Rising Rates Have Experts Wondering : Economy: Recovery could be slowed too much, some fear. California is especially at risk.

The fast-growing U.S. economy appears to have raced into a danger zone in just the past few days, with interest rates starting to approach levels that could slow housing and other key industries that have propelled the economic recovery.

Moreover, the risks may be greatest in California, where mortgage-burdened residents are more heavily in debt than Americans overall, according to data from the DRI-McGraw Hill consulting firm.

“California households are going to be more sensitive to rising interest rates than households in other parts of the country--though rising interest rates will hurt everywhere,” said Richard F. Wertheimer, a DRI economist in Washington.

On Friday, rates rose once again, worrying the stock market, where the Dow Jones industrial average lost 19 points. Long-term interest rates have risen 1 1/2 percentage points since earlier this year, when the Federal Reserve Board started to push rates higher.

“I’m keeping my fingers crossed that this isn’t going to ruin it for us,” said Joseph A. Wahed, chief economist at Wells Fargo Bank in San Francisco.

To be sure, the rate increase has occurred at a time of ebullient economic growth, and most forecasters still expect the state and national economies to move forward in the coming months.

But the jump in rates has added a sudden element of uncertainty to an otherwise upbeat picture. Low interest rates helped fuel a rebound in housing, autos and other key industries last year, and high rates imperil that comeback.

“We have our eyes glued to the (data) screen, trying to make heads or tails of this thing,” said Adrian Sanchez, an economist at First Interstate Bancorp in Los Angeles.

“If rates stay the same, it probably won’t do too much damage,” he added. “But if they keep going up, my gut sense is that it could--possibly--choke off the recovery.”

Even current levels are high enough to take some of the zip out of an economy that has been growing at about 4% in 1994, after a 7% sprint late last year.

Many forecasters believe higher rates will shave half a percentage point or more off the nation’s growth rate later in the year. In addition, the effects will be felt in 1995, as well, because it can take nine months or even longer before higher interest rates take a measurable toll on the national economy.

Many economists expect long-term rates to settle down, given the lack of evidence of inflation and the prospect of a further Fed move to tighten rates next month.

Higher rates pinch the economy in a host of ways, pushing up loan costs for consumers and business and limiting the benefit of refinancing mortgages, to name a few.

In California, crawling out of its worst recession in six decades, the effect might be sharpest for a simple reason: Household debt burdens are substantially heavier than for the nation overall.

By one measure--total household debt divided by household net worth--California’s debt load is 18% heavier than the U.S. average, according to DRI-McGraw Hill.

Because homes in California cost more than average--68% higher by some estimates--each percentage point rise in rates is felt more strongly.

During last October, when 30-year fixed-rate mortgages were available at less than 7%, an unusually high 44% of California households could afford a median-priced home, according to the California Assn. of Realtors.

Then came the interest-rate surge. The most recent data show that by the end of March, with mortgage rates pushing beyond 8%, the index of affordability had slipped to 39% of households. Rates this week averaged 8.47%, the highest in two years.

Still, history provides some perspective: Back in 1989, before housing prices began their plunge, a scant 14% of households could afford the median-priced home.

A new analysis by Salomon Brothers concludes that California has finally entered an economic recovery, aided by an “impressive” surge in home sales. A key risk factor, according to the report: interest rates.

Economic concerns go beyond the Golden State’s borders.

“It looked like housing was headed for a banner year,” said Joel L. Naroff, chief economist at First Fidelity Bancorp in Philadelphia. “But if mortgage rates reach 9% or more, I think it will sharply slow down the housing market--at least compared to what we thought it would be.”

In the short run, the spotlight on rising rates may be having some odd consequences. Many consumers, for example, are scrambling to deal instead of dally, a phenomenon that boosts business rather than hurts it.

“People who were on the fence are now tilting over to buy their houses,” observed Bill Ruane, a realtor with REMAX in El Segundo, where the inventory of unsold houses has fallen to about 26 today--from 120 more than two years ago.

On top of that, interest rates are rising at a time of spirited competition among many lenders, a competition that is keeping rates low.

A quarter-point rise in the prime rate, for instance, might be expected to affect holders of bank credit cards.

“But this little blip has not slowed up the rate competition at all,” said Robert B. McKinley, president of RAM Research Corp., a Frederick, Md., firm that tracks the bank card industry.

For a typical cardholder, with a balance in the $2,000 range, annual expenses might go up by about $5, McKinley said. Although rates for some auto loans have reportedly risen, the 8% average rate nationally has held steady, according to Donald P. Hilty, corporate economist at the Chrysler Corp.

On a 55-month payment schedule, the average monthly payment is $321. A rise to 9% would only push up the monthly payment to $328, he said.

Nor does Hilty expect the picture to change much: “The bottom line is, we don’t see interest rates on car loans increasing much in the near future.”

That is largely because Hilty perceives little inflation “at the retail level or down the pipeline.”

The danger of inflation is a matter of dispute right now. Many economists believe the economy cannot expand at rates in excess of 2.5% for a sustained period without running into production bottlenecks, labor shortages and related price pressures.

Growth is widely expected to be in the range of 3% to 4% this year.

Although most Americans enjoy booming economic growth and the improved job possibilities it brings, well-heeled investors often take a different view. Many on Wall Street--focused on their bond holdings--were disheartened by the Fed’s moves, which they didn’t view as tough enough.

“One of the reasons interest rates are going up is because the economy is stronger than we thought,” said Donald Ratajczak, director of economic forecasting at Georgia State University.

Evidence of continued economic strength has mounted in recent days.

The economy produced 456,000 payroll jobs in March alone, the biggest gain in more than six years. Consumer confidence has rallied and retail sales are healthy.

Said Lyle E. Gramley, a consulting economist with the Mortgage Bankers Assn. and former Fed governor: “We learned in 1987 that an economy can continue to grow if its underpinnings are strong--even if it has the worst stock market crash since 1929.”