I get that the fed funds rate influences mortgages: it goes up so do mortgage rates. But can anyone explain why there is such a high difference between fed funds (I believe it’s 1% now) vs mortgages (5-6%)? I know also that banks apply all sorts of premiums (default, market risk…) but why are they that high?
As a comparison, mortgage rates in the EU are still sub-2% with ECB rates at zero.
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In a super nutshell that’s more for broad concept not specific accuracy, in our current system banks don’t just keep billions of dollars in cash on hand hoping to make loans. What they’ll do is make a dozen loans during the day and then take a loan out from the Fed that night to cover the loans they made. So you pay your mortgage, the banks pay back the Fed.
So as a baseline, you can expect the bank rates to always at least have the Fed rate “baked in”. If it goes up, the mortgage rates up accordingly.
But on top of that the bank is a business, it’s looking to make money. It’s the banks math to work out, but they might say “we want at least 3% of any mortgage we offer as profit”, so now that bank’s mortgage rates are going to be 3+Fed rate.
On top of *that* the bank now needs to factor in things like risk of default, risk of losing clients due to undesirable rates, risk of other random things they are looking to hedge with their mortgage business. Etc.
So now you get math like 3% + Fed Rate +/- adjustments to seal the deal.
It’s not really fair to apples to apples compare different nation’s mortgage rates, there tons of other factors like local and regional laws, trends in “how they bank” and the current economic situation unique to each location.
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