going broke and is being funded by taxpayers. I have seen quotes on this insurance for a home in the foothills of California upwards of $9,000 a year. This alone will deter people from buying homes, and in the foothills where the insurance is this high, you are seeing prices of homes falling to compensate for this, but you can only lower the price of the home so much before you have to give it back to the bank. We see foreclosure rates climbing all over the state, but it is the highest in the foothills as people are forced to take this insurance per the lenders holding the notes on the properties. As you know, if you get a mortgage on a home, you are required to have insurance.
So it is a perfect storm for the Real Estate market in California with high interest rates, high cost of insurance, and a declining demand for home ownership. As we get into the increased cost of living in California, that will open your eyes further. We have the highest gas prices in the nation, the highest state income taxes, and high property taxes, and with those being high, our food prices and durable goods are high as well. This is a major factor for people leaving California, as it is too expensive to live here. Our utility prices are the highest in the nation and getting higher as the environmentalists have convinced our leaders to get rid of water dams in the Northern part of the state, which has caused the destruction of power generation. We are also seeing water shortages for farmers and whole communities being decimated due to this insanity. It is time for a leadership change in California before it becomes a home for the rich, as they will be the only ones who can afford to live here.
Next up on the economic insanity in California will be the loss of jobs. We have already seen major oil companies leave California, such as Valero and Chevron, and in the Tech industry, we are losing many companies every day as they realize the cost of doing business in California is too prohibitive. With Artificial Intelligence (AI) taking the workload off, you will see a continued decline in jobs. With the loss of companies, you lose individual jobs. In California, we also have a huge population of State and government workers. Traditionally, these jobs have been pretty safe, but if you are losing population, you lose tax base, and with the loss of tax base, those State and government jobs become less needed, so you have to lay them off as well, and it’s coming. Another problem will be retirement for these State workers and those who are on retirement currently. You see, when the majority of the jobs are low-paying jobs, such as service providers, your tax base erodes even further, thus putting more strain on the system until it breaks. The first to go will be the retirement of those who worked for the government, and that will be a major blow, as some state retirees are receiving upwards of $200,000 a year in retirement, and if there are more retired folks than working folks putting into the retirement system, it fails and fails fast and deep. California is close to this happening as the powers at be seem to be more concerned about eating at the French Laundry than actually taking care of the real problems in this state, and it shows.
What this means for the Real Estate is not good for the next year or so. As unemployment rises, people lose their jobs, and the foreclosure rate will continue to grow. Those who have jobs will need money to pay their bills, so they will have to go into the equity in their homes, and with high interest rates, they will not be able to qualify for more money. In the first Quarter of 2026, Interest rates will have been lowered enough for more people to qualify for additional money from their homes. Over the last 2-3 years, after the low rates of 2020 and 2021interest rates have risen to the 7’s from the 2s and 3s. This has made it much harder to qualify for a mortgage, and couple that with high inflation, people have been struggling to just get by. It has been harder to save money when you have high inflation, as it does not serve anyone to save in an inflationary time, so people’s savings have depleted, in addition to everything else.
We are going to have to go through some tough times before it can get better is where this is all going. But there is light at the end of the tunnel, and hopefully it is not a train for you. This is the usual business cycle, and the market must correct itself in order to survive. This cycle is inevitable and has been going on since the invention of the Federal Reserve in 1913, and until we change that it will continue this way. I pray the powers at be change things so we can become a country of Assets again and not debt like we currently are. I see it changing, and maybe by my next article, things have changed, and I can report on a new or enhanced monetary system.
By now you have heard about the banks that have failed. But what does this mean for mortgage rates and Real Estate? The banks that have failed have been bailed in by the Federal Government. Bailed In is different from bailed out in that a bailout keeps the bank doors open and Bailed In only gives deposits back to the depositors. To be clear if you had stock in those failed institutions it is now worth nothing but if you had a checking or savings account in one of these institutions you will be whole courtesy of the Federal Government. This is good for individuals who had deposits in those institutions but those who held stock in those institutions have lost their entire investment. So what does this tell an economist that is looking towards the future of all banks and monetary policy moving forward and what will happen with Interest rates and Real Estate?
What is next and what are the consequences of these banks failing, of the government bailing in depositors, inflation, and interest rates? This goes deep and you may have figured out some of what is going on but the underlying issues you may want to put your seatbelt on for the ride. You see knowing why these banks failed you may have heard on your favorite media source that told you that rising interest rates and poor asset management is what you have heard. Meaning that when interest rates have risen the banks had assets that were purchased in a low-interest rate environment and now that rates have risen to more than double what they were when the assets were purchased thus devaluing the held assets. When the customers came in to take money out of the bank it did not have enough assets set aside to cover the demand for the money so they failed. That is the rhetoric we are hearing and some of it is true, however, we should be looking at what has happened to the dollar's value lately and why. The dollar has lost a significant amount of value in the world marketplace and this has played a role in these collapses due to inflation and social economic factors in the world.
Here is the problem I see as a follower of economics. Inflation, we all know has been a problem with the high price of fuel and groceries, and consumer goods. We also know that the Federal Reserve will raise interest rates to fight inflation, to slow the economy down. Inflation is caused by a few things; One where the demand for goods and services exceeds the supply of goods and services; Two, when the value of money declines; Three when there is an oversupply of money in the economy; Fourth, and one that nobody wants to talk about and that is when people and other nations do not value the dollar as they used to and have lost some of their belief in the dollar. The last one there is the biggest problem that no one is talking about as it goes against everything we have always been taught and that is that the US government and the US dollar issued by the Central bank is no longer favorable to trade for goods and services on the world stage. This will be a topic for future blogs.
The problem with the government bailing in depositors is the Government will be infusing more dollars into the economy and that will further dilute the supply of money and create more inflation. What you may not have heard or understood is that the average deposit in the Silicon Valley Bank was or is $2 million dollars and the Federal Deposit Insurance Corporation (FDIC) only insures deposits up to $250,000. Yesterday, Biden told the world that the Federal Government would make up the difference to all depositors. This was an attempt to calm the public from taking their money out of the banks and causing a complete failure of the banking and the Federal Reserve system. You see, if you and I stop believing in the US dollar as a means of trade for goods and services then the dollar is useless and all US citizens have lost everything they have worked for. This is a simplified view however, the US dollar is backed by debt, not by gold, or silver, oil, or anything of tangible value. It has always been said that the dollar is supported by the good faith and full backing of the federal government. The same government is $31 Trillion in debt.
Our world has now become more confusing than ever, if interest rates rise to combat inflation, then the economy will slow further, more jobs will be lost and the potential for more bank failures will loom if they have been holding low-interest rate assets as reserves. If the Federal Reserve halts its interest rate march upward then we will continue to have higher inflation. Another issue we all should be watching as citizens is the introduction of the BRICS monetary system that is supposed to go into effect in August of this year. If you are not aware of what this is you should know that it stands for Brazil Russia India China South Africa and it is where these counties have got together to create a new currency to replace the US Dollar as the world's reserve currency. Since its announcement Saudi Arabia, Egypt, Iran, Iraq, and many other countries and most recently Mexico is joining this new currency and denouncing the US dollar. What this could mean to the US dollar could be staggering so stay tuned on this.
What does all this mean to the Real Estate business? It will all depend on how people view this current situation. Will investors look to real estate as a stable investment no matter what interest rates are at or will they stay on the sidelines in the current interest rate environment? This question might be answered by looking at the super-wealthy and what they are doing with their investments. Some of these whales or super investors are looking to real estate as an investment so in the short-term, this could be good. Myself having been in this business for almost 40 years, I have never seen anything quite like this and pray it turns around as housing is the foundation of America as it supports all aspects of American life. I have to stay positive as I believe we all have to and when investors come back into the Real Estate game we will be here for them with open arms. MAE Capital Real Estate and Loan is here for all of your Real Estate needs.