How does inflation affect mortgage rates?

Many factors influence the interest rate you get on a mortgage loan, including your credit history, income, the amount you borrow, and the size of your down payment.

But even though your unique circumstances may affect the rate you receive, average loan rates across the country play a role, too — and those tend to rise and fall with inflation. This means even the most well-qualified borrowers could receive a higher interest rate during periods of high inflation.

To be clear: Inflation doesn’t directly impact mortgage interest rates, but the two are related. And understanding how inflation affects mortgage rates can help you make the best borrowing decisions. Here’s what you need to know.

Learn more: How are mortgage rates determined?

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Before understanding how inflation affects mortgage rates, it’s first essential to know what inflation is and how it’s measured. At its most basic, inflation is the general rise in goods and services costs over time. In short: It’s the reason your grandparents could purchase a home for just $20,000 in the 1960s (that same amount now translates to over $200,000 in 2025 dollars.)

In the U.S., inflation is measured by two different economic indexes: The Consumer Price Index, or CPI, and the Personal Consumption Expenditures price index, or PCE. The Bureau of Labor Statistics uses the CPI to measure the price changes that everyday Americans face. The Federal Reserve primarily uses the PCE to determine policy strategy, as it measures the change in pricing on all items consumed within a given period — not just the out-of-pocket consumer expenses.

Dig deeper: What is inflation, and how does it impact you?

Mortgage rates are always in flux, but the average rate on 30-year mortgage loans in Q4 2024 was 6.63%, according to data from Freddie Mac. That’s up from the 6.51% average at the end of Q3 2024 but down from the 7.30% average noted a year prior.

These rate fluctuations are partially tied to inflation and the policy changes the Federal Reserve makes in response to monthly inflation readings. We’ll discuss these policy changes and their impacts below.

Since its founding in 1913 via an act of Congress, the Federal Reserve has been tasked with maintaining economic stability in the United States, specifically regarding inflation. That’s because too much or too little inflation can cause economic distress.

On the other hand, consumers don’t spend as much money when inflation is low or stagnant, not even when prices are lowered to tempt more people to make purchases. Low inflation can be a sign of tough economic issues, meaning people might be out of a job or facing other financial problems that keep them from buying goods.

Both high and low inflation can be bad for the American economy and the general consumer. The Fed works to keep inflation at a healthy rate of approximately 2%, most notably by setting the federal funds rate, which is the interest rate that banks charge when they lend to other banks.

Read more: What does the Federal Reserve do?

Banking institutions must keep a cash reserve representing a percentage of their total deposits. When they do not have a large enough reserve on any given day, a bank facing a shortfall can borrow from another bank that’s experiencing a surplus.

These loans are made overnight simply so the borrowing bank can meet the cash reserve requirements the next morning. And just like a consumer loan, the borrowing bank has to pay interest on the loan to the lending bank.

The benchmark interest rate banks charge each other for these overnight loans is called the federal funds rate. When lending to consumers, on the other hand, banks offer interest rates based on the federal funds rate plus additional margin to ensure they make a profit. That’s why interest on mortgages and other consumer loans is typically higher than the federal funds rate.

Learn more: How the federal funds rate works

Inflation and the federal funds rate

The Federal Reserve adjusts the federal funds rate to help shape the country’s economy. When inflation is high, the Federal Reserve might increase the federal funds rate in an effort to slow down inflation. The thought is that fewer people will borrow money when rates are higher, which can help reduce the influx of cash into the economy and thereby stabilize inflation.

However, if the economy faces a potential recession because inflation is too low or stagnant, the Federal Reserve will decrease the federal funds rate instead This will lower general interest rates and encourage more people to borrow and spend money, thus supporting a healthy level of inflation.

Dig deeper: Jobs, inflation, and the Fed — How they’re all related

The Federal Reserve must adjust the federal funds rate in response to economic changes, so it’s impossible to predict where interest rates will go (especially in the long term) since we cannot know future inflation rates. For example, the market downturn that accompanied the onset of the COVID-19 pandemic had a major impact on the American economy — and mortgage rates — and it was impossible to predict.

However, even though we can’t know what future inflation will be, the Federal Reserve does create a regular inflation report to forecast where the economy will go over the coming year and decade. Though this report obviously can’t guarantee the future, it does use known parameters to set expectations for future inflation. As of February 2025 — the most recent inflation data at the time of writing — the Fed forecast 3.1% inflation for the coming year. This is based on various factors, including the CPI and PCE.

This is the highest inflation forecast since May 2024, which could be bad news for home buyers. Higher inflation could put off fed funds rate cuts, which could mean higher interest rates on mortgages and other consumer loans. To get an idea of what markets expect the Fed to do at upcoming meetings, you can use the CME Group’s FedWatch tool, which forecasts the likelihood of rate cuts and increases for all upcoming Federal Reserve meetings.

Learn more: How to get the lowest mortgage rates possible

Inflation can certainly impact mortgage rates, but it impacts home buyers in other ways, too. For one, it can send housing prices upward. As the prices of goods and services rise, so do the costs of material and labor to build and sell homes — which means higher home prices for consumers.

Buyers may also face higher prices on various closing costs and third-party services surrounding their purchases, like inspections, appraisals, moving costs, and more, as these can also rise due to inflation.

There is a benefit, though: Inflation — and the higher prices that come with it — could reduce demand for homes and make the housing market less competitive. This could make it easier to snag the house you like without getting into a bidding war or haggling with the seller.

Dive deeper: Which is more important, your house price or interest rate?

Inflation reports such as the Consumer Price Index and Personal Consumption Expenditures price index reports will not directly affect mortgage lenders’ interest rates. However, what those reports indicate for the future — and the Federal Reserve’s response to those expectations — will. Generally speaking, as inflation rises, so do interest rates, including those on mortgages.

When inflation rates rise, the Federal Reserve generally increases the federal funds rate, which leads to higher interest rates on consumer borrowing products too. By increasing interest rates during periods of inflation, the Fed helps to slow down consumer spending and get inflation under control.

It is impossible to know for certain where mortgage rates will go in the future since unforeseen events that affect the economy (like COVID-19) cannot be predicted. Based on Fannie Mae’s forecasts, though, we may see slightly lower mortgage rates in 2025, with the average 30-year rate sitting at around 6.6% by year’s end.

Homeowners usually benefit from inflation, as home prices tend to rise when inflation does. That means they gain more equity and can potentially earn more profit from their homes when it’s time to sell. Home buyers, on the other hand, do not benefit. They typically face higher mortgage rates and higher home prices when inflation increases.

This article was edited by Laura Grace Tarpley.