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Why cutting interest rates is bad for the economy
Today I installed the contact form plugin for the WordPress blog platform. This is a great plugin that I recommend for anyone using WordPress; any way in just a few moments after adding my contact page, I got my first question. Here it is along with my answer,
“CostCutter, I have seen you do two posts recently stating how great low interest rates are and how anyone looking to refinance or buy is really lucky that rates are so low. I have also seen a lot of people on the T.V. saying that these rate cuts are actually bad. So which is it and why do these guys say low rates are so bad and you say they are so good.”
That is a great question but it assumes that I disagree with the folks saying these rate cuts are bad, actually I agree with them. My posts about low interest rates from today and the coming interest rate cut yesterday do seem to be positive on the rate cuts and they are but only on one dimension. What I am saying is if you need to refinance are are looking to buy a home then the low rates are very good for you as an individual. Therefore you should take advantage of them.
On the other side I actually think that long term these artificial rate cuts are just bad news for the economy. The reality is we have real problems in this nation that sooner or later have to come out. Things like rate cuts and tax cuts with no corresponding spending cuts only delay the eventual recession and every time we delay it we are just making the eventual market correction worse. No one in the government believes they can stop the recession, they just want to soften the landing but my belief and the belief of most economists is they are actually going to make it a much harder landing.
What you have to understand is why cutting interest rates “works” in the first place. The US economy is driven by spending, when spending slows then everything goes down. There are less jobs, less money in the system, less everything. When interest rates are low spending increases because it costs less money to borrow money so you can buy a bigger house, a bigger car, get a better rate on your credit card etc. These cuts cuts in “the prime rate” or how much the government charges your bank to borrow money. The bank of course is not in business for fun they add to the rate and loan money to you so lower prime rate equals lower rates for everyone and in theory more spending.
The problem is this theory only works long term if people are responsible with debt and it won’t help people who are already in the hole. If you are four payments behind on your home you can’t get a refinance loan no matter how low rates go. If you are paying 29% on your credit card your credit sucks and no one is going to give you a low interest one. Our country is in trouble because to many people spent money they can’t pay back and our government has done the same. When we artificially cut rates we simply put more people into more debt. In other words the country goes deeper into the hole and when at some point we are required to crawl out it will be more not less painful.
If this explanation seems oversimplified it isn’t. In fact I will make it more simple. If your family is in debt and about to go broke and you take your debt of say 200,000 dollars and refinance it to a lower interest rate to reduce your payments it makes the situation better at first. If however, you then grow your debt back to the original payments you could not make then you are in more not less trouble. When our government puts out these low rates and increases personal and business debt in an economy where people are already in the hole it is the same exact thing.
In short I am glad for the responsible consumer that rates are low, I certainly did not want rates risen to higher levels but the reason behind this cut is nothing but a delay that is going to make what is bad already, worse.
Filed under Politics | Comment (0)Another rate cut by the Fed best mortgages rates of all time may be now
Just yesterday I suggest looking into refinancing your home while rates are down and I also stated another rate cut was on the way, to wait for it and jump on it when it came. 24 hours later here we are, the market took a 400 point dump when it opened, the Fed panicked and cut rates before the end of the month meeting just as I said they would. This is not an I told you so post though just another nudge to get going with a refinance if you are paying to much in interest, if you can make a smart move to pay off consumer debt (credit card debt) or if you were stupid and got into an ARM that will soon expire.
Right now I am finding rates are low a 5.125% on a 30 year fixed and todays cut is not even factored in yet. Odds are you can get something in the 4.75-5.2% range with any type of decent credit assuming you have some equity in your home. I don’t think you will see a better time in the next few years or perhaps the next decade. Is this the absolute bottom for rates? Who knows but it won’t get much better, my advice is to act now.
Also don’t fall for all the advertisements. The best source to refinance a loan is most often your existing lender. No one wants to loose a good mortgage client right now. Last time I did a refinance I got all fees waived by my existing lender. Remember if you don’t ask they generally won’t tell, learn and use the phrase “is that the best you can do?” often.
Filed under Business & Marketing | Comments (2)Now is the time to refinance your mortgage
Let me be clear that I think the continued suppression of interest rates by The Fed is a mistake. All I believe is going to happen is more delay to the recession/depression we have to go through and right now delay simply means when it fully hits it will be worse due to the delay.
That doesn’t mean you can’t be smart and benefit from this. If your interest rate is more then 3/4s of a point then current rates odds are in about a week or so you will get the chance to shave a point or more off it. The Fed seems committed to yet another cut either in the next few days or at the end of the money the next time they meet. I have the following advice for people in different categories.
1. If your rate is above 6 percent odds are you can cut your payment a significant amount with a refinance in the next few weeks. If you have the credit to qualify and if it saves you money, do it.
2. If you have decent equity in your home 30-60K or more and if you owe 10-20k in consumer debt and if your rate is at, near or above 6 percent you may have the opportunity to refinance, pay off your debt and pay LESS or very little more each month on your house payment. If so and if you are willing to cut up the credit cards you pay off, do it and do it now.
3. If you were a dumb ass and got into a sub prime or adjustable loan see what you can do to get a conventional 30 year FIXED rate loan now. There probably will not be a better time for a while. As soon as even a hint of rebound in home sales come these rates will not be held so low any longer.
I am not a massive fan of cash out refinance for paying off other debts. Many times this is something that gets abused. If you plan to take this approach again it is necessary to make sure you get rid of that credit card that got you in the hole in the first place. Yet there is no question that debt on housing is better then debt on credit cards. I honestly believe for the home owner with equity, good credit and some unsecured debt this may be the best opportunity in a long time to consolidate bad debt into not so bad debt. If you do it, look at it like a “stay of execution” and commit yourself to a renewed quest toward financial freedom.
Filed under Business & Marketing | Comments (2)Advice from the broke is useless
I know this seems so obvious, never take advice on money, investing and business from the broke. The problem is it is not always easy to recognize the “broke”, when I refer to people that are broke I am not saying they live in a “poor house”, make very little money and eat mealy porridge. I simply mean they are broke as in more money goes out that comes in.
Broke people live next door to you, they live in neighborhoods that are both two steps down and two steps up from yours. Broke people are everywhere, most of the people in America are broke by my definition. They are the people in huge 50K dollar SUVs that they justify as being needed “to cart the kids around in”. Jeez, how big are these kids? They have beautiful homes, nice furniture and perhaps even lawn care service. Many have vacation homes or time shares or other true luxuries. How can I call these people broke?
Easy they are broke, they have very little to no surplus cash flow, they save next to nothing other then what perhaps goes automatically into a 401K (Thank God for that at least). They have TVs on credit, cars on credit, pools on credit, some have charged the very paint on their walls and the sofa they sit on. Cut off their income for 30 days and most would loose every thing they have. They are broke because they have no “wealth” only things, stuff and the appearance of wealth.
Such people are always big talkers. They tell you “now is the time to buy” or that “that business deal seems risky” and other wonderful nuggets of advice. They tell you how great that new SUV is, how wonderful owning a plasma TV is and they always have investment advice for you.
My advice is, don’t take their advice. If you follow the advice given by most people it will lead you down the same path they are on. In other words take advice from your uncle who has that beautiful house, nice cars and kids in top schools and you may just get their yourself. Yet you will probably do it “his way” (the normal way) and be in debt up to your eyeballs and working into extended retirement years just to pay the interest on all of it.
So where do you go for advice? To the successful, to the millionaires next door. Look for the guy that pays cash for everything, the woman that has a 6 figure job and a 150,000 dollar house and a sensible car along with a nice savings account, a good team of advisers and a very fat and growing Roth IRA. These people are not “broke” they could go with out work 6 months to a year with just a bit of sacrifice if they had to.
How do you find them? There are many of us, just talk to people and you will know right away.
- The broke talk about how expensive gas is and the wealthy talk about how efficient their cars are.
- The broke think rich people are “over paid” and “thieves” and the wealthy think the rich are “generous” and “admirable”
- The broke shop for “deals” on consumer goods, the wealthy look for “deals” on real estate and investments
- The broke think cars are status symbols and the wealthy think cars are a “necessary expense”
- The broke talk about “saving money” by spending it, the wealth talk about budgeting and investing the savings
Just realize it is not income that separates the broke from the wealthy. In my town I can show you people with a household income of 100K or more that are “broke” and I can show you some with a household income of say 70K that are very “wealthy”.
Just remember this and consider it when anyone advises you how to spend your money, what to buy, how to invest and on what is important or what is safe vs risky. Now I am not saying that no broke person ever gives any decent advice. Sure many times they do, just don’t let the broke counter your instincts or justify what you know to be a mistake for short term gratification.
Filed under Wealth & Investing | Comment (1)Why you should never buy whole life insurance
This is going to be a brief and short post, I am going to put this simply DO NOT EVER purchase whole life, universal life or any other name they ever come up with to try to sell it to you. This has been written on a lot so if you want to know more then I give you here, do a bit of research online and you will find a lot more information to back my suggestion.
Let me be blunt, Life Insurance is for when you die, nothing more and combining it with anything is a mistake. Your life insurance should be about 10 times your annual income if you are supporting a family. The reason for that is simple, 10% returns are quite doable with solid investments so your survivors can invest the proceeds, draw 10% a year and not deplete the money for a very long time. This effectively replaces your income for longer then your working life.
Now to carry that much whole life insurance would be extremely expensive, beyond the budget of most working Americans. An insurance agent will try to show you how whole life builds “cash value” but this is nothing but an illusion.
Remember life insurance pays out when you die! When you live a long time (most of us do) it is good for the Insurance company, you pay and they do not. So when you buy term insurance you pay the amount that very smart economists and math PhD’s have determined will be profitable for the insurance company based on average life expectancy. In other words a fair market price that covers you if you die during the term.
Now look at whole life, you pay a LOT MORE for the same amount of insurance (the risk incurred by the insurer) but the insurance company has the same level of risk. Now if you are a good stooge and pay way to much for way to long, they will then give you some of your money back some day. In the interim they invest your money at market rates of 10-15% returns. So they make that interest, they hold your money and they tell you how great it is that they will give some back.
If you like that how about this. Go get 100,000 dollars, send it to me and I will hold it for you, I will even pay out 2% interest on it. Twenty years from now you can have your 100K back, plus 2% interest per year or you can just let me keep holding it until you die. When you die, I will give the money to who ever you tell me do. Sound like a good deal to you? Of course not! Oh and yea if you ever need the money I will loan your own money to you and you can just pay it back with a bit of interest. Sound like a scam? It’s not you just pay in your 100K in installments and they call it whole life!
So here is what you do, buy the insurance you need on 20 year level term and invest the rest of the money in good solid investments. You make the 7, 10, 12 or 15% depending on your risk tolerance and ability, you retain the ownership and control of your money. If you die in the interim your loved ones are covered, if you live till the end of the term and have invested well then you should not need as much insurance. Perhaps you might buy a bit less for say 10 years and by then if you still need insurance you have done something very wrong.
Don’t let the insurance guy tell you how hard it is for a 70 year old to get insurance! At 70 you don’t need life insurance if you have done a good job of saving and investing. You are not leaving behind a young wife and 3 kids, you just need to be buried. If you can’t save enough money to get yourself put in an box and under six feet of dirt in 70 odd years something is drastically wrong.
I won’t be writing on this subject very often as it is pretty well known and accepted by most good financial professionals today. I just wanted to get it out right away because it is a huge mistake often made by young people who end up in front of a well trained but undereducated insurance agent.
Filed under Personal & Home | Comment (0)