The Federal Reserve has aggressively cut interest rates. Houses are sitting around unsold. The stage appears to be set for mortgage rates to fall as lenders compete to attract that scarce quarry: the well-qualified home buyer.

You wish.

Rates on 30-year fixed-rate mortgages have remained stubbornly above 6 percent for months. Interest rates on those loans are averaging 6.09 percent, mortgage investor Freddie Mac reported June 5, an increase from the 6.08 percent the previous week. Rates on five-year adjustable-rate mortgages declined slightly last week to 5.51 percent.

Rates on jumbo loans, those larger than $417,000, were considerably higher, averaging 7.47 percent nationally on June 4, according to Bankrate.com.

That's frustrating for people like Ali and Amy Brown, who are shopping for a larger house after bringing home a new baby five weeks ago.

"For most people starting out, rates are too high. Affordable rates are a very important part of the economy," said Ali Brown. "I wouldn't be happy at 6 percent. But if I'm forced to, I will do what I have to do. What are your options?"

Several forces are conspiring to keep rates up, economists and mortgage experts say, and they aren't going away anytime soon.

When the subprime-lending bubble burst last summer, many large mortgage brokers went out of business because they could no longer find investors to buy their loans and fund their operations. That means the pool of mortgage lenders is much smaller than it has been in recent years, and billions of dollars in liquidity have disappeared.

Also, surviving lenders are still gun-shy about rising delinquencies and foreclosures, which have forced many to take large write-offs.

"Time heals all wounds, and we haven't had enough time yet to heal this wound," said Diane Swonk, chief economist with Mesirow Financial in Chicago. "Banks and other lenders are being more conservative. They're saying, 'I need to be compensated for this risk.'"

But there's even a bigger-picture reason behind the buoyancy in mortgage rates _ the expectation that rising inflation is the biggest challenge the economy faces.

Many people think that the U.S. economy has narrowly avoided a recession and that the worst may be over. If that's true, the Federal Reserve is unlikely to lower interest rates further and, in fact, could start raising them again as soon as October.

With commodity prices rising, especially for oil and food, the Fed may have little choice but to tighten credit to slow inflation, which eats away at the value of wages as well as financial assets, economists say.

When inflation goes on a tear, investors want higher premiums for lending money, which translates into higher long-term interest rates.

"If people are concerned about inflation, they don't want to hold Treasury bonds," said Orawin Velz, senior director of research at the Mortgage Bankers Association in Washington, D.C. "If there's a decline in demand for bonds, the price will go down, and the yield will go up."

That's been happening recently with 10-year Treasury notes, the benchmark for mortgage interest rates. But investors are fickle and skittish, Velz said, and their expectations can change with the latest economic report.

Last week, for example, yields on Treasury bonds declined Tuesday after new data on housing and manufacturing showed the economy still might be contracting. On Wednesday, bond yields rose. Then on Friday, a disappointing unemployment report sent yields down again. Yield is defined as a bond's interest rate combined with any price discount or premium the bond was sold for in the secondary market.

For the downtrodden housing sector, the question is whether 6.5 percent interest rates will keep home buyers on the sidelines, slowing an already painful recovery.

Donna Schwan, a real estate agent with MetroPro in Chicago, isn't worried.

"Mortgage rates going up is the best thing that could happen," she declared. "We have a lot of people who are buying now because they want to get in before the rates go higher."

Buyers spoiled by years of rates in the 5s need to remember that 6 percent is a very attractive rate, she said. Plus, with housing prices declining, a buyer's monthly payment may be the same in spite of that slightly higher rate.

Mike Sante, managing editor of personal finance Web site Interest.com, agrees. "Rates are pretty doggone good," he said. "Historically, anytime you can get a rate below 6.5 percent, you're doing very well. We're not at the double-digit rates of the '80s or even the 7 or 8 percents of the 1990s."

The exception is jumbo loans, which are commanding a much higher interest rate than smaller loans that meet the standards of Fannie Mae and Freddie Mac, government-sponsored investors in mortgage loans.

A year ago, a jumbo loan might have cost a borrower an extra half point in interest over a so-called conforming loan. Now the spread is more like a point to a point-and-a-half higher, which translates into a much larger payment.

With home prices rising by double digits annually over the past five years in some markets, lots of prospective borrowers have been pushed into the jumbo bracket.

"The spread has doubled," Sante said. "For those folks, they have trouble."

Source: MCT