The Federal Reserve announced a widely anticipated fourth interest rate pause during its January meeting on Wednesday, leaving the federal funds rate at a 22-year high of 5.25% to 5.5%. 

The central bank said it would continue to assess the impact of its restrictive monetary policy on the U.S. economy before reducing interest rates. Fed officials have predicted at least three rate cuts this year, with interest rates expected to tick down to 4.6%, according to the central bank's updated economic forecasts in its Summary of Economic Projections (SEP).

"We believe that our policy rate is likely at its peak for this tightening cycle and that, if the economy evolves broadly as expected, it will likely be appropriate to begin dialing back policy restraint at some point this year," Fed Chair Jerome Powell told reporters on Wednesday. "But the economy has surprised forecasters in many ways since the pandemic, and ongoing progress toward our 2 percent inflation objective is not assured."

How soon cuts will come depends on how fast inflation returns close to that 2% target rate or if the Fed senses that the U.S. economy is headed into a recession. For now, the economy is steady. U.S. gross domestic product (GDP) in the fourth quarter of 2023 beat expectations and increased at an annual rate of 3.3% for the October-through-December period after rising 4.9% in the third quarter of 2023, according to the Bureau of Economic Analysis (BEA). The better-than-anticipated growth is due to solid consumer spending on goods and services.

Consumer prices also rose higher than anticipated. On an annual basis, prices rose 3.4% in December, up from 3.1% growth last month, according to the Consumer Price Index (CPI) released by the Bureau of Labor Statistics (BLS). 

"Markets had already priced in a "no-change" from the Fed, but political pressure is mounting on the Federal Reserve to look to cut rates sooner than later," Max Slyusarchuk, President and CEO of A&D Mortgage, said in a statement. "Unless they bend, we believe rates will begin to start to slowly pull back in the second half of this year, with many economists predicting a mortgage-positive outcome from the May meeting."

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The Fed will need to begin dialing back interest rates for mortgage rates to shift downwards meaningfully. Fannie Mae has based its forecast that mortgage rates will drop below 6% by the end of 2024 on the Fed moving faster than anticipated on interest rate reductions.

In recent weeks, the 30-year mortgage rate has stabilized in the mid-6% region, drawing some buyers back to the market. A drop to 6% – assuming that household income grows steadily at 3% and home prices increase at 3.5% – housing affordability would improve by 8%, according to First American Deputy Chief Economist Odeta Kushi.

"A more affordable housing market will be welcome news for buyers currently sitting on the sidelines," Kushi said. "However, even at this level, affordability will remain more than 35 percent worse than in February 2022, just before the Fed started increasing rates."

The Fed also reiterated its plan to reduce holdings of Treasury securities, agency debt and agency mortgage-backed securities.  

"Reducing MBS caps would help mortgage rates on their downward trend later in the second half of the year, CoreLogic Chief Economist Dr. Selma Hepp said in a statement. "However, it's not clear we would see any mortgage rate improvement going into the Spring homebuying season." 

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The possibility that the Fed may lower interest rates later this year would also impact U.S. consumers who have taken on historically high debt levels, particularly on credit cards. Lower rates would allow Americans to refinance high-interest debt and put more money in their pockets, according to Michele Raneri, vice president of U.S. research and consulting at TransUnion.

Americans now owe $1.08 trillion on their credit cards after racking up a collective $48 billion in new spending during the third quarter of 2023, according to a recent report on household debt from the Federal Reserve Bank of New York. Credit card balances spiked by $154 billion year over year, notching the most significant increase since 1999, as consumers have used their available credit to deal with higher-than-expected costs for goods and services. 

"A reduction in interest rates could ultimately allow many of these consumers to refinance this existing card debt through the use of lower interest products such as unsecured personal loans or, for homeowners, through home equity products," Raneri said.   

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