5 Factors that Contribute to Fluctuating Interest Rates on Home Loans

Interest rates on home loans depend on both national and personal factors. As a borrower, you should understand that there are many factors that determine interest rates in conjunction with your application. This is particularly true in turbulent economic times when interest rates are likely to fluctuate tremendously.

#1 National Prime Interest Rate

The national prime interest rate is set by the Federal Reserve and is part of the federal economic policy. Though the Fed is not part of the government itself, it works closely with the government to set rates that encourage lending and curb inflation. During a recession, the prime rate tends to go down, making most home loans more affordable.

#2 Market Stability

Even as a recession drives interest rates down, it can drive the number of loans on the market down as well, making them harder to secure. When lenders do not have a lot of surplus cash, they cannot make as many loans to commercial and personal borrowers. Lenders are at a lack of cash when the economy is slow. Existing loans default in high numbers, meaning lenders are losing money on past decisions. The result is a weaker credit market, less loans, and possibly higher interest rates on the remaining loans available.

#3 Appetite for Risk

Lenders have a certain appetite for risk based on economic circumstances around them. When the economy is strong, a lender will be more likely to fund a risky loan in order to catch bigger profits. In a slow economy, lenders shy away from risky loans because they see previous loans are already going into default. This means a risky borrower will have to pay more in interest rate to secure a basic home loan during a recession.

#4 Government Programs

The government may encourage the purchase of homes when the housing market is crashing. The government does this in a number of programs including guaranteeing loans from private lenders, offering tax incentives and creating specific need-based loan programs to encourage low income or first-time buyers to get into the housing market. Not all presidential administrations take the same types of actions; however, most will aim at stimulating the housing market in some way during a recession. The housing market is thought to be a basic metric for how well the rest of the economy can perform, so all policy is aimed at a healthy housing market. 

#5 Your Personal Credit Score

Your personal score carries over to each of these other factors. If you are a high-income, high-credit borrower, your ability to get a home loan at a good interest rate should not change that much no matter the general economy. Those persons with low down payments, low incomes and bad credit scores are most affected by credit market swings. Lenders are more likely to fund these high-risk loans in good economies. When the economy is slow, these borrowers in particular need to look to government programs to assist them in getting into a home at a good interest rate.