investment charts winter 2006 economics 102 mr. smitka
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Investment ChartsWinter 2006
Economics 102Mr. Smitka
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Mortgage Rates (30-yr bonds) & Housing Investment
Households normally need a downpayment to finance a house
In addition they borrowBanks however won’t lend 100%
A rule of thumb: 20% of gross income A rule of thumb: 80% of market value
Let’s see what sort of house you can buy...
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Mortgages and Housing Affordability$833 monthly max
$4,167 20% of Gross$50,000 per year
$70,331 14% $ 88,000 $17,583$75,333 13% $ 94,000 $18,833$81,015 12% $101,000 $20,254 $87,505 11% $109,000 $21,876 $94,959 10% $119,000 $23,740 $103,568 9% $129,000 $25,892 $113,569 8% $142,000 $28,392 $125,256 7% $157,000 $31,314 $138,992 6% $174,000 $34,748 $155,234 5% $194,000 $38,809
amt of loan interest affordable required rate house downpayment
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Interest rates & investment
At 5% you can buy a nice house, once you’ve saved for the downpayment
At 14% you may not be able to buy any house -- $70,000 homes may not exist
Housing investment is a big enough share of the economy to matter
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Impact: Short vs Long Rates
Quantitative links (short <-->long) Long rates affect housing starts Business investment responds to short
(bank) and medium (bond) interest rates Exchange rates respond to international
differences in short rates
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Business investment
Empirically, interest rate elasticity is lowKeynes had a better story: animal spirits
At times optimism prevails, indeed feeds upon itselfAlso accelerator: higher I boosts growth making
additional I look more attractiveRose bowl effect
If the home team makes it there, and then wins … or other imponderables that cannot be predicted in advance
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Housing investment is centralInvestment (Growth, % per annum)
-20%
-10%
0%
10%
20%
30%
40%
50%
60%
Residential (households) Equipment and software (corporate)
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Impact: Timing and Magnitude
Housing starts are hit quickly by higher rates, but it
takes months for on-going construction to slow.
Business investment responds only as new budgets
are implemented (6-12 months) and is much more
sensitive to expectations than to interest rates.
Exchange rates change, but trade flows shift only
with a 1-2 year lag.
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Net Effect
Response to higher interest rates is
uncertain both
in magnitude
and
timing.