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Wall Street’s Misplaced Exuberance: Interest Rate Cuts Won’t Help Homeowners
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Wall Street’s Misplaced Exuberance: Interest Rate Cuts Won’t Help Homeowners

Dismal indicators for residential construction illustrate why the Fed’s rate cut will miss the mark for homeowners, explains Andrew Jakabovics.

Lost amid Wall Street’s continued exuberance over yesterday’s half-a-percentage point cut in the Federal Reserve Board’s federal funds rate is today’s sobering announcement that residential building permits in August were down 24.5 percent over August 2006. Similarly, housing starts were down 19.1 percent year over year.

Residential building permits are an important leading economic indicator since each dollar spent in new construction translates into an additional $1.27 in other economic activity. Moreover, nearly one in 12, or 8.1 percent, of American jobs were in residential construction in 2006. In both the South and West, single-family housing permits for the month of August were down more than 30 percent from last year. In the West, permits were off nearly 14 percent compared to July.

The loss of construction jobs is likely to hit Hispanics particularly hard. Fifteen percent of all Hispanics work in construction, and 86 percent of the 2.9 million Latino construction workers are found in those two regions.

Weakness in the housing sector continues to be driven largely by the mortgage credit crunch. Unfortunately, the Fed’s decision to cut by 50 basis points the interest rate they charge on overnight loans between banks and the discount rate it charges for direct loans to banks is not likely to help those most at risk. One-quarter of prime interest rate Adjustable Rate Mortgages, or ARMs, and nearly three-quarters of subprime ARMs, are indexed not to the prime interest rate set by the Fed’s action but rather to the London Interbank Offer Rate, or LIBOR, which has been rising recently.

Even if the LIBOR eventually moves slightly south due in part to the Fed’s rate cut, this is not going to bring a rush of credit back to the segments of the mortgage market most in need of refinancing. The reason: Homeowners most in need of help are unlikely to be deemed creditworthy by suddenly wary financial lenders. This means mortgage foreclosure rates will continue at their current, torrid pace, threatening not just the holders of these home loans but also their neighbors and their communities as home prices plummet.

Similarly, the Federal Home Administration reform bill passed by the House of Representatives, if enacted by the full Congress, would have only minimal impact on borrowers facing ARM rate resets. It will do nothing for borrowers in declining markets whose houses have lost value to the point where they owe more than their homes are currently worth.

To more completely address the mortgage crisis and help not only troubled borrowers but their neighbors who see losses of home equity and wealth with each new neighborhood foreclosure, we need to see a more direct intervention in the mortgage market. Rather than celebrate the Fed rate cut, it’s time for a closer look at the concrete steps the government can take to help distressed homeowners and, in doing so, stabilize housing markets and restore job growth.

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