Just last week, Federal Reserve Chairman Jerome Powell announced a significant change to how the Federal Reserve manages interest rates as inflation rises. Inflation is the increase in the prices of goods and services over time. The Federal Reserve has a target rate for inflation of 2% but in recent years the actual rate of inflation has been below that target. In the past if the inflation rate was to go higher than the target, it would be expected that the Federal Reserve would take action by raising the federal funds rate, which is the rate that banks charge each other for short-term loans. The fed funds rate can influence longer term interest rates like the 30 year residential loan we get to buy our homes. Knowing how the Fed will react in different situations helps stabilize the markets.
Federal Reserve Chairman Powell said yesterday that the central bank would now tolerate a higher level of inflation than in the past. Analysts say that this could mean several years of a near zero fed funds rate. This implies 2 things, a forecast of inflation in the near future, and if so, continued low interest rates.
This is exciting because real estate is actually a great investment during inflationary times and that’s why it’s called an inflation hedge. As the price of goods and services goes up, so does the price of your real estate! Building equity in your property, with interest remaining low, homeowners can cash-out-refinance at low interest rates and access the equity from their property. If you want more information on that check out my other blog, “How does refinancing a mortgage work?” (link: https://realestateofhawaii.com/real-estate-blog/how-does-refinancing-a-mortgage-work/) On the flip side, however, potential buyers could be seeing home prices continue to creep up, but also continue to have strong buying power with the continued low interest rates.
Another reason to get excited is that during inflationary times, loans on real estate becomes worth less. As prices go up, the value of the dollar goes down. The loan on your property is fixed, so that $200,000 mortgage is still $200,000 but it is worth less because the value of the dollar is less. So ideally the assets on your balance sheet go up and the liabilities go down.
And the last reason to get excited when hearing the word inflation, is for real estate investors. Hopefully, during the next inflationary period, rent rates will go up. If so, cash-flows for those investments will increase. I say hopefully, because there are always other factors, one of the biggest factors will be overall employment rates. So potential rent rate increases may be countered by lower employment rates. Also, other expenses will go up to offset cashflows. Remember these are unprecedented times and the Feds could always change their mind. This is general information and everyone’s situation is different, talk to your attorney, CPA, or financial advisor for professional advice in your situation.
So there you have it, some information about inflation, the Federal Reserve and how inflation tends to influence real estate. In the words of the famous Will Rogers, “Invest in Inflation, It’s the only thing going up!”
