Housing Bill Madness Posted by: Lance
on Monday, July 28, 2008
Tyler Cowen looks at the cost of bailing out Fannie and Freddie. One key point which echoes my complaint:
4. Often in these plans equity holders are (nearly) wiped out. So beware all the talk of moral hazard. The real moral hazard is on the side of future creditors, not the current, possibly-soon-to-be-extinguished equity holders. They really are getting burned.
Bond holders are senior to equity holders, and should get paid first. It is a huge moral hazard issue however to bail out creditors, but not shareholders. That doesn't mean I think we should bail them out also.
7. The transfer to the debt holders is generally regressive, at least under the likely assumption that the marginal taxpayers are less wealthy than the debt holders. Of course some of the debt holders are foreign governments, which adds another element to the mix.
That makes it all the more galling.
8. When it comes to the mortgage agencies, there is no real choice but to bail out the debt holders. The alternative is a run on the dollar and collapse of faith in U.S. government securities and the end of the world.
I am not sure I agree with that at all. The bondholders need not be wiped out, but they can be subordinated to the taxpayers. They get what is left after we are paid back. Tough yes, but it doesn't mean they won't want actual government securities, in fact they might want them all the more.
Especially since taking on the GSE debt may lead to a run on the dollar anyway.
This bill makes the once implicit government guarantee of Fannie and Freddie's senior debt obligations explicit, provides no protections for taxpayers and no cap on a bailout. If the real estate market continues to decline it will drag Fannie and Freddie down with them, and they will drag the taxpayers right along. Hank Paulson, say hello to your legacy.
It increases Fannie and Freddie's role in the housing market! That makes sense. We have a disaster on our hands and we hand the kids more matches. It Gives Block Grants to States to Buy Foreclosed Properties. Just a gift to lenders. The homes have already been foreclosed. Let's promote more risky mortgages by increasing the limits for the FHA to insure them! Sheesh! It uses the tax code to encourage more homeownership. A 10% refund for the cost of buying a first home? Ahh, just go read the whole thing.
The fundamental issue that keeps getting ignored as pundit after pundit asks for the government to do something about the housing crisis, is that the crisis is being solved. What is the crisis? Housing prices that are too high. It isn't a subprime problem, it is a price problem.
That is one of the reasons all the happy talk was so misplaced. The big issue is the non subprime loans, the vast majority, which were at risk because of being on over priced homes. The only cure is for prices to go down. Anything designed to stop that is just throwing good money after bad, and drags the process out. People, subprime borrowers or otherwise, could only afford these homes because they assumed the price would rise and bail them out.
I happen to agree that there are two issues with the current housing market - 1. Poorly underwritten and secured loans. In particular loans that people took thinking they would get out of them in 6-12 months when flipping. 2. Overvalued assests. As with any scheme where everyone make money by appreciating and reselling an asset - at some point you hit the top of the pyramid and then the bubble bursts/the structure collapses. That’s the phase we are in assests are returning to normal values.
There have been foreclosures forever, will be once the market is healthy again... in the past the loss/cost associated with this event was offset by increaseing asset value. Now that Asset values are decreasing it slams lenders who can’t recover in an almost costless manner from bad loans and those who expected to be able to get back out of the market with a quick profit.
Inflation is unfortunately the friend of these people since as other costs increase the value of these fixed assets will appear to stabilize sooner. So as everyone complains about inflation remember there are two ways to reach equilibrium, raise the dollar cost of everything but a house and reduce the cost of a house - at some point the total value of a house in the market will hit equilibrium.
True, and our government is doing whatever it can to inflate right now. However, inflation can cause all kinds of other issues which are unlikely to help housing prices.
In either case, inflation would have to get really busy to make a dent in the relative cost of homes any time soon.
Throw in that we have somehow managed to arrive at a point where we are likely going to suffer deflation in most domestic goods, with inflation in imported goods, especially food and materials, and we have a rather toxic brew.
I suspect we have a shallow recession, in fact I think it will be dated to last December or January, but it will be long. Housing, credit and consumer led recessions tend to drag out. What I worry about is that the measures we are taking now will leave us hobbled for quite a while as bad debt is shuffled around to keep insolvent institutions alive and home prices high. Growth, but anemic and fragile as weak institutions start trembling at every hiccup in the economy for the next 4 to 10 years. Ask the Japanese about how that feels.