The Fed raised the overnight cost of money last week for 10th time since last summer, to 3.5 percent; taking the prime rate, always three points higher, to 6.5 percent.

The hike did no harm to fixed-rate mortgages, still about 6 percent, but did close what little gap remained between ARMs and fixed-rate loans. A market with no spreads leads to some goofy conversations with borrowers asking for quotes: “Young man, I asked for your rates on several different kinds of mortgages, and you say nothing but ‘Six’ over and over again. Are you deaf, or do you stammer?”

Inclusive of loan fees, the one-year cost of any 30-year mortgage – jumbo, conforming, 1-year ARM, 3/1, 5/1, 7/1, 10/1, COFI option – is within a quarter-percent of 6 percent. As always, mortgages reflect Treasurys: yields on 2-, 3-, 5-, and 10-year notes are 4.05 percent, 4.1 percent, 4.14 percent and 4.28 percent. Often during the week, these four maturities moved like Prussian grenadiers, perfectly maintaining the 5-, 4- and 14-basis-point gaps.

So it is likely to continue. As the market prepares for the Fed to tighten again on Sept. 20 and Nov. 1, the whole yield curve should move up a quarter percent, narrow spreads intact, mortgages along for the ride. Not because the investors and traders want it to, not because they fear inflation, but because the Fed is pushing from underneath. After that…how high?

Along the way up to a 4 percent Fed we may get a hint from the bond market: if Treasury spreads widen, long-term rising away from short, that would signal fear of inflation, and the Fed chasing the economy. If spreads tip the other way, short rates rising above longer by the tiniest bit, that would be a recession warning to the Fed (it has said that it is not worried about such an “inversion,” but that’s bravado).

Federal Reserve Board Chairman Alan Greenspan has the credit markets exactly where he wants them: anxious and clueless. Goldman’s Bill Dudley has taken his forecast to 5 percent Fed funds, and ex-Fed-governor Meyer said that the Fed may have made “a policy error,” waiting too long to tighten; others agree that the Fed has already entered a restrictive phase. Just as many guessers think that the error lies in the other direction, that the Fed is in the process of overshooting neutral. One of the very best Fed-watchers, David Jones, 45 years in the game, said before last week’s hike, “Three more and stop at four,” shaking his head at the recession risk in any higher number.

The largest area of agreement: the Fed is not so much worried about inflation (though its statement last week dutifully recited “elevated” inflation pressures) as instead leaning against housing, overvalued bonds, and too-easy credit generally. Managing asset values is not a part of the Fed’s formal mission, and politicians of both parties react very badly when the Fed departs from strict inflation-fighting.

The Honorable Blowhard from East Outhere can dampen the anger in a newly jobless constituent by pointing to inflation, but better not tell the voter that he has lost his job because his house is worth too much.

Administrations and Congresses for decades have wanted the Fed to adopt an inflation rule, a mechanical and transparent policy. Greenspan has refused to adopt any rule, wanting to preserve his freedom to respond to the “balance of risks” (his phrase), not just to inflation (for example, easing during the Asian-Russian-LTCM meltdown in ’98, tight against stocks ’99-’00). Greenspan’s excellent results have gotten him his way, sensible pols too embarrassed to debate with him.

Neither the White House nor Congress wants his successor to have that latitude, and the leading candidate, Ben Bernanke, believes some explicit policy guide is a good idea. I think we’ll miss Greenspan’s latitude (and, Lord knows, the man), and as painful as rising rates are, I confess enjoyment in these last few months of vintage, I-know-best-and-I-ain’t-talkin’ Alan Greenspan.

Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at


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