The American economy, like most world economies today, is run on a system of fiat money, or money that is assigned its value by government decree. Since this money has no intrinsic value of its own, its value and supply must be carefully managed and regulated, not just within the nation’s borders but also in accordance with the economies of all other nations. In light of this need for careful stewardship of the economy, the United States maintains a central bank, called the Federal Reserve (or, more commonly, the Fed).

The Fed as it exists today is actually the United States’ fourth attempt at founding a central bank. In the midst of the Revolutionary War, America’s Continental Congress ratified the Articles of Confederation, which, among other edicts, gave Congress the power to issue bills of credit. A private national bank, modeled after the Bank of England, was established shortly thereafter, but was denied the opportunity to become a central national bank due to unease about foreign influence and other political concerns. The official First Bank of the United States was created in 1791, and lasted 20 years before being denied a renewal of charter by President James Madison. The Second Bank of the United States opened in 1816, and it too only lasted 20 years before President Andrew Jackson shut it down. Political opposition to the very idea of a central bank had been a chief culprit of these failures, and it would be almost a century before the United States would try again.

In 1907, a profound financial panic occurred, a direct result of a failed attempt by stock traders to corner the market on shares of the United Copper Company. The failure created a series of bank runs on those institutions that had backed the bid. As is often the case with bank runs, the atmosphere of worry spread nationwide, causing other banks to suffer runs and even leading to the collapse of, at the time, the third-largest financial trust in New York City, the Knickerbocker Trust Company. With no central bank in existence to attempt stabilization of the economy with an infusion of currency, the only reason that the crisis did not fling the country into irreparable economic turmoil was the work of private business tycoons such as J.P. Morgan, who banded together and contributed much of their own capital to bolster the banks. It was this barely dodged catastrophe that led to a series of financial reforms over the next few years, culminating in 1913 when Congress and President Woodrow Wilson passed the Federal Reserve Act.

In structure, the Federal Reserve is unique among the world’s central banks. Although it is designed to function as an entity “independent” of the federal government, thereby limiting its exposure to political influence, the Fed also employs a mixture of private and public sections in its operation—most similar banks in the world operate under either entirely private or entirely public ownership. It is also the only such bank to not make its own currency (which is instead printed by the United States Treasury). The Fed is managed by a Board of Governors, all of whom are presidential appointees, and is also comprised of the Federal Open Market Committee (FOMC) and representatives from twelve other Federal Reserve Banks located throughout the country.

The Fed has been reformed a number of times since 1913, especially so after the recovery from the Great Depression. Currently, its chief mandate is to provide the means to deal with bank panics, but it also sets interest rates, operates as a lender of last resort in case the banking system is in need of capital, and generally regulates the entire money supply by balancing the factors of employment rates and inflation. The importance of these functions to the American economy cannot be overstated. Any competent financial player in any market knows that a key component of success or ruin is an ability to observe, analyze, and possibly predict the actions of The Fed…and any competent Board of Governors is aware that The Fed is being closely watched.

In times like these, people tend to curb spending. But now is truly the time to go against the grain and capture the home purchase of a lifetime. We’re experiencing the perfect mix of low home prices along with historically low rates to make home buying a positive financial move. Here are a few other bonuses to buying in the current market:

Affordability
Prices have fallen in the last two years.  Economists expect this to level out by the end of the year, making this buying season the perfect time to capitalize on a home sale.

Inventory
With so many homes on the market, it’s easier to find the one that most closely matches your wish list. A larger selection of homes will also keep prices low for the time being.

Discounts
Builders are getting aggressive with their pricing in order to move units more quickly, putting a “new construction” home within reach — now more than ever.

In today’s market, the first step is pre-approval. This will ensure that you can afford your dream home. Please call me to help you devise the best plan for your upcoming purchase. And if you need to sell your home prior to buying something new, please let me know.

Click Here to download a printable version of the Spring 2009 Newsletter.

Market Comment
Mortgage bond prices rose last week pushing mortgage interest rates lower. The bond market absorbed the additional Treasure-issued debt supply. Surprisingly, retail sales figures were stronger than expected. The Fed’s continued efforts to pump money into mortgage bonds helped keep mortgage interest rates favorable. For the week, interest rates on government and conventional loans fell by about 1/4 of a discount point.

The Fed meeting Wednesday will take center stage. While the Fed is expected to leave rates unchanged, their post meeting remarks will be carefully analyzed. The producer price index and consumer price index releases will be the most important data this week.

Foreign Demand
China’s Premier expressed concerns last week about the US debt holdings they have. “We have made a huge amount of loans to the United States. Of course we are concerned about the safety of our assets. To be honest, I’m a little bit worried,” Wen Jiabao said. “I would like to call on the United States to honor its words, stay a credible nation and ensure the safety of Chinese Assets.” These remarks quickly caused panic in fixed income trading. The panic was eventually calmed but uncertainties  regarding the future of the entire US debt market continue. China is the largest foreign holder of US debt and continues to debate future purchases.

Global investors are constantly searching for opportunities that will provide the greatest return with the least risk. Investment products inherently all possess some sort of risk. As global financial markets struggled, many market participants searched for a safe haven in the US financial markets even with their shortcomings. With the backing of the US Government, investors viewed the US Treasury and mortgage bond markets as less risky investment opportunities amid global economic uncertainty. This resulted in an increased demand for US investments, such as the mortgage-backed securities that affect mortgage interest rates. Increased demand for mortgage bonds moves prices higher and interest rates lower. A reversal of this foreign demand could result in rates spiking higher.

Market Comment
Mortgage bond prices fell last week pushing mortgage interest rates higher. A Freddie Mac report of increased defaults sent bond prices crashing and interest rates higher mid-week. The Treasury auctions generally showed low foreign demand. The overall additional debt supply caused a decrease in mortgage bond prices. For the week, interest rates on government and conventional loans rose by about 1/2 to 5/8 of a discount point.

The employment report Friday will be the most important data this week. Analysts are expecting bad news but any surprise data showing some economic recovery could result in mortgage interest rate fluctuation.

Why Data is Important
When deciding to float or lock a loan, it’s important to know what data is going to be released and what effect it will have on the market. Economic releases provide a snapshot of a portion of the economy. Data is often the cause of market changes.

Floating into important economic data can be very risky and can expose a person to huge market swings. Keep that in mind this week, as there is an abundance of significant data heading our way.

Market Comment
Mortgage bond prices fell last week, pushing interest rates higher.  In global news, Spain joined Greece to become the second country in the Eurozone to have their debt downgraded by Standard & Poor’s.  A lower debt rating increases borrowing costs, which in turn aggravates attempts to finance massive bailouts. For the second week in a row, interest rates on government and conventional loans rose by about 3/4 of a discount point.

A Fundamental Week
The abundance of fundamental data this week provides a good opportunity for mortgages to improve. If the data shows weakness in the economy then it is possible for mortgage bonds to rally resulting in mortgage interest rate decreases. However, if the data shows that the economy is rebounding or any significant signs of inflation, mortgage bonds may fall pushing mortgage interest rates higher.