The Financial Market
ECONOMICS - Before we can look at the availability of money in the financial market and its impact on interest rates, we will look at the basics of economics within America. Interest rates and the financial markets are influenced by several outside areas and it is important to understand how they work. With this section on economics we will look at the basic concepts as well as how they affect the real estate industry and your client's purchasing practices.
President, Treasury Department, and Federal Reserve - Pretty much all of the economic text books state that the economic system is most affected by the President, Treasury Department, and the Federal Reserve. In theory, they work together to achieve the economic goals of the government. The main areas of interest consist of the following:
The main controlling power the Federal Government has is the supply of money available for lending. If they slow down the money supply there is a demand for money; a shortage. If they cause an abundance of money to be available for lending, demand for funds slows down; an excess. Let's see how this works.
Interest Rates - The cost of obtaining money from the Treasury Department is affected by the borrowing demand of the public. With a shortage of money or an excess of money comes the volatility of interest rates.
Shortage - When the supply of money is reduced (tightened up), interest rates increase. The banks need the depositor's money in order to make loans and the way to gain more deposits (money) to pay higher interest on the deposits.
Higher Interest - This causes the bank to charge higher interest rates for loans.
Slow Down - People have to pay a higher amount of interest for the use of borrowed money. Therefore, some people decide not to borrow money. Now there is less money spent in the economy. This slows down the economy.
Inflation is the price of goods and services increasing due to the fact that too much money is being spent in the economy. People don't save. They spend their money which creates demand for goods and services then the providers increase their pricing. The demand for goods and services creates the problem of inflation.
High Inflation Rate - When the public starts spending and there is a greater demand for goods, the faster prices will rise. Demand causes the following:
Less Money - If people don't borrow to make purchases, the inflationary trend will slow down. The last case of double-digit inflation was under Jimmy Carter. We had 13% inflation during his last year in office. The Federal Reserve raised interest rates up to 12% to slow down spending and, therefore, slow inflation.
Restrict Mortgages - The government attempts to restrict the amount of mortgage money. It might increase the requirements for people to qualify for real estate loans. This of course, would be bad for the real estate industry.
Raises Interest Rates - By raising interest rates the government would hope to reduce demand for new housing. This would slow down the economy. They measure this with what is called the "New Housing Index." This shows the requests for new housing starts; requests by builders to obtain building permits.
Cool Off Economy - These three areas are tools that the government can use to "Cool Off" the economy; thus leading to a lower inflationary rate.
Investments and Inflation - Historically, the purchase of stocks as well as real estate has allowed investors to keep pace with inflation. There might be temporary setbacks from time-to-time, but overall this has been true.
Too little spending by the public can also create problems for the economy as well. The following would occur with this economic development:
The Federal Reserve System would do which of the following to tighten up money and make less credit available?
A) decrease reserve requirements
B) sell government bonds
C) lower the discount rate
D) lowering the prime interest rate
The Federal Reserve System normally influences the supply of money in the economy by all of the following EXCEPT
A) changing reserve requirements
B) buying and selling government bonds
C) adjusting the discount rate
D) buying and selling gold on the international market
The Federal National Mortgage Association was created under Title 3 of the National Housing Authority Act for the primary purpose of:
A) buying existing federal VA and FHA loans from lending institutions to stabilize the mortgage market
B) lending money on FHA Title 2 loans when banks will not
C) buying Title 1 FHA loans only
D) advancing funds to mass production builders in or near large cities
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