There’s a good deal of uncertainty surrounding tariffs and what they will do to the economy – especially mortgage rates.
In today’s global economy, tariffs—taxes on imported goods—are an important tool used by governments to influence trade and protect domestic industries. When a country, such as the United States, imposes tariffs on products from other nations, it can affect not just the prices of those goods but also the broader economy.
One of the key areas impacted by tariffs is inflation, which is closely monitored and managed by the Federal Reserve.
Understanding how tariffs influence inflation helps explain how they complicate the Federal Reserve’s role in keeping the economy stable.
What Are Tariffs and Why Are They Used?
Tariffs are used by governments to make imported goods more expensive, with the goal of encouraging consumers to buy domestically produced products instead.
For example, if the U.S. imposes a tariff on foreign-made steel, American steel becomes more competitive in price.
While this might help U.S. manufacturers, it also raises the cost of materials for other businesses that rely on imported goods, leading to higher prices for finished products.
Tariffs and Consumer Prices
When companies have to pay more to import goods, those increased costs often get passed along to consumers.
This leads to higher prices for everyday items like electronics, clothing, and food. These price increases contribute to inflation, which is the general rise in the cost of living.
Tariffs can also raise production costs for businesses, which can then slow economic growth or cause companies to cut jobs to balance their budgets.
What Is Inflation and Why Does It Matter?
Inflation refers to the rate at which prices for goods and services rise over time. A low-to-moderate level of inflation is normal and can signal a healthy economy.
However, when inflation rises too quickly, it can erode purchasing power and lead to uncertainty in the market. People may struggle to afford necessities, and businesses might delay investment. That’s why inflation control is one of the primary responsibilities of the Federal Reserve.
You can find out more about inflation and mortgage rates here…
The Role of the Federal Reserve
One of the Fed’s key jobs is to manage inflation and promote stable prices by adjusting interest rates and using other monetary policy tools.
When inflation rises, the Fed often raises interest rates to slow down spending and borrowing.
Conversely, when inflation is too low, the Fed may lower interest rates to stimulate the economy. Tariffs can interfere with this balance by introducing unexpected upward pressure on prices.
How Tariffs Complicate the Fed’s Decisions
When inflation is driven by tariffs rather than strong consumer demand, it creates a challenge for the Federal Reserve. If the Fed raises interest rates in response to tariff-driven inflation, it could unintentionally slow the economy or increase unemployment.
However, if it does nothing, inflation might continue to rise. This puts the Fed in a difficult position, having to choose between fighting inflation or supporting growth—two goals that can conflict when tariffs are involved.
Real-World Examples
Recent U.S. tariffs on Chinese goods and other imports have demonstrated these effects. Following the trade war between the U.S. and China, prices rose for goods like washing machines, electronics, and industrial materials.
Inflation increased in some sectors, and businesses adjusted by either raising prices or cutting costs.
The Federal Reserve had to carefully analyze these developments when making decisions about interest rates and monetary policy during that time.
Inflation, Mortgage Rates, and Treasury Yields
Mortgage rates are primarily driven by inflation, which erodes the buying power of the fixed return that a mortgage holder receives. When inflation rises, lenders demand a higher interest rate to offset the more rapid erosion of their buying power.
Fixed mortgage rates and Treasury yields tend to move together because fixed-income investors compare the returns they can get on government and mortgage-backed securities.
Investors compare yields on long-term Treasuries to mortgage-backed securities and corporate bonds. All bond yields (including mortgage backed securities) are affected by Treasury yields, because they compete for the same type of investor.
Mortgages, in turn, offer a higher return for more risk. Investors purchase securities backed by the value of the home loans—so-called mortgage-backed securities.
When Treasury yields rise, investors in mortgage-backed securities demand higher rates. They want compensation for the greater risk.
What Really Causes Rates to Rise and Fall?
Mortgage rates are determined by a complex interaction of economic factors, such as the level and direction of the bond market, including 10-year Treasury yields; the Federal Reserve’s current monetary policy, especially as it relates to funding government-backed mortgages; and competition between lenders and across loan types.
Because fluctuations can be caused by any number of these at once, it’s generally difficult to attribute the change to any one factor.
Although in our current situation, inflation (and the Fed’s fear of it) is the number one cause. When this is coupled with the large increase in government spending and tariff uncertainty, you see a double dose of fear in the markets.
Conclusion
These are some very interesting economic times, indeed…and not easy for monetary policy specialists.
The Fed must carefully evaluate whether inflation is being driven by consumer demand or by policy decisions like tariffs.
As global trade tensions continue to influence markets, the relationship between tariffs, inflation, and the Federal Reserve remains a critical area of economic concern – and these will all impact mortgage rates.
All of these factors are causing uncertainty in the marketplace, and have negatively impacted mortgage rates in the last month. With that said, inflation really is the key driver…and if those readings come down, mortgage rates will, too.
Do reach out to me to discuss what’s happening in the marketplace and how you might be able to take advantage!
The blog postings on this site represent the positions, strategies or opinions of the author and do not necessarily represent the positions, strategies or opinions of Guild Mortgage Company or its affiliates. Each loan is subject to underwriter final approval. All information, loan programs, interest rates, terms and conditions are subject to change without notice. Always consult an accountant or tax advisor for full eligibility requirements on tax deductions.
