President Obama’s Housing Plan

There is an old saying among experienced economic policymakers, “in a major crisis, do not err on the side of being insufficiently bold.”  And we know that President Obama’s economic team are avowed proponents of this approach.

The housing plan unveiled yesterday is impressively comprehensive – I go through some of the details in a post this morning on The New Republic’s Site.  But is it bold enough? 

The parts dealing with conforming mortgages, thus involving Fannie and Freddie, are very much in line with what we have been advocating – these organizations now work for the government, so put them to work.  The scale of this piece seems roughly appropriate.

The Administration feels it cannot currently approach Congress for more funding, and this is presumably why there is so little funding in the remainder of the housing plan – and, remember, we know that many modified mortgages will later default again.  If this assessment on the lack of funding is correct – and I’m not convinced – at the very least it suggests the Fiscal First strategy was not such a great idea.

And this has implications for next steps.  If you think there is even a moderate chance of needing more funding down the road, wouldn’t it be better to start a serious conversation now with Congress?  In particular, a more holistic approach – with banking and housing included – is surely the right way to frame that interaction.

24 thoughts on “President Obama’s Housing Plan

  1. At some point, prices will need to be set by the markets, not the government.

    They talk like this package is a ‘done deal’, and will begin in early March.
    Has Congress already passed this legislation?

  2. The only good points I see in this proposal is the hope (and I don’t hold out much), that some mortgage principle might be renegotiated lower, with the lender taking half the loss and the government taking the other half.

    We need to deflate our massive debt and this proposal does almost nothing to achieve that goal. All the incentives to lenders and borrowers alike simply transfer bank and private debt to the government balance sheet.

    Somebody MUST pay down this debt. If it gets transferred to the public, many people that lack the ability to pay will end up paying the debt. If you force cram-downs of the principle on the mortgages, you are shifting the debt burden to the banks, their share holders, and all the MBS’ and CDO holders. These are the people who benefited most from the asset inflation and should bear the burden of the deft deflation.

    I know this will force some banks into insolvency, but that’s part of the “good” bank solution.

    It’s very hard to split these problems into separate pieces. They are intertwined and need a coordinated approach.

  3. You wrote:

    “On the negative side, foreclosures destroy economic value in several ways: ……; reduced value of foreclosed houses and impact on houses in the neighborhood;……”

    Are inflated home prices really “economic value?” I respectfully disagree. Where I live (San Diego County), prices are still too high based on wages, rents, and the Case-Shiller index. I do not think we should be keeping home prices inflated. I see prolonged inflated home prices from bubbles and government intervention as inflation. First time home buyers are forced to take on more debt for a comparable house that their parents bought at the same age. Americans need less debt not more.

    I am a little biased as I have been waiting for the bubble to burst here since around 2005 and I do not see any end in site. I am happily renting a nice house at $2000 a month cheaper than it would cost to buy. I feel sorry for my neighbors who bought at peak prices and are now all underwater some even by $150,000! I do not see how this plan is going to give owners that are very deep underwater any incentive. I don’t have any numbers of what percentage of the population that is.

    Have a great day and keep the great commentary coming.

  4. Anyone that still thinks the aim of this proposal is to assist beleagered homeowners is either daft or simply hasn’t read Michael Hudson’s analysis of this proposal at Counterpunch:

    http://www.counterpunch.org/hudson02172009.html

    The relevant parts are to be found about halfway down the page and are captioned, “The U.S. giveaway to banks, masquerading as ‘help for troubled homeowners'”.

    Here’s a sampling of Hudson’s take on the question:

    “Take the much-vaunted $50 billion program designed to renegotiate mortgages downward for “troubled homeowners.” Upon closer examination it turns out that the real beneficiaries are the giant leading banks such as Citibank and Bank of America that have made the bad loans. The Treasury will take on the bad debt that banks are stuck with, and will permit mortgagees to renegotiate their monthly payment down to 38 per cent of their income. But rather than the banks taking the loss as they should do for over-lending, the Treasury itself will make up the difference – and pay it to the banks so that they will be able to get what they hoped to get. The hapless mortgage-burdened family stuck in their negative-equity home turns out to be merely a passive vehicle for the Treasury to pass debt relief on to the commercial banks.”

    While the scale of the proposal is somewhat larger than Hudson reported at the time of his article – Tuesday this week – and the limits on mortgagee income somewhat lower – 31% of income as opposed to Hudson’s 38% – the differences are without effect on the main lines of his thought. Obama/Geithner have simply found a way to take care of their paymasters while at the same time making it look like social conscience. And we pay the bill.

  5. We all know that some home owners will default again because they have no structure in their lives and they don’t know how to handle their money, but on the other hand you have the people who through no fault of theirs (lost jobs, divorce) are really gonna try to keep up their mortage payments. If flabbergast me when I hear how much people’s house payments are!!! The market is a rip off. I own my own house brick 3 bd/3 bth/dbl car garage huge fenced back yard and my payment is 500 a month. Why are people paying 2,000 m 3000 or more for a house. No wonder they are losing their homes. CRAZY!!!!!!!

  6. Response to Dan above:
    I think the idea is that congressional approval for most of the plan is not necessary. Treasury already controls Fannie and Freddy, so that part of the plan can be implemented under existing authority of the President.

  7. What exactly are “cash incentives to lenders”? Government/taxpayer guarantees probably, based on future tax revenues, i.e. a transfer of wealth from the wage-earners and real producers to the financial oligarchy. He seems to be taboo on the east coast but isn’t Hudson right on target here?

    Consider 2 forms of debt write-down:
    A) a government intervention by which the debt being held by a homeowner is reduced, for example by erasing one or two zeros from the principal of a mortgage. There have been devaluations of currencies and wage-and-price freezes. It would reduce the value of bank assets but aren’t asset values too high anyway?

    B) a direct government payment to a homeowner in the amount of a percentage of their debt. The homeowner would pass this on to the creditor. The credit-ratings of the associated instruments would improve leading to higher asset values for financial institutions.

    Write-down A would place the immediate cost of this mess where it belongs – with the financial industry. Certain institutions would be undeniably bankrupt and forced out of the market. The economy might be severely damaged but levels of national debt would be held in check and recovery could begin.

    Write-down B would increase government debt but the financial hierarchy would survive intact, piloting us to a soft landing. Perhaps the economy would recover faster and pay off the debt relatively quickly. There might be trouble trying to figure out whose mortgage gets paid.

    I tend towards the avenging angel solution. Erase the zeros.

  8. Why are we insisting on keeping prices for homes above their actual market value? If we wish household formation to increase then young people need to be able to afford to buy homes. This way they can make a consistent contribution to aggregate demand (whatever that is) and provide a sustainable base on which to rebuild the economy. Affordable housing is crucial to any sustained recovery. And this is to say nothing of the “tyranny of the majority” problem, where wealth is being transferred from prudent renters to home owners.

    As with the banks and auto industry, bailing out homeowners creates perverse market incentives and, in the end, damages the economy’s long term prospects. Rather than preserving people in abusive economic relationships with banks, we should allow them to default, enter into renting (which would probably be the single best thing we could do to shore up their balance sheet) and offer social services to deal with the consequences. This lets the market actually work and has the additional advantages that the social services are understood as gifts from society, rather than something that the person is owed, fostering the appropriate social attitudes towards them, and that social services are much more difficult for the banking industry to get its hands on.

    Cheers,
    Carson

  9. This plan will not keep home prices where they currently are. $275 billion is too small an amount for that goal. The best that can be achieved is to slow the cascade of forced selling so that losses can be spread out over time. This is placebo economics at its best.

  10. Carson,

    Great points. I’m a potential first-time home buyer and am distressed by the government’s sole desire to increase speculation and keep home prices inflated in order to save incompetent borrowers.

    Even if you diligently saved money over the years for a down payment, you’ve been screwed by the government, since they’ve colluded with banks so that home prices increased at a much faster pace then your income could ever increase (unless of course you work on Wall Street), making it impossible for most regular people who simply saved to afford a home, without taking on huge debt.

    This is not sustainable. Home prices need to reflect income growth and buying a home should not place a family into a huge pile of unaffordable debt for 30 years.

  11. One thing I’m curious about is the potential conflict between efforts to buy up/create a market for toxic mortgage securities, and the loan modifications that are an important feature of this housing bill.

    How much truth is there to the industry’s claim that these renegotiations (whether through judicially enforced cram-downs or via the govt. incentives in the bill) will make mortgage-backed securities even more untouchable than they already are? I understand the logic, but it seems like there is no more value sucked out of the asset through loan renegotiation than there would be through foreclosure. Or is it just that foreclosure shortens the time for receiving the diminished returns, i.e., lump sum through sale of foreclosed property rather than smaller slices of the reduced loan dispersed over time?

    BTW, the bankruptcy law passed in 2005 looks even more sinister now than it did then. Why would you advocate raising the bankruptcy threshold — and put (leave?) in place such glaring inconsistencies as being able to cram-down second home and boat loans, but not those for owner-occupied homes — if you did not think you were going to be facing a wave of foreclosures and bankruptcies in the near future? Someone should go back and do the research comparing those who were lobbying for it with those who are the worst offenders in this crisis.

  12. Definitely not bold enough. When you are only using a sloppy sounding incentive system and giving bankers a lot of control…I don’t see this generating any increase in liquidity…in the next 5+ years. That’s a little depressing.

    I also feel as though Marty Feldstein’s plan is not that politically sellable for a variety of reasons starting with 1) it’s more complicated than the average voter can tolerate 2) its not helping those who currently have negative equity (as I understand it).

  13. The sooner home prices get in line with income and rent (also known as reality), the better. The simplest way to actuate this would be to make a rule that allows mortgage holders a right to rent at fair market prices instead of staying underwater or being evicted. This simple rule might be enough to nudge banks to modify mortgages. And it requires no extra gov’t money.

  14. What about our new Bankruptcy laws….(supported by Joe Biden); That allows anyone to restructure a loan on a second or third home…or A YACHT!!! But won’t allow restructuring on one primary residence. Don’t we need to include reformed Bankruptcy laws in this solution… if NOT… why?

  15. One interesting idea which would prevent the current situation from demolishing homeowners and prevent them from walking away from negative equity is to have a mortgage adjustment to the principal balance just as ARMs are chosen to adjust on the prevailing interest rates. Say one has a 30 year fixed mortgage on a property. Whatever the principle balance after a sequence of 5 years you will have paid off a certain percentage of the principal. Reset the total value of the principal to the assessed value at the current time and rewrite the mortgage to start at the paying at that stage as if the original principal value was the current value. This like interest rate adjustments will causes the payment to adjust up or downwards depending on the interest rates.

    Another idea is to treat the lender as a co-owner and have him or her share in the loss or the gain in the purchase price at the time of sale. For this privilege interest rates could be adjusted downward.

    While ownership of mortgages by securitization have been distributed to the wind. The terms of mortgages have not changed for a very long period of time. Adjustment might be in order now so as to ease the crisis.

  16. Why shouldn’t the government recapture some of it’s contribution to the homeowner’s debt restructuring by taxing any gain on the resale of the house at ordinary income rates, rather than capital gains rates? Or, at least tax some of the gain in future years at ordinary income rates. In that way the government is a co-venturer with the home owner–it gets to share in any future gains in a way that it does not for other taxpayers who did not receive a subsidy. If you present it this way, you can actually reduce program costs, deal with equity or fairness issues, and possibly even expand the program.

  17. Just where is the government going to get the money to pay for all of this? We’re turning this economy into an inverted pyramid where massive debts are piled onto a shrinking number of productive people. This proposal is just another plaintive call to the Money Fairy to come and wave her magic wand and dispense dollars out of thin air.

  18. You note in your article that the shift from previously expected inflation to deflation now represents a massive transfer of wealth from borrowers to creditors (so much, that creditors are suffering because so many borrowers are defaulting/going bankrupt).

    You fail to make a huge point. The BIGGEST NET BORROWER is the US TAXPAYER. Deflation destroys taxation income, and further massively transfer wealth from US Taxpayers to holders of US Debt (some in the US, some abroad) who are all hoarding cash.

    If you consider the net present value of a 2% annual downward shift in prices from previous expectations on US government long term debt, this is like increasing the size of the debt by trillions of dollars. The impact of this is more than the cost of the banking bailout AND the

    You also note the inadequacy of fiscal stimulus – notably, the incentive for other countries to free ride by exporting to the US. In other words, fiscal stimulus further guts US jobs by propping up the dollar.

    Monetary stimulus devalues the dollar and encourages exports (and increases profitability of most US companies).

    You, and other economists with real voice, need to start focusing more on this issue. The public neither understands nor cares about the banking crisis. Moreover, they have gut instincts which tell them that even if you had banks that had money, there’s no incentive for them to lend (or anyone to borrow) because the economy sucks. But all they hear is banks, banks, banks, banks. They could care less.

    And all they WANT to hear is jobs, jobs, jobs, jobs.

    Honestly, we could invest long months in designing intricate bank-rescue plans that may or may not work, argue bitterly over it, clog up the halls of Congress, and it will still likely be stalled by political infighting and the concentrated banking lobby.

    OR – we could pass a law that specifically targets inflation. The law would dictate the following:

    In every quarter (3 month period) in which growth is negative by some fixed percentage, US Treasury will send all US taxpaying households a tax refund for $2,000. Scale it down as a percentage of growth/unemployment or some other mix of indicators. This check will be financed by a 50 year loan from the Fed at 0% interest rate. Create the law with a sunset provision (5 years). The law is self-regulating. When growth is restored, money supply expansion ends. This fixes the US Debt crisis. This fixes the problem of homeowners underwater. That fixes defaults, which fixes the bank problem.

    It also forces Europe to devalue the Euro (or lose even more exports) rather than drain off the US stimulus like a leech.

    Currently, we are sucking vast amounts of money out of the economy by floating T-bills to plug leaks in bank balance sheets on the vague hope this will help spur lending and get the banks to counter disinflation for us (won’t happen). So the hope is the US sucks cash out of the economy (selling T-bills), gives the cash to banks, and the banks… sit on it because no one wants credit? And this will fix things? The fact is that for those people and companies that have GOOD credit, they can get it.

    Holders of US Debt will cry bloody murder when the US inflates, but let’s face it, they are the ONLY ones who have benefited from a net wealth gain while all other assets have plummeted.

    Moreover, it’s in their enlightened self interest. There is no end in sight to this – every time the US Fed re-evaluates the economy, growth is 12 months on the horizon. It’s like chasing the rainbow.

    If things continue like this for another 2 years, all reserves will be exhausted. Many states did build rainy day funds. They will be gone this year. The federal debt will be so high that default will almost be inevitable, particularly with looming entitlement commitments.

    Private sector stability-reservoirs are shot. College endowments are shot; what is left of the ivory tower is crumbling. Your own MIT is cutting new jobs and scaling back costs while increasing tuition 3.6% when incomes are dropping and family college savings are gutted. Ask your students how that feels.

    This will not end. The US needs to stop indebting itself further (through fiscal policy combined with disinflation) and start printing money. And spending it _quickly_ (and frankly, the Republicans are right that tax cuts are among the fastest ways to spend money).

    And that means making the big arguments – and having the big fight in Congress. And just getting it done with.

    And the only way we’re going to get a real commitment from Congress to engage in monetary expansion is if Obama takes on the argument himself. He has to make it to the people in a way they can understand. Directly. He will not get bipartisanship on this.

    (Deflation means transfering money from taxpayers to holders of US Debt; Without expanding the money supply, we’re just subsidizing foreign exports into the US – US citizens get these ideas. They don’t get dumping 700 billion into banks.)

    Even then, Obama will probably not get buy in from his own party without making a sacrifice. And that sacrifice is the BIG COMPROMISE. Fiscal conservatives agree to print money now, and as part of the SAME LAW we scale back all entitlement programs to ensure long term US fiscal security.

    Or the world can burn.

  19. There’s a fairly simple solution to the real estate crises: Declare 28-36 Debt-to-Income [DTI] Qualifications to underwrite mortgages in default facilitating mark-to-market holdings for Financial Institutions. Those homeowners who cannot qualify for at least 75% of what they originally borrowed under 28-36 DTI, sign Deeds-in-lieu of Foreclosure for lease-purchase agreements with note holder(s) at fair market rent with purchase rights at today’s market value (market value is based on others in market who can qualify under 28-36 DTI).

    Qualify the loans and the real estate market and values settle out while credit and trust are restored in MBS producing financial market stabilization. The 25% write-down is backed by the U.S. Government. This 25% is substantially less than the bailouts to date. Banks and servicing agents are already in place for underwriting and non-performing loans become qualified so values are validated. This entire process could take 18-24 months but with immediate impact as this plan is less costly.

    I may be the only one in the world who ever purchased their own mortgage at a deep discount and then sold the collateral for significant gain. I’ve learned one thing: He who controls the debt, controls the equity. The lease-purchase deals work to stabilize home prices and prevent vacant properties while the owner(s) (U.S. Government and/or Lender) avoid an expensive foreclosure process to have the property back on the market for those qualified at outlined above. The lease-purchases can be securitized and as long as accountable underwriting occurs, we’ll have captured the majority of “unknowns” in the real estate market and confidence is restored. I cannot emphasize it enough: We have to go back and underwrite what was not done the first time around. Simple. You make your money in real estate when you buy. If you don’t see it going in, you won’t see it going out. Same applies when lending.

  20. Keith Keithly wrote:

    “The 25% write-down is backed by the U.S. Government.”

    What form does the backing take? Direct reimbursement by the government to note-holders of 25% of the total amount of mortgages in default?

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  22. Given bailout money extended so far, direct reimbursement by the government to note-holders is the salvation du jour but direct reimbursement in my opinion promotes moral hazard. Think Mortgage Insurance. One contract paid by the borrower to the Government for insuring whatever percentage of the write-down attributed to the borrower’s financial situation is and the remaining percentage (to address the 25% in total) is covered by an insurance contract between the note holder and the government. The premiums collected provide affordable “skin in the game” by the borrower and note holder while offsetting some costs by the government.

    Whether the resolution for the defaulting homeowner is getting re-written at 28-36 DTI with payments they can afford or to the homeowner who takes on the lease-purchase contract where they can stay in the home and preserve an equitable interest, the paper can be securitized and with mortgage insurance, downsides protected. The caution is not to have lax underwriting at any juncture because of moral hazard. Each link in the mortgage chain receiving any collection of profits while believing it is passing on risk will get us back on the train tracks to Hell (i.e., “credit crises 2.0”)

  23. Too bad we didn’t tackle this problem when it first became a problem. I just wonder if the Bush Adm. thought it would all happen after he left office. It would follow his life pattern after all.

    In this instance “a stitch in time saves nine” is certainly appropriate.

    I don’t think you can compare this to any other historical recession or depression or whatever you want to call it. It has way too many moving parts and nobody has gotten a grasp on any one part of it.

    If you can’t even describe the machinations used to deliver this quandary, then I would suggest you break it into its most simple parts. A failed bank is a failed bank and let it flow from that point.

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