Understanding the Mortgage Industry during a Slow Economy

Your personal interest rate is affected by more than just your credit score, and understanding mortgage industry factors can help you negotiate the best loan. Your mortgage will likely be the largest loan you assume. Attaining a good loan means considering all of the factors involved in the contract, not just the interest rate. These factors will largely depend on the economy as a whole, not just your personal financial history.

Mortgage Interest Rates

The national prime interest rate will have a large impact on the mortgage rates you are quoted. The national interest rate is set by the Federal Reserve, and it can be changed at any point during the year. Because of the ability to change the prime rate at any time, rates often fluctuate. This gives the Fed the ability to respond immediately and directly to the economy. When the Fed needs to curb the rate of inflation and encourage lending, lowering the prime rate is the first tactic it tries. Lowering the prime interest rates makes financing cheaper for lenders, and they can extend this discount on to you. While this direct correlation is oversimplified, it is true you may find lower interest rates on mortgage loans during a recession.

Loan Terms

Lending companies lose a lot of money when the economy slows down. First, many borrowers default on their loans. This means lenders do not recoup the funds they handed out in the last decade or so. At the same time, lenders are also invested in the stock market. If the market suffers during a recession, the lender will see a reduction in its financial holdings just like businesses and households. The combination of these losses means lenders need to protect themselves more on future loans. One way for lenders to protect themselves is to set worse terms on your loan. You may be required to place more funds down as a down payment. You may also see higher prepayment penalties. These are just a few of the loan terms that can be tipped in the lender's favor, and an awareness of these items is key to assuring your mortgage holds up in the long term. 

Appetite for Risk 

Perhaps the greatest affect of any recession on a mortgage is the lower appetite for risk among lenders. Basically, lenders want safe, secure loans moving forward from an economic breakdown. This means they will begin turning away from high risk borrowers and opt to work with those borrowers who have high incomes, high credit scores and large down payments. They will be reluctant to extend funds for jumbo loans, and they will rarely extend loans below the national prime interest rate (sub-prime loans). To borrowers, this means you will need to be very credit worthy in order to receive a good mortgage loan in a recession. Borrowers with a lower financial status will suffer more from the low appetite for risk. It is hardest for first-time borrowers and bad-credit borrowers to get a good loan in a slow economy.