Another Year of Churning? Blame Big Productivity Gains

This was supposed to be the year that interest rates started a gradual rise, slowing the three-year-old refinancing mania and giving servicers a reprieve from portfolio churning and weak prices for servicing rights.

But then again, that's exactly what we said at the beginning of last year, too. And for that matter, at the beginning of 2002.

So why do we keep getting the big picture - which way rates are going to go - wrong?

Productivity, it seems, is a key reason. While gains in productivity may be good for the economy in the long haul, they are dampening job production in the near term. That, in turn, is letting steam out of a growing economy and minimizing upward pressure on interest rates.

Time and again we've predicted, or reported that others have predicted, that rates are likely to start edging upward. The recession is over. Gross domestic product is growing rapidly. The federal government is competing with private enterprises to borrower money in the capital markets. Plenty of indicators suggest that rates should be rising.

Instead, rates remain stubbornly low. In early march, the average interest rate on new 30-year mortgages once again fell below 5.5%, a threshold that once seemed unimaginable.

Increasingly, economists say that soaring productivity is part of the answer for the persistently low rate environment.

MBA chief economist Douglas Duncan, in a recent conference call, noted that productivity gains during the last three years are unprecedented in post-war economic history.

By allowing the economy to grow without boosting employment, productivity gains make it more difficult for rates to rise. That's bad news for job seekers, but it has helped keep the eternal refinancing boom alive well into 2004.

"Core inflation continues to edge downward to the lowest levels since the early 1960s, as strong productivity growth and excess capacity worldwide overwhelm higher natural resource prices and a falling dollar," Fannie Mae chief economist David Berson said in a recent economic commentary. He predicts that strong productivity growth - even as it cools from last year's red-hot pace - will keep inflation restrained, at least for the time being.

"Core inflation," which excludes food and energy prices, dropped to its lowest level in 40 years in December, he noted. Like several other economists, he has recently revised his forecast for mortgage lending volume and the refinancing share of that total, upward for this year.

And even though about half of all outstanding home loans were originated last year, refinancing activity remains brisk, accounting for about half of all loan originations during the first two months of this year and approaching 60% during March.

So the next time you hear someone like me, or an industry expert or an economist, predicting that rates are going to rise, you might want to turn the volume down. We've been wrong so often that it would be a big mistake to base portfolio management strategies on expert predictions about where rates are likely to go.

Having said that, I'd still bet you a dollar that rates are higher at the end of the year than they are now. But I won't let you raise the ante much.

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