How are governments driving up fixed mortgage rates?

April 23rd, 2009

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Newton’s Third Law of Motion says that for every action, there is an equal and opposite reaction. Likewise, in the field of economics and finance, for every government intervention in the financial market, there is always a side-effect (some of them will be unintended).

As Marc Faber reckoned, the bull market for long-term government bonds, which started in the 1980s, has come to an end in late 2008, with a tentative rising trend of long-term government bond yields. With the private sectors all over the world de-leveraging (unwinding of debt) in an unprecedented scale from an unprecedented credit bubble, governments will be forced to fill the slack via bailouts and stimulus. As our of our concerned readers pointed out the government’s “spend, spend, spend” slogan in Can government create jobs?, government budget deficit will be a rising trend all over the world.

Consequently, government borrowings will have to increase (or taxes raised and/or money being printed). In a world where credit is scarce, government demand for credit will make it even scarcer. If the government resort to ‘printing’ money (issuing government bonds from thin air to be sold to central banks who created money from thin air to buy them), concerns about rising long-term government inflation will force long-term government bond yields to go up. As a result, this will result in a trend of rising long-term interest rates.

As fixed rate mortgages tend to follow long-term interest rates, banks will be raising their fixed mortgage rates too.

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