Those who have been priced out of the housing market because of sky-high mortgage rates have been watching the Federal Reserve’s policy on interest rates like hawks this year.
While the Fed doesn’t directly control mortgage rates, raising or lowering the Federal Funds Rate (FFR) indirectly impacts them. The FFR is the rate at which banks lend excess reserves overnight to one another, and movements up and down cause similar movements in Treasury note yields used by banks to set loan rates, including mortgages.
This year has been frustrating for home-buyers hoping for a friendly Fed. After three rate cuts in late 2024 totaling 1%, Fed Chairman Jerome Powell shifted to the sidelines amid worries that more cuts, along with newly enacted tariffs, would cause inflation to soar.
However, a steady decline in jobs data finally got Powell off the sidelines in September. The Fed reduced the FFR by a quarter-percentage point, and optimism that more cuts will follow took mortgage rates lower, helping them retreat from about 6.5% to 6.3%
Powell gave his latest thoughts on interest rates in a speech at the National Association for Business Economics conference in Philadelphia on Oct. 14. In his remarks, he suggested that another tool at the Fed’s disposal could be used to provide even more relief to borrowers.
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The Fed dusts off another tool in its monetary policy toolbox
The Fed’s monetary policy is governed by a dual mandate requiring it to encourage:
- Low unemployment
- Low inflation.
That mandate is easier said than done, because policy decisions have conflicting impacts on employment and inflation. When rates rise, inflation slows, as it did in 2022, but unemployment increases. When rates fall, the opposite is true.
For this reason, the Fed has been reluctant to cut interest rates in 2025, despite heavy pressure from the White House. President Trump’s newly enacted tariffs aren’t being fully absorbed by companies, so many, including Nike, Levi Strauss, and AutoZone, are increasing prices for consumers, fueling inflation.
In August, the Consumer Price Index showed inflation clocking in at 2.9%, up from a low of 2.3% in April before tariffs were put in place.
The Fed, however, finally cooperated in September, cutting the FFR to a range of 4% to 4.25% from 4.25% to 4.50% following a steady increase in unemployment. According to the Bureau of Labor Statistics, the unemployment rate was 4.3% in August, the highest since 2021. The shutdown in Washington has delayed September jobs data, but independent reports from payroll processor ADP and Bank of America suggest the jobs market has weakened further.
To prevent more joblessness, and risk a recession, the Fed is likely to continue lowering rates. The CME’s FedWatch tool places odds of another quarter-point cut on Oct. 29 at 97%.
Another cut will help, but that’s not the only lever the Fed can pull. It can also make changes to the number of bonds it owns on its balance sheet.
In Powell’s Oct. 14 speech, he suggested he’s about ready to flip that switch.
Quantitative tightening may soon be over
Bond prices and bond yields move opposite one another. When the number of bonds for sale rises, it increases supply, causing bond prices to fall and yields to rise. The opposite is true when the demand to buy bonds increases.
Quantitative easing (QE), tightening (QT) timeline post-Covid:
- In March 2020, the economy came to a near standstill because of Covid.
Emergency liquidity facilities were established by Congress and the Administration. - At its peak, quantitative easing (QE) totaled $1.1 trillion in April 2020.
- By June 2020, purchases slowed to $120 billion per month.
- That pace continued through October 2021.
- In November 2021, the Fed tapered QE, reducing it by $15 billion.
- In December 2021, the taper amount was doubled to $30 billion.
- In March 2022, QE ended.
The Fed’s securities holdings increased by $4.6 trillion over the entire period. - June 2022, The Fed started quantitative tightening (QT), at a pace of $47.5 billion monthly.
- In September 2022, QT accelerated to $95 billion.
- In June 2024, QT was tapered to $60 billion.
- In April 2025, QT was tapered to $40 billion.
Therefore, selling or buying bonds on the open market allows the Fed to push yields up or down, a process known as quantitative tightening or easing, respectively.
Since 2022, the Fed’s been a net seller of Treasuries by choosing not to reinvest proceeds from the maturing bonds on its balance sheet, pressuring rates higher, and in turn, elevating borrowing rates, including mortgages.
In Powell’s speech, he suggested that may soon change. He said that banking system reserves “remain abundant,” but “they are declining and will continue to do so.” In short, there are some signs of tightening credit and, as a result, he suggested that it may soon be time to pause the Fed’s selling of Treasuries. If so, it should help yields decline.
“We may approach that point in coming months,” Powell said.
Fed Chairman Jerome Powell.
The Fed’s balance sheet is admittedly still packed with government debt from the last bout of quantitative easing in Covid. Despite sales over the past three years, the Fed still has about $4.2 trillion of Treasuries on its balance sheet.
Still, Powell’s acknowledgment of the shift isn’t too surprising, given the Fed has recently slowed the pace of replacing the maturing Treasuries it owns.
However, where it could reeally have an impact on mortgage rates is the Mortgage-Backed-Securities, or MBS, market. The Fed reduced MBS on its balance sheet by $18 billion in September. It still has $2.1 trillion remaining, but if ending quantitative tightening similarly means reducing the run-off of MBS, or halting it altogether, it could help mortgage rates tumble.
In mid-September, a report from Goliath asset manager PIMCO suggested the Fed end quantitative tightening via MBS to lower mortgage rates:
“Reinvesting the roughly $18 billion in current monthly roll-off into new mortgage securities could compress mortgage spreads by 20 to 30 basis points (bps), in our view,” wrote PIMCO. “And it could deliver as much bang for the buck as a 100-bp cut to the federal funds rate, which is what has historically been needed to achieve a similar drop in mortgage rates.”
PIMCO suggested that embracing quantitative easing by selling legacy MBS and buying newly issued MBS could, “could push mortgage rates down by 40 to 50 bps.”
HIstorically, the 30-year mortgage rate runs 1% to 2% higher than the 10-year Treasury yield, according to Brookings Institute. Currently, the 10-year Treasury note is yielding 4.02% and the 30-year mortgage rate is about 6.3%.
Related: Bank of America jobs data may sway Fed interest rate cut bets
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