Posted on 12/06/2007 9:36:35 AM PST by goldstategop
It is easy to call yourself a supporter of economic freedom and the rule of law amidst a rapidly rising economy. Now with dark clouds of the recent rise in mortgage foreclosures—and more expected on the horizon—political expediency has eroded the support for free markets in some of its perceived champions.
Even self-proclaimed devotees of the late Milton Friedman, President George W. Bush and California Governor Arnold Schwarzenegger, sound more like critics than Friedman supporters.
In the wake of a perceived mortgage crisis both have attempted to use the coercive power of government to solve the problem. Both plans center on agreements with the largest mortgage servicing companies to “voluntarily” freeze interest rates on adjustable rate mortgages for a set period of time.
Upon Friedman’s death, President Bush remarked that “Milton Friedman has shown us that when government attempts to substitute its own judgments for the judgments of free people, the results are usually disastrous. In contrast to the free market's invisible hand, which improves the lives of people, the government's invisible foot tramples on people's hopes and destroys their dreams.” Perhaps the President should re-read his talking points and share a set with the Governor.
There are several flaws in the approach to “voluntarily” freeze rates. First, it is disingenuous to call the plan completely voluntary. When a government seeks a “voluntary” commitment in one hand, you can be sure that the hammer of regulation is hidden behind the back in the other hand.
Moreover, such a freeze is tantamount to a moral bailout. While it may not necessarily be a financial bailout of the S&L magnitude, it bails out lenders and borrowers from bad decisions and forces someone else to shoulder the cost. Behind each mortgage is a pool of investors that make life decisions, such as retirement planning, based on an expected return of those investments. Forcing these investors to eat a loss by government fiat is fundamentally unfair. Moreover, this tramples the rule of law and the sanctity of a contract. And, of course, as the regulatory feeding frenzy grows, you will no doubt see a host of new efforts to clamp down on lending practices and in doing so eliminate the access to capital that so many families depend upon.
Equally troubling, the proposals seem to try to encourage responsible borrowing by only applying to people that are current on their notes but who can’t afford the rate adjustment. It doesn’t take a Nobel Prize Economist to figure out that thousands of families that actually can afford the rate adjustment, and who made those decisions willingly, will nonetheless seek relief by claiming that they will not be able to afford it. And what constitutes not being able to afford it? Does a family that goes out and finances tens of thousands of dollars worth of home entertainment equipment and luxury automobiles and whose monthly debt obligations have increased dramatically qualify for relief?
Perhaps most troubling of all is that this move to freeze rates and ratchet down the industry with new, tougher regulation completely misses one fundamental reason that so many Californians have turned to adjustable rate mortgages and other exotic loans. The price of housing in California is simply too high.
Is it any surprise that five of the ten areas with the highest foreclosure rates nationally are in California, or that in some markets there are more foreclosures than new homes for sale?
If Schwarzenegger and Bush want to stay true to their philosophical allegiances to Friedman, they could start by tackling the root causes of the affordability crisis that has driven so many families to secure loans that are a poor fit for their unique conditions.
According to statistics from the California Building Industry Association, California homes were on par with national prices as late as the 1970s. As development became more difficult in California, prices relative to the nation began to shoot upward. Now, California home ownership rates are 10% lower than the nation.
If California really wants to ensure that people have a home to live in, we need to make housing more affordable. New regulations on mortgages or short term freezes will not do that.
The price of regulation—both in hard dollar fees and in the costs of time—can easily add $50,000 to the cost of each home. That can account for $300 or more in each monthly payment. In many jurisdictions, the cost of regulation is much higher than that.
At the same time the costs of regulation are increasing, anti-growth activists have become experts at utilizing the California Environmental Quality Act (CEQA) and other well-intended laws to stop development or force substantial delays which also results in significant costs. The longer a home takes to build, the more it costs in interest and construction expenses. On top of that, finding land that is suitable for development is increasingly difficult, and when land is found, political pressures typically mount against “affordable housing.” While such conditions exist in varying degrees around the nation, there is a uniform need to address them.
While it may seem politically appealing for government to directly help people keep their homes, as Friedman said of government intervention, the results are usually disastrous. Both Schwarzenegger and Bush would do well to focus, instead, on underlying cost drivers of the housing market that are truly governmental in origin.
People, faced with home prices they simply cannot afford, have far too often found refuge in loans that probably don’t fit their personal economic conditions. While no amount of intervention can eliminate the obligation that anyone has to fully understand and honor the terms of the contract they sign, it would nonetheless be helpful for government to eliminate or reduce some of the cost drivers that they developed and which have helped fuel this perfect storm.
What will ultimately happen is that the securitized debt instruments that contain the sub-prime debt (and in California, sub-prime isn’t the whole of the problem; Alt-A notes are now defaulting at a pretty good clip too) are going to be sold at a discount because the investors who bought said instruments aren’t going to see their expected rate of return. These investors are going to take a loss rather than bother with the meddling of the government in their bond portfolio(s).
The investors who really want their money back would find a way of breaking open the CDO’s, selling or writing down the sub-prime components, getting rid of any derivatives and keeping the better quality tranches inside the CDO (which in many CDO’s is the majority of the paper inside them).
If the Bush Administration had offered some help in de-structuring these silly structured investments, we could have sped up the rate at which the market could resolve this situation, but no, the Bush Administration took a very DNC-like approach and decided to just kick the can down the road to the next administration.
The future problem will be that the market will demand higher interest rate(s) for mortgage-backed securities based on the assumption that the government might again meddle in the bond market for political expediency.
Personally I want to see every bank in this country fold and have it evolve into a world wide depression.
“One final thought. How can any of this get repaired unless home values stabilize? And how will that happen? In Northern California, a household income of $90,000 per year could legitimately pay the minimum monthly payment on an Option ARM on a million home for the past several years. Most Option ARMs allowed zero to 5% down. Therefore, given the average income of the Bay Area, most families could buy that million dollar home. A home seller had a vast pool of available buyers.
Now, with all the exotic programs gone, a household income of $175,000 is needed to buy that same home, which is about 10% of the Bay Area households. And, inventories are up 500%. So, in a nutshell we have 90% fewer qualified buyers for five-times the number of homes. To get housing moving again in Northern California, either all the exotic programs must come back, everyone must get a 100% raise or home prices have to fall 50%. None, except the last sound remotely possible.”
From a blog...
Interesting...
That may be true in California, but here in NJ, its more of an INTELLIGENCE barrier. When I saw the advertisements in the ghettos of Newark, JC, etc. for "zero money down/no credit" houses going up, I knew that we have become way to generous with credit. Thanks Fed and HUD!
You have a flawed premise here: that some “bank” holds the whole of someone’s note. They most often don’t. The sub-prime mortgages have been so “securitized” that there isn’t a clear single holder to a single house in many of these situations any more:
http://www.nytimes.com/2007/11/15/business/15lend.html?_r=2&ref=business&oref=slogin&oref=login
The economy is gonna tank anyway. When most of your economic growth is based on refinancing your house and buying SUVs and plasma TVs, and that option is gone....
The Merry Go Round Broke Down!
Interesting because the person who wrote this is onto something: much of the housing appreciation in overheated markets was due to the ease with which people could over-leverage themselves into a house far, far above what they could really afford.
The housing bubble was created by the same forces that created the dot-com bubble: easy leverage. This is the same thing that is propping up oil prices: you need have only 10% margin down on an oil futures contract, which allows speculators to buy up huge contracts for oil on limited capital.
After the dot-com bubble, the SEC required that the stocks of small, thinly traded and recently-brought-public companies be bought on only 100% margin (ie, cash), which has had a beneficial effect. The same idea is being brought to bear against the real estate markets — banks tightening their lending standards, the disappearance of stated-income loans, no more cheap investor mortgages, etc.
As a result, housing prices in California are going to fall. There’s simply no way around it. And they’re going to fall pretty far; farther than they’ve fallen in the past. The price of housing is so far above the earning power of people in California that not even 50 year mortgages can keep the valuations up there.
But people who already live on the California coast don't want more housing built because they like the lifestyle they have and don't want it spoiled by more people and more traffic.
And those people vote accordingly.
Therefore, politicians are reduced to pushing unworkable schemes to try to make housing "affordable" - schemes that usually boil down to transferring part of the market price to the taxpayers. The only ways to eliminate the "absurd pricing situation" in California are:
a) Build many more houses in coastal open space areas, along with new highways and infrastructure improvements.
Impact: Minimal, since even more demand would immediately arise once those conditions went into effect.
b) Minimize or eliminate the demand by weakening the California economy and ruining the existing infrastructure. This is in fact the Democrat/Green Party "Lesser California" Master Plan, in effect since the Jerry Brown administration.
Impact: Minimal, since the ability of California to attract high-caliber people and their companies has outstripped even the most gifted bureaucratic saboteurs.
c) Drastically tighten lending requirements and make buyers actually qualify for the loans they apply for. Go back to 1960 rules.
Impact: Moderate. It would be partially successful since once it became clear to the public that there was no avenue to trick their way into houses they couldn't really afford, pricing pressures brought on by easy money would ease somewhat. California's innate desirability will, however, continue to attract a great deal of out-of-state and foreign money, which will keep pricing high in popular areas.
But the Bush/Schwarzenegger bailout is the exact opposite of c).
Perhaps a better strategy than the bailout would be a California marketing campaign with TV ads in the Midwest and East featuring slogans like "Build your future in sunny Barstow!" or "Alturas, natural wonderland!" ;)
True. In many cases it will be in the bank's best interest. That doesn't mean it isn't a bailout of the people that irresponsibly borrowed more money than they could pay back.
That is called renegotiating a contract.
It's not much of a negotiation. The banks are looking at people are close to defaulting, but could continue to pay their debts if they lock down a low rate. The banks are then offering to give them a better deal than what they already had agreed to.
Two parties to a contract can change the terms.
Sure they can. But in this case the terms are only being changed for people who are unable to live up to their obligations. That makes it a bailout.
There is no moral or ethical rule against that.
There's no moral or ethical rule against bailouts in general, though I do have some ethical issues with government bailouts because they are bailing people out with other people's money.
Not while their owners can vote for a bailout.
Forget about it. The home prices there are ridiculous.
Perhaps you underestimate the innovative abilities of the real-estate and mortgage industries......
Sure they will, because mortgage loans are going to be harder to get.
We’ve seen the “innovation” of the mortgage and finance industry.
That “innovation” is what got us into this mess.
If they handed out loans to only those who had a snowball’s chance in hades of repaying them, we wouldn’t be seeing the default rate we are.
If the finance industry didn’t try to hide the true cost of sub-prime lending by packaging it into CDO’s and other illiquid, mark-to-model securities, we wouldn’t have a liquidity lock-up in the credit markets.
I don’t underestimate their innovative abilities at all.
Everyone else has underestimated the consequences of those “innovative abilities.”
I’ll add: Cal Assoc of Realtors reported yesterday an average price of 497,000. One year ago it was around 579,000.
ROTFLMAO!
ROTFLMAO!
You are nuts.
Everyone knew there would huge losses if housing prices turned south. Yet they continued to make loans and sell them to investors (such as pension funds and insurance companies). Then, when the house prices turn down and defaults skyrocket, the solution is to interfere and prop-up housing prices by hopefully preventing defaults.
Also, there is no evidence that it will slow down defaults. Only the investors get screwed.
Finally, servicers all along could have recast the mortgages. Why didn’t they? Answer? The investors don’t believe that it is in their best interest.
So who benefits? Borrowers who inappropriately speculated in housing when they knew they couldn’t make the payments at reset data and the banks who created this disgusting mess by closing their eyes when they knew this was going to come to an end.
“I never said housing would not decline. I fully expected about a 5% decline and a slow down. What I objected to was the constant sky is falling, houses are gonna decline 40% in the next 6 months BS. And yes, this is in no way shape or form a bailout.”
5%...you wish;
[quote]Reuters
House prices seen falling 30 pct
Thursday December 6, 6:41 am ET
By Julie Haviv
NEW YORK (Reuters) - Housing markets from Punta Gorda, Florida, to Stockton, California, will crash and suffer price drops of more than 30 percent before the housing crisis is over, a report from Moody’s Economy.com said on Thursday.[/quote]
http://biz.yahoo.com/rb/071206/usa_economy_housing.html?.v=3
Our PollyAnnas would have us believe all is well.
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