The Federal Reserve remains on course to wind down its purchases of mortgage-backed securities at the end of March, but would consider resuming them if mortgage rates shoot up with unintended consequences for the economy, a Fed official says.

The ongoing Fed purchases, which are expected to total $1.25 trillion by the end of next month, are widely credited with keeping mortgage interest rates near historic lows.

The Federal Reserve remains on course to wind down its purchases of mortgage-backed securities at the end of March, but would consider resuming them if mortgage rates shoot up with unintended consequences for the economy, a Fed official says.

The ongoing Fed purchases, which are expected to total $1.25 trillion by the end of next month, are widely credited with keeping mortgage interest rates near historic lows.

William Dudley, president of the Federal Reserve Bank of New York, told the National Business Report last month that there will probably be "a little bit of upward pressure on interest rates" when the program ends.

"But there’s a big debate about whether they’ll be small or medium or large," he said. "So I think we’ll have to wait and see."

In a Jan. 12 forecast, the Mortgage Bankers Association projected that rates on 30-year fixed-rate mortgages will rise from an average of 4.9 percent during the final quarter of last year to 6.1 percent in the final quarter of this year, 6.3 percent in the final quarter of 2011, and 6.6 percent during the last three months of 2012.

"Obviously if mortgage rates were to back up a lot and if that had a big consequence for the economy, then we very well could rethink the issue about whether we want to buy more mortgages," Dudley told the Nightly Business Report.

Dudley made similar comments this week in an interview with the Associated Press.

Because the Fed has been saying it would end the program for months, the move should not take anyone by surprise, Dudley said. But the Fed would reexamine the decision, he said, "If there’s a sharp turn in the road … Nothing is on automatic pilot." …CONTINUED

Dudley said he believes a recovery is under way, and while he is now less confident that it will be a strong one, he sees the odds of another recession as "low, but not zero."

Not long after the Fed is scheduled to end its purchases of mortgage-backed securities (MBS), the newly expanded homebuyer tax credit is also set to expire. The Federal Housing Administration will raise premiums and tighten underwriting standards for its mortgage insurance program this spring and summer.

Those events, along with the continued high rates of foreclosures in many areas, could derail the price stabilization and uptick in home sales seen in many housing markets in recent months, analysts say (see story).

According to minutes of the Dec. 15-16 meeting of the Federal Reserve’s Open Market Committee, a few of the committee’s 12 members were in favor of expanding and extending the Fed’s MBS purchases.

Some members of the committee viewed the improving outlook for residential real estate "as quite tentative," pointing to "potential sources of softness, including the termination next year of the temporary tax credits for homebuyers and the downward pressure that further increases in foreclosures could put on house prices" (see story).

Minutes of the committee’s most recent meeting, on Jan. 26-27, have not been released.

But after that meeting, the committee issued a statement saying that while the Fed still planned to halt its purchases of mortgage-backed securities at the end of March, the committee would "continue to evaluate its purchases of securities in light of the evolving economic outlook and conditions in financial markets."

The committee is scheduled to hold one more meeting, on March 16, before the MBS program is scheduled to wind down. 

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