Increased federal interest rates could slow Inland Empire housing and car market
Cal State San Bernardino Economics Professor Daniel MacDonald spoke with KVCR's Jonathan Linden for their monthly discussion on economics here in the Inland Empire.
Professor Daniel MacDonald is the chair of Cal State San Bernardino's Economics department and the author of the weekly Inland Empire Economic Update email newsletter. You subscribe to his newsletter here.
Jonathan Linden: Each month, I sit down with Cal State San Bernardino Professor Daniel McDonald to discuss economics here in the Inland Empire. Just to get started here, Daniel, can you tell us what your economic indicator is for this month?
Daniel MacDonald: Sure, Jonathan, it's a pleasure to be here. My indicator for this month is the federal funds rate.
Jonathan Linden: Can you tell listeners a little bit about that?
Daniel MacDonald: Sure, the target federal funds rate was just raised by the Federal Reserve by 0.75% points last Wednesday and is currently at between 1.5% to 1.75%. The 0.75% percentage point increase that the Federal Reserve just made was the largest single increase in the federal funds rate in about 20 years. And experts expect even further increases in the federal funds rate over the rest of the year.
Jonathan Linden: And what does that mean for Inland Empire residents?
Daniel MacDonald: Well, Jonathan, when the federal funds rate goes up, all sorts of people in the Inland Empire will be paying more to buy things and to do business. That's because the federal funds rate influences a large amount of other interest rates in the economy. For example, the federal funds rate influences the interest rate that banks charge to its best customers, not just other banks, but to people and small businesses. And this affects those small businesses who need to borrow money to pay for a new project or to expand their business. And it also affects people borrowing money to finance all sorts of things, such as car purchases... pretty much anyone who relies on credit or borrowing money will be affected by this increase in the federal funds rate.
Jonathan Linden: Another topic I wanted to touch base on is gas prices and inflation here in the Inland Empire. How's that looking like right now?
Daniel MacDonald: Sure. So, the federal funds rate is actually being raised right now by the Federal Reserve in order to combat inflation, and gas prices are a big part of that. The Federal Reserve wants to slow down the pace of economic activity in order to slow down price growth. So, this is their tool to do it. Think about it as if you're raising the interest rates, and people are buying fewer cars, for example, or fewer houses, then that's going to slow down the price growth for those items, and therefore, it will hopefully have an impact on inflation. So, the Fed is looking at gas prices; it's looking at the rising inflation rate... for example, in the Inland Empire, we have about a 9.8% inflation rate. And it's saying, what can we do to slow things down? What can we do to halt this price growth? And their major tool to do so is to raise the interest rate.
Jonathan Linden: And we've been doing these monthly conversations since December, and we've discussed inflation quite a bit. And in the past, you haven't necessarily been super concerned with inflation. What are your thoughts on how inflation is looking like right now, not only here in the I.E., but across the U.S.?
Daniel MacDonald: Well, I really think the big event here that turned a lot of people's opinions around was the Russian-Ukraine conflict. So, when we had that conflict, it started to really increase gas prices, and also diesel prices. And that means that when people are not just driving to work, but when businesses are shipping goods all across the country, they're going to be paying more to do that, because they have to put them on trucks, and then the trucks use the diesel and so it's going to cost more. And so, for me, that has been kind of the big change that has increased my worries about inflation. It's really been this, you know, geopolitical conflict and the fact that we have this ongoing battle now, with prices. And so, the other thing, of course, is that the Federal Reserve has now decided to step in, right, and so that's another reason why I have become more concerned with it. A few months ago, the Fed itself was still very cautious about doing anything but literally just over the last two months, or so, we've seen heightened concern over this issue. And so, my beliefs have changed a little bit about the extent to which we should be worried about it.
Jonathan Linden: And Daniel, was there anything else that you wanted to share with our listeners?
Daniel MacDonald: Sure. Well, one other thing that I just like to mention is how interest rates will impact I.E. residents. For example, it's not just borrowing a car; it's not just your small businesses that are being impacted, but also people looking to buy a home. Indeed, since usually, people need to borrow money in order to pay for a home, a higher federal funds rate leads to higher mortgage rates as well. So, I believe we talked about this last time on our show, but the average 30-year mortgage rate has climbed about three percentage points over the last few months. It's now sitting at about 5.8%, and this is really largely because of changes in the federal funds rate. To put this increase into perspective, let's say you're looking to buy a house in the Inland Empire; the median price of a house in the Inland Empire is around $600,000. With a 10% down payment of 60,000, at 3% interest, that was the interest rate just a few months ago, your monthly payment would be about $2,277. But at a 6% interest rate, that same mortgage gives you a monthly payment of $3,238, so that’s about a $1,000 increase in your monthly payment. So, this will easily keep many Inland Empire residents away from being able to buy a home precisely because of these interest rate changes. So, it's all sorts of markets that we're going to begin to see a slowdown, and this could mean car prices finally start to go down, home prices might start to at least level off or possibly go down. All sorts of things that we do in the economy, especially those involving borrowing money, are going to see an impact by this change in the federal funds rate.
Jonathan Linden: Well, Cal State San Bernardino Economics Professor Daniel McDonald, thank you for taking some time to join me as usual.
Daniel MacDonald: Well, thanks, Jonathan. It's been a pleasure as usual.