LIANE HANSEN, host:
This is Weekend Edition from NPR News. I'm Liane Hansen. A couple of weeks ago, we reported that the Federal Reserve was prepared to drop its benchmark interest rate to as low as one-half of one percent. We were partially correct. On December 16th, the Fed dropped the rate, but to almost zero. The benchmark rate doesn't have a direct effect on you and me. It's the rate at which banks lend money to other banks in overnight trading. But it does influence the interest rates we pay on consumer loans. Today, we'll examine how this month's actions by the Fed is affecting mortgage rates. John Cochrane is a professor of finance at the University of Chicago's Booth School of Business, and he joins us from member station WBEZ in Chicago. Welcome to the program.
Dr. JOHN COCHRANE (Finance, Booth School of Business, University of Chicago): Hello, Liane.
HANSEN: Be specific, how do the benchmark rates affect mortgage rates?
Dr. COCHRANE: Well, there's actually some mystery in that. The benchmark rates are overnight rates. So really, 30-year mortgage rates depend more on where people think interest rates are going over the long future. There isn't that direct a relationship between those two things.
HANSEN: Hmm. Say you had a five and seven-eighths 30-year mortgage rate, and it's now getting down closer to five. Is it worth while refinancing?
Dr. COCHRANE: That's a hard question. And even finance professors at the University of Chicago have trouble figuring out just when to refinance. Because your payments will go down if you refinance, but you often have to pay some points up front, so do the points up front make up for the lower cost? Good luck figuring that out, but that's the principle. Those are the two things you have to trade off. And if you can make it work, go for it.
HANSEN: Looking for the black cloud in the silver lining maybe - if credit is getting cheaper, is there a risk of recreating that same kind of housing bubble that dragged the economy down in the first place?
Dr. COCHRANE: Well, not all credit is yet getting cheaper, which is where I'm still a little bit worried. The reason these mortgage rates have gone down is that banks can make these loans, and then sell them via Fannie and Freddie with a government guarantee on to the market. So these are - they're able to pull these and securitize them the way things used to work because they still get that government guarantee. Other kinds of credit are still not working very well.
HANSEN: What worries you about that?
Dr. COCHRANE: Well, we're still in a credit crisis, and it would be lovely to see credit flowing better that isn't going through the federal government.
HANSEN: Is there another way to do it if it doesn't go through the federal government?
Dr. COCHRANE: Well, yes. Well, we have a credit market, we have a grand system for taking your and my savings and funneling them into all sorts of debt, into things businesses need to borrow, into consumer loans, into student loans and so forth. And that whole large machine is not working very well right now. When we see the other debt markets working again is when we know we're out of the woods here.
HANSEN: But how do you get those debt markets working without the government?
Dr. COCHRANE: Ah, good question. Well, you and me need to stop being quite so panicked. There are two things that are the trouble right now. One is investors are holding on to very low yielding Treasury bills and foregoing really, very good rates of return on things like corporate bonds, high-yield bonds, securitized debt and so forth. And the people who used to intermediate these transactions and make it easier for you, that business has fallen apart. It's as if a lot of the refineries in the country blew up. There would be a lot of oil sitting around, that's our savings, but it's hard to turn that into gasoline, which is the debt that we need to go. So the government is sort of running its own refinery for a while, but those private ones need to get built up, again.
HANSEN: John Cochrane is a professor of finance at the University of Chicago. He joined us from member station WBEZ. Thank you so much.
Dr. COCHRANE: You're welcome. It's a pleasure.
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