Although housing demand will remain healthy, the nation's primary mortgage group said Wednesday that it expects mortgage volume to sink by more than half in 2006 from the all-time high reached last year.

According to the second-quarter update on its three-year mortgage finance forecast, the Mortgage Bankers Association of America (MBA) projects strong economic growth through 2006, with gross domestic product growth rates near or exceeding 4% each year.

"The job market will steadily get stronger even in the presence of sustained high levels of productivity growth, resulting in continued strength in home-purchase activity," said Doug Duncan, MBA's chief economist, in a statement.

Jobs will increase by about 150,000 per month in 2004, and about 175,000 each month through 2006, said the economist in a teleconference. Thus, the unemployment rate will decline from the current level of about 5.7% to 5.3% by the end of the three-year period.

"Even with these strong growth expectations, interest rate increases will be modest due to continued expectations of low inflation," Duncan added.

The 10-year Treasury rate should rise to an average of 4.4% during the fourth quarter of 2004, 5.0% during the fourth quarter of 2005, and average 5.4% in 2006, the group said. Mortgage rates will follow a similar pattern, with the spread between mortgage and Treasury rates expected to tighten to an average of about 150 basis points. The 30-year will respectively rise to 5.8%, then 6.5% and to slightly more than 7% by the end of 2006, MBA said.

"From a historical perspective, these are very modest interest rate increases for the level of economic growth we are expecting, and should cause few adjustment problems for the housing industry," Duncan said.

Over the three-year period, mortgage originations will decrease from the record $3.8 trillion reached last year. Mortgage volume should amount to $2.57 trillion, $1.96 trillion and $1.85 billion in 2004, 2005 and 2006, respectively. The bulk of the drop-off in total loan origination volume will be in refinancing, while purchase originations will surpass the record $1.28 trillion set last year -- totals will be $1.38 trillion in 2004, and $1.37 trillion and $1.42 trillion the two years following.

Housing demand will remain at very high levels by historical standards, Duncan said. Sales of existing homes are expected to fall by 1.7% from last year to 5.99 million units in 2004, and fall by an additional 6.8% in 2005. New-home sales will rise by 0.7% to a record 1.09 million units this year before falling by 10% in 2005 and another 1% in 2006.

Duncan noted that the forecast did not include this week's rise in Treasury yields that responded to unexpectedly strong retail sales and inflation data.

If the job market continues to grow close to the level reached in March, and consumer spending remains at its robust level over the next few months, Duncan said the Federal Reserve could move from its patience stance and raise interest rates as early as June.