Is The Fed Out Of Touch?
Welcome to the Real Estate Espresso podcast, your morning shot of what’s new in the world of real estate investing. I’m your host, Victor Menasce. On today’s show, we’re talking about why the Fed is so disconnected from other central banks around the world.
Only a few short months ago, you would regularly hear that historically low interest rates of the 2010s were a thing of the past and we can’t expect to see them again in our lifetime. Well, we’re not far from those rates again, except in the good old US of A. The Federal Open Market committee is meeting this week, and we expect the rate announcement later today. The central bank is widely expected to hold rates constant at this week’s meeting with the market having priced in a 96% chance of no rate change at all.
The Bank of Canada dropped its benchmark rate a little over a week ago to 2.75%, and the bank prime rate in Canada now sits at 4.95%. That’s the rate that most Canadian banks charge to their best clients. Long-term financing in Canada for multi-family apartment projects is indexed to the yield on the 5-year commercial mortgage bond rate or the 10-year commercial bond rate. Right now the 5-year CMB is sitting at 2.95%. That means the loan rate for a CMHC MLI-select loan, if it were locked today, would be at 3.3%. That’s a very acceptable rate and quite frankly, it’s one of the reasons why investing in Canada is looking pretty attractive at the moment, all the tariff discussions notwithstanding.
The European Central Bank also cut its central bank lending rate another quarter point on March the 6th. Accordingly, the interest rates on the deposit facility, the main refinancing operations, and marginal lending facility, were all decreased to 2.5%, 2.65%, and 2.9 respectively, all of them were effective March 12th. The European Central Bank has three benchmark rates, not one, but such rates represent a significant divergence from the Fed.
The Bank of England is the only major central bank that seems to be in lockstep with the Fed, but for completely different reasons. The Bank of England will make their rate announcement on Thursday this week and they are widely expected to hold rates steady at 4.5%. Citing uncertainty in trade as a primary reason for higher rates. Going back to the U.S, The Fed is struggling to balance mixed signals.
Employment’s weak. Inflation is coming down, in fact lower than what they are representing with their imputed models. Tariffs might be increasing consumer prices but artificially. Using higher rates to reduce demand is not going to cause prices to go lower. If the consumer side of the economy is weak, it is likely to get worse under the weight of the trade war before things get better.
The most telling of all is the yield on the two-year treasury, which has fallen from 4.36% in the middle of February to below 4% at the beginning of March. It’s crept back up to around 4.03% at the time of this publication, but this is still a very clear market signal that the current Fed fund’s rate of $4.25 to $4.5 is seen as too high by the market.
The market is clearly saying they don’t believe the rhetoric coming from the Fed. The market believes the Fed will be forced to lower interest rates in the near term when signs of economic weakness are screaming so loudly that the Fed will be late to the party and be reacting to the better-late-than-never news.
The problem is the Fed is caught in a trap. According to a recent analysis from Moody’s Analytics that was performed for the Wall Street Journal, households in the US with the top 10% of incomes — making about $250,000 per year or more — now account for nearly half of all consumer spending, the highest share since they’ve been collecting data on consumer behaviour.
If we see a major correction in the stock market, we can expect these top 10 percenters to cut back on consumer spending. That’s going to have a negative impact on the economy that’s already teetering on the brink of a recessive economy. When senior citizens earn income from bonds, they recirculate 70% of those dollars in the economy. And when they make profits in the stock market they only recirculate a small percentage of those profits in the economy.
If the Fed lowers interest rates then that will impact the primary source of income that seniors need to fund their retirement. And we have 25% of homes in the US owned by people that are 70 years of age or older. If they need extra cash, they’re probably not going to refinance their home. They’re most likely going to sell. It’s possible we could see a deluge of older properties with deferred maintenance coming onto the market within a very short period of time.
The Fed is out of touch with what is happening in the economy. And they are relying on economic models that have far too many imputed numbers. I predict that they will hold rates steady at today’s announcement. And then they will realize their mistake in the coming meetings and make an even larger cut.
There has never been a point in history when global trade has slowed like today and the U.S. economy has continued, chugging along as if nothing happened. We will see a bigger drop in interest rates in the second quarter as the U.S. plays catch up to the rest of the world. As you think about that, have an awesome rest of your day. Go make some great things happen. I’ll talk to you again tomorrow.
Stay connected and discover more about my work in real estate and by visiting and following me on various platforms:
