Interest Rates are going Higher in 2010

CD rates, savings rates and mortgage rates are headed higher this year; the question is when rates will start heading higher and by how much.

The answer to those questions will depend on how well the Fed soaks up the staggering amount of liquidity they pumped into the system and how high the Fed funds rate goes up.

In case you don't know what the Federal Reserve does, in their own words, "The Fed conducts the nation's monetary policy by influencing money and credit conditions in the economy in pursuit of full employment and stable prices." In other words, the Fed can influence how quickly or slowly the economy grows by raising and lowering interest raises and by other means.

During the credit crisis the Fed lowered the Fed funds rate to a range of zero percent to one quarter percent and basically became the "lender of last resort" through several liquidity programs. These programs got credit flowing again and saved us from a depression.

Unfortunately for depositors, a zero percent Fed funds rate also meant lousy deposit rates. On the positive side, low interest rates and the liquidity programs also gave us record low mortgage rates.

Now that we have been saved from the second great depression and the economy is expanding again, the Fed has the delicate task of pulling back all the excess liquidity while making sure we don't slide back into a recession.

On the other side of the coin is an overheated economy. If the Fed waits too long to tighten monetary policy, inflation could rear its ugly head and cause more damage to the economy in the long run.

This past week the Fed released a statement entitled "Federal Reserve's Exit Strategy" which was prepared for a hearing before the Committee on Financial Services. The hearing was postponed due to "snowmageddon" but the statement was released anyway.

In the statement the Fed laid out how they are pulling back and unwinding the liquidity programs. If you're interested in reading more, following is the link to the statement: Federal Reserve's Exit Strategy

Now for the question on when CD rates, savings account rates and mortgage rates will start heading higher.  The Federal Reserve will probably start raising the Fed funds rate in third quarter of 2010. A higher Fed funds rate will drive deposit rates and mortgage rates higher.

CD Rates, savings account rates and other deposit rates will probably go up about .50 percent, .75 percent if we're lucky. Right now, the average 12 month CD rate is at 1.00 percent, so we could see average CD rates of around 1.50 percent to 1.75 percent for a 12 month CD.

There are banks offering 12 month CD rates in that range right now, so some CD rates at banks might go as high as 2.50 percent for a 12 month certificate of deposit. The highest savings account rates will probably also go up to 2.50 percent.

Mortgage rates will go higher sooner than the third quarter; in fact mortgage rates will start heading higher in a month or so. The reason being the Fed will complete its purchase of $1.25 trillion in mortgage-backed securities (MBS) in the first quarter of 2010.