Don't Spend Your Stimulus Rebate!

The Wall Street Journal

I'm all for avoiding recession, but if Uncle Sam sends you a check of a few hundred dollars as part of the new economic "stimulus" package, don't bother trying to stimulate the economy with it.

By far the smartest thing you can do with the money, if you can afford to, is to save it instead.

Sound dull? It isn't. Thanks to the simple miracle of compounding, a dollar invested now should grow to nearly $5, in today's money, 30 years from now.

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Congressional leaders completed a deal Thursday with the White House on the terms of an economic stimulus package that would give most tax filers refunds of $600 to $1,200. Workers in their 30s who put that away will have $3,000 to $6,000 more toward their retirement.

Every bit counts. And you'll need it, because Social Security is looking pretty rickety.

The more interesting part of the stimulus package is the move to raise limits on "conforming" loans by hundreds of thousands of dollars. The current proposal is to raise it from the current nationwide limit of $417,000, to a range consisting of 125% of the median house prices in various metropolitan areas, up to $729,500.

"Conforming" loans are those that enjoy indirect support from the Federal government through the housing agencies Freddie Mac and Fannie Mae. That brings the interest rates down below the free market rates on so-called "jumbo" loans.

Economics 101 tells you this indirect Federal subsidy helped create the housing bubble in the first place by pricing mortgage loans below their true risk-adjusted rate. But that's a story for another day.

What is certainly true is that today's news should dramatically lower interest rates on mortgages in affected areas between $417,000 and about $725,000.

How much? Look at our chart.

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It shows the gap between the average rate on a 30-year fixed "conforming" loan and a "jumbo" equivalent going back for five years. As you can see, the gap has skyrocketed recently due to the financial crisis. No one wants to lend without that Federal guarantee.

Changing that could put thousands of dollars a year into the pockets of those with jumbo mortgages, and give the economy a real boost.

Do the math. Right now, average rates on new 30-year fixed-rate jumbos are about 6.41%, according to Bankrate.com. For conforming loans, the average is just 5.25%. For a homeowner in, say, California's Bay Area with a $600,000 mortgage, cutting their rate from 6.41% to 5.25% would slash their payments by $444 a month, or $5,328 a year. (This ignores other issues, like tax-deductible mortgage interest).

Earlier this week, after talking to a few mortgage brokers in different markets, I was struck by a big difference on the ground. In the Boston area, many loans are cheaper "conforming" loans. And brokers there have seen a surge in refinancing applications as rates on those loans have collapsed.

But in San Francisco, a much more expensive real estate market, that wasn't so much in evidence. A broker explained to me that most of his clients had jumbo loans – and rates on those hadn't come down very far.

Now they should.

I am beginning to sound like a broken record, but if you can, you should try to refinance your mortgage now to take advantage of lower rates. There is no deal out there as good as a no-gimmick, old-fashioned thirty-year fixed rate loan.

The obvious qualifications apply as always: Look closely at closing costs and fees as well as the rate. Refinancing probably only makes sense if you are cutting your rate by half a percentage point.

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