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Related topics: Federal Reserve, debt, mortgage, cars, Anthony Mirhaydari

Over the past few months, I've focused on what I believe will be the most important economic development of the next few years: more expensive money. As I wrote just a couple of weeks ago, the cheap-money era is ending, with interest rates poised to move higher.

For many, especially those who are skeptical of the Federal Reserve's management of the economy, this couldn't come soon enough. We've seen the fiscal misfortune fashioned from ultralow interest rates and the excessive lending and risk-taking associated with them. Commodity price inflation. Asset bubbles. Bank bailouts. Government largesse. The boom-and-bust business cycle.

Yes, some of these things are continuing now as the Fed and other central banks print more money to juice the recovery. Crude oil is flirting with $90 a barrel again. Gold is toying with $1,400. A tripling of onion prices is causing political strife in India, while Mexico has been forced to hedge the price of corn to prevent another round of tortilla riots.

But the end is near. The Japan deflation scenario is largely off the table. Inflation is set to rise thanks to the Fed's $600 billion "QE2" program and a stabilizing housing market. And interest rates look ready to move higher in sync with the 60-year cycle that seems to dictate the ebb and flow of the U.S. economy.

Image: Anthony Mirhaydari

Anthony Mirhaydari

I've discussed the implications of all this from the perspective of investors. Simply put, and considering your personal risk tolerances, the best advice is to avoid bonds and embrace stocks. The ravages of inflation will eat away at bond returns. Stocks should benefit as a natural inflation hedge, and they're coming off of the worst 10-year performance since the 1930s.

But there's another angle. For consumers, there are plenty of other ways to take advantage of this interest rate shift before borrowing costs rise. That will usher in a period of austerity as households and governments cut debt loads, slow borrowing and learn to live within their means.

So before interest rates move seriously higher, you have one last chance to grab the cheap money and put it to good use. Here's how.

Yes, more debt

It may seem counterintuitive, but now is actually the time to look at ways of using credit. Long-term interest rates are up a bit, but they're basically as cheap as they've been since the 1950s. The reason it's counterintuitive is that household debt-to-income levels are still high -- but they've been coming down lately.

Image: Household debt burdens ease © MSN Money

The Federal Reserve's financial obligations ratio, tracked in the chart above, combines debt payments with auto leases, rents, insurance and property taxes, then divides by disposable income. The number has actually dipped below its 30-year average. That means that, thanks to ultralow interest rates, debt defaults and repayments, as well as reductions in expensive consumer credit, people have more borrowing capacity right now than they're given credit for.

We can see this at work in the economy. Back in September, I suggested the improvement in this measure of consumer spending power was responsible for a rebound in retail spending. Indeed, from a low in the first quarter of 2009, personal consumption expenditures are up 4.6% and have pushed to new all-time highs through the third quarter. And according to the International Council of Shopping Centers, the 2010 holiday shopping season was the best since 2006.

Of course, I don't suggest going out and charging up your credit card. The economy is still difficult, and your personal financial-obligations ratio may still be out of whack. But, for a lot of people, it makes sense right now to borrow in the interest of reducing payments on their two largest expenditures: housing and cars.


According to the fixed-income teams at both Credit Suisse and Morgan Stanley, the refinancing boom is coming to an end. That's not surprising, with mortgage rates now moving higher off of their historic lows, diminishing the benefits of swapping out your current loan for a cheaper one. In fact, the latest data from the Mortgage Bankers Association shows that refinancing activity has moved to its lowest levels since last April.

Despite the fact that 30-year mortgage rates moved down to record lows below 4.2% last fall, the pace of refinancing activity failed to eclipse 2003 levels. Credit Suisse analysts note that the pace of refinancing activity recently peaked at less than half of the rate seen back in 2003 when rates bottomed out near 5.2%. With rates lower now, you would think people would be falling over themselves to refinance. The limiting factors have been negative equity, with home values down, and a tightening of lending standards since the mortgage crunch -- making it more difficult for people to take advantage of ultralow rates.

Image: Percent of banks tightening mortgage standards © MSN Money

That's changing now. Banks are beginning to relax lending standards, which is illustrated in the chart above using the latest data from the Federal Reserve's loan officer survey. With incomes growing and jobs being created (the latter the subject of my Dec. 8 column), banks should continue to relax their standards as the potential credit risk of lending during an economic downturn fades.

So even though mortgage rates have increased to around 4.8% over the last few months, they remain far below the average rate of 8.7% that's prevailed over the last 30 years.

As for the negative equity problem, the situation isn't as bad as you might think: An analysis by The Wall Street Journal found that just 15% of all homes are underwater, meaning the owners owe more than the house is now worth. As of 2009, the U.S. Census Bureau found that the median loan-to-value ratio of a mortgaged property was 63%.