Why mortgage rates over 7% may be the new baseline

More and more housing experts are treating mortgage rates above 7% as the new standard.

That language has been showing up frequently in recent remarks from economists such as Lawrence Yun, chief economist for the National Association of Realtors, and Robert Dietz, chief economist for the National Association of Home Builders.

It is also appearing in forecasts. Major housing organizations now expect mortgage rates to stay above 7% well into 2027. Fannie Mae projects an average of 7.5% in 2027, while the Mortgage Bankers Association sees rates remaining above that threshold.

In other words, the 3% and 4% loans many borrowers became accustomed to before 2022 are unlikely to make a quick return.

"We could definitely see some movement up and down depending on data, but we're just not in the same economic environment we were in during the 2010s or the pandemic," says Jenna Stauffer, a broker and market analyst with Sotheby's International Realty.

Why borrowing costs may stay elevated

Mortgage rates usually track the 10-year Treasury yield, a key benchmark because most mortgages are paid off or refinanced long before their 30-year term ends. Several factors suggest those longer-term borrowing costs could stay high.

One major reason is persistent inflation. When inflation remains elevated, investors typically demand higher returns on long-term bonds to offset the loss of purchasing power when they are repaid. Inflation, as measured by the Fed's preferred PCE price index, has not fallen below the central bank's 2% target since February 2021.

Inflation is not the only force at work. The federal government is borrowing heavily, while the artificial intelligence boom is driving major private investment in data centers, power generation, and other infrastructure, says Selma Hepp, chief economist at real estate data firm Cotality. That stronger demand for capital can push longer-term borrowing costs higher, she says.

Compared with the 2010s, "we've moved from a world with more capital than investment opportunities to one with tremendous competition for capital," Hepp says. Low inflation, abundant savings, and relatively weak demand for capital helped keep mortgage rates low during that era, she says.

Demand for mortgage bonds has also softened, adding pressure to mortgage rates. Banks have become less willing to hold mortgage-backed securities after the 2022-23 rate surge caused steep losses in bond portfolios, says Tom Graff, chief investment officer at wealth management firm Facet. That is because bond prices generally fall when interest rates rise. The failures of Silicon Valley Bank and First Republic also led to closer regulatory scrutiny of banks' bond holdings, he says.

During the pandemic, the Federal Reserve pushed borrowing costs in the opposite direction. It bought large amounts of Treasury bonds and mortgage-backed securities to drive long-term rates lower, helping mortgage rates hit historic lows. The Fed has since stopped actively buying mortgage-backed securities, says Steve Kaminski, head of residential lending at TD Bank.

With those low-rate conditions gone, "mortgage rates will likely remain elevated for at least the next year," Kaminski says.

What would need to happen for rates to fall?

Hepp says mortgage rates would likely need lower inflation, slower economic growth, or less pressure from government borrowing to bring the 10-year Treasury yield down enough to push mortgage rates toward 6%.

Kaminski similarly says rates would need lower inflation and lower Treasury yields to move below 7%. A weaker economy could also bring rates down if investors move toward the relative safety of Treasury bonds, which would lower their yields, he says.

Whether that happens remains uncertain. That is why Hepp says she is uncomfortable calling 7% the "new normal," since nothing about that figure is permanent. Still, the low inflation, plentiful capital, and supportive Fed policies that helped produce 3% and 4% mortgages are no longer in place, she says.

For prospective homebuyers, that means waiting for a dramatic drop in rates could be risky.

"I don't think we should expect to return to the financial conditions that routinely produced 3% and 4% mortgages," Hepp says.