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03/01/2009

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Jack

It seems as though both of our Proffs understand the details well, have "Chicago school" econ well in hand, but because they are distant from the housing biz get many of their conclusions wrong.

I think what they most overlook is that most folks have strong incentives to stay in their home; as Posner points out "walking" has its costs, among them the impact on the family, most likely pulling kids out of one school and having them have to fight their way in to another, perhaps in some less desirable rental area.

So what really takes place in bankruptcy court? Under a re-org bankruptcy typically the creditors have to approve the deal. If no deal can be agreed upon then the case would become a full bankruptcy. So what is to be lost in the case of a mortgage?

Consider that w/o the possibility of a BR court managed compromise the buyer will have "walked" or been forced out. And here, I guess we'd have to toss in an estimate as to what THAT costs the lenders in this market. For now I'd posit a Gob.

The real reason to suggest the BR process is because these "brightest in the room" "bankers" have trapped themselves, as Posner mentions; they've no way to call in the borrower and try to do a workout. Thus, the BR court become a crude surrogate for the "old fashioned" banker who seeks the most rational compromise.

There does seem a problem, even with Congress mandating a BR process though, as these mortgages were made as contracts not subject to BR modifications. So I can't help wondering if some lenders will go to court with a case that Congress has no right to modify millions of existing contracts.

As for "uncertainty" there is plenty of that now...... and Ha! much MORE of it in the past than was recognized by the "brightest".

BR MAY have some complexity, but personal BR's are not THAT complex and in what is coming at us there are bound to be plenty of attorney's offices that do them today and will gear up to become a real mill once the ball gets rolling........ down hill.

At first glance having servicing companies do the work-outs has some appeal. But! trouble is they are in the servicing biz and would be "spending" the money of others with little incentive to conserve capital.

To get servicers to do work-outs there would have to be a fee structure and an authority. As it's not their money, they'd have to have some sort of guidelines. Perhaps blanket guidelines? due to the number of lenders?

OK........ so once the guidelines and fees are set, THAT becomes the new biz! Hire those who used to be loan originators with instructions to screen for underwater borrowers and begin calling the home owners and advertising the guidelines so as to maximize earned fees.

Lastly, many "conservatives" over play the CRA or "sub-prime" market as does Posner in his illustration of zero downs going underwater fast. True enough but many of those were modest home and except for those with some mean "Johnny Jump-up" escalations NOT tied to any of the indexes, the payments on these homes are not far from what it costs to rent in many areas, so underwater or not, staying a paying the mtg may be close to the best thing for those home owners anyway.

TONS of "normal" loans have been made to those with good credit, but also with fairly low downs. Ha! encouraged by PMI (Private Mtg Insurance --- where did those rascals go??? Oh! AIG? or the "insurance arm" of Citi/Travellers? and their 10% or even 20% downs were wiped out quickly in areas where housing has dropped 40% or more. So let's NOT single out a specific demographic.

Lastly, as for the "anger" of those not getting work-outs having to pay more in taxes; well perhaps in the case of "taxpayers" having paid an estimated $75 billion more for "toxic assets" than they are "worth". But $75B is $750/household and as Posner points out they derive indirect benefits. The much larger sums are buying equity in "banks" and it's not a forgone conclusion that those sums will be lost......... though even at these prices I am not tempted to load up on Citi stock!

In conclusion "WE" have a VERY big problem and "intractable" or not some measures must be taken and I'm seeing lots of criticism but few viable alternatives. Perhaps next week? We might brainstorm alternatives?

Jim

There is no solution to stupidity, ignorance, greed, and incompetence except to avoid dealing with people who generally operate in those spheres. That means that hoping for a solution from those who got us into this in the first place is probably not a good approach.

What would be wrong with becoming a nation of renters rather than owners which is what undocumented mortgage loans are anyway. If you can't pay cash for your dwelling, you rent. The current mortgage holders hold the lease for one year at 31% of renter income, the banks get to depreciate the dwelling over some number of years which would add capital to their books and compensate for the loss in dwelling value and allow the "homeowners" to remain. Once Obama reduces the deductions for property tax and mortgage interest, there will be greatly reduced incentive to "own" anyway. This would be consistent with Obama's Rawlsian socialist views and would help to re-capitalize the finance system. A tax on second home ownership would increase state revenue further and might discourage "flipping" in the future.

Thomo

Jeez, I am getting so weary of nay-sayers. Is the plan perfection - hardly. Is it guaranteed to save all, in all ways - not a chance.
But, for these initiative to spawn a cottage industry of naysaying, and negativity, and not-my-idea, becomes puke provoking and having no more worth than the product of that provocation.

Colin McDermott

Glad to see you chaps got rid of the strange links that appeared at the bottom of the blog a short while ago.

The mortgage bailout leaves me a little baffled I have to admit.

Phil72

For affordable loan modifications visit http://www.advocateforyourhome.net Our mission is to provide our clients with professional and effective loan consulting solutions which result in the relief of financial hardship while maintaining home ownership.

Jim

Thomo,

A good and smart leader is like a good batter. He recognizes a good pitch when it comes and hits the ball. Recognition is the key. The pitches come from other folks, not the batter. The mortgage bailout is not a good pitch. Don't swing lest you strike out. Nothing wrong with that, just being a good hitter. If you strike out too many times you either get traded or fired.

Devin

There is no question that we cannot afford dollar-for-dollar relief for our mortgage/housing woes so the issue was always one of leverage. How do we get the most benefit for the fewest dollars or, rather, what is the most efficient means of curing our current ills.

The mathematical and economic model analysis, however, seems to turn on a bigger question that was not addressed in either of yesterday's posts: how do we overcome the psychology of this recession? Qualified borrowers will not start buying/borrowing and lenders will not increase their lending until they believe either that we have hit bottom and are on the mend or that the appropriate fix has at last been applied.

Thus, while a $75 billion mortgage relief plan may not "fix" the problem on a numbers-only analytical basis, if the average prospective homeowner believes that it is now safe to venture out and purchase a new home and the average prospective lender feels it is now safe to lend him or her the money to do so, then this plan was indeed a good investment even if theoretically inefficient.

Likewise, if the current struggling homeowner decides to stick it out just a little longer because he/she believes the end is in sight or because there are now more attractive options than walking away, the plan may very well be worth the trouble and expense.

Of course, determining what will inspire and/or reassure all of the various stakeholders in this morass requires us to disassemble a black box for which even our esteemed professors likely lack the schematic.

gdgeiss

From a policy viewpoint, $75B in a "mortgage rescue" plan (especially if a third or half of it is eaten up in administrative expense to run it) is, compared to a $1T (or more) problem, as the saying goes, like spitting in the ocean.

Also, that portion of it that relies on a legal proceeding (Banruptcy Court or other wise) will never have any significant purchase on short term crisis needs. Worse yet, its effectiveness will be entirely dependant on the early resolution of those needs. Without that, even with a cram down, those ready to enter or already in foreclosure owners are going to eventually default in high enough percentages on the reorganization to make the program a failure anyway. Why, again from a policy viewpoint, should the taxpayer foot the bill for an ineffective, slow moving, expensive program that fails to address the very purpose touted as its justification?

If we are to have any reduction of the continuing negative impact the increasing momentum of foreclosures has on the housing market, and therefore on the larger economy overall, we need to unravel the interlocking web of mortgage pooled CDO's and the sick layers of CDS's behind them.

I have no real clue how to do that with any kind of legistlation without ex post facto law making. It would take, therefore, a co-operative voluntary effort by parties and counterparties alike to suspend the CDS's and unravel the CDO's to allow each individual instrument to revert to its originator, a successor in interest, or a local/regional bank as assigned by FDIC where neither of the first two still exist. Having then decentralized the issue, work through each mortgage between parties in interest (mortgagee and mortgagor). As an aside, just think of the number of people the banks would need to hire at least temporarily to do that...(perhaps a fitting use for that TARP money?). Each institution would then be charged with trying to avert foreclosures where some reasonable ability to pay and continue in possession can be demonstrated. Where it can't, it can't, but at least you will have taken a reasonable step toward stopping the cascade of uncertainty the current situation has engendered.

That type of thing, coupled with a suspension of mark to market in favor of a discounted income stream accounting for a fixed period of time, might have some impact. I doubt the practicality, on either business or political fronts, of all that but I just don't see how we can hope to escape the economic death trap we're mired in unless the core of the problem (CDO's and CDS's) are directly addressed. To do that lawfully we need to have some community of interest self help by the financial system players themselves. Government can't fix this. The alternative to me is massive financial system failures (starting with AIG, Citi, and Bank of America), massive counterparty failures, and massive personal suffering well beyond the decidedly ugly levels we're already at.

Sun Tzu said, "When in death ground, fight!" So far, the whole financial industry has shown no fight, no inventiveness; just a willingness to beg for salvation from the taxpayer. That's not working so far. I believe that it was Einstein who said (paraphrasing), "you cannot expect to change your situation with the same thinking that got you into it in the first place." We need some out of the box, creative thinking here that attacks the core of the train wreck in progress. This foreclosure rescue plan, does not look like that to me. Not because it's not different than what's been tried heretofore, but because it doesn't address the core issues.

Jack Curtis

While these mortgage-market distorting "rescues" proceed, the same sub-prime qualification policies that gave rise to them appear to remain in use at Fannie and Freddie, according to promotion being distributed in the market. Though one might hope that is not so, it seems likely in the circumstances.

Don the libertarian Democrat

If we were fairly sure that housing prices were near a bottom, a subsidy and some aid in unwinding some mortgage problems through government intervention might make sense. My problem is that I don't believe that anybody really knows where the bottom is. If we stabilize the price at too high a level, then we will either have to continue the subsidies indefinitely or allow another annoying correction, which could reverse a recovery going forward.

There is a plausible political rationale for this intervention, which is that it will not look good if the only people that get bailed out are in the financial sector.

Sadly Underwater

Principal reduction is badly overdue in a market in which the stock of housing has been outrageously over-valued and will not recover itself for a very long time. The vast sea of underwater mortgages is going to continue bleeding the economy with every foreclosure -- and the taxpayer also pays directly, when the lenders get a write-off for the loss.

Let's look at this carefully, including the obvious points. Here is the basic problem: A homeowner who is severely under water has to choose between an uncertain "loan modification" or foreclosure. Everyone knows that all a standard loan modification or a reduced interest rate does is delay the inevitable. The borrower is still going to have to fight the monster-sized principal.

Meanwhile, banks can still take a loss on their taxes for whatever amount they have not been able to collect through foreclosure. So, the bank has no incentive to do a principal reduction if it can take the write-off following foreclosure.

We need legislation that does BOTH of the following:

1. requires the lender to negotiate with the borrower to reduce the principal to the **current value**

2. authorizes the lender to take a Tax Code write-off of the principal reduction by the **same amount** that the lenders can write off after a foreclosure.

As an added incentive for lender cooperation, the legislation could allow the lender to be able to recoup any financial benefit that the homeowner might make if the home is sold above the renegotiated value for some period of time following the renegotiation/ refinance.

Here is a simple illustration of how this would work:

1. Let's say the homeowner owes $400K on the house.

2. In the current, slumped market, house is worth, at best, $200K at foreclosure auction or fire-sale.

3. With principal reduction, lender and homeowner could reneogiate principal down to $200K. Lender writes off $200K, just as lender would after foreclosure.

4. Let's say a 10 years pass, and market dramatically improves: if homeowner sells the house for $400K, Lender gets the entire $200K above the reduced principal.

The benefits are obvious: This is even better than giving bankruptcy judges the opportunity to "cram down" mortgage principals. It will avoid bankruptcy filing and foreclosure in the first place!!!

As to the opposition? Well, we can't satisfy everyone, but I don't see how anyone is going to get hurt. The banks' make the silly argument that interest rates will rise for other customers. This claim is an unfairly incomplete one -- all kinds of factore determine what the market bears in interest rates among lenders. Meanwhile, mortgage brokers and others are fearful there is nothing in it for them.. but they won't lose any SALES.

I do hope principal reduction will become a reality.

*sigh*

Jack

Geez Jim! You're pretty easy to roll!

"What would be wrong with becoming a nation of renters rather than owners which is what undocumented mortgage loans are anyway. If you can't pay cash for your dwelling, you rent"

............ once upon a time and in many third world nations that is the way things "worked". Naturally it doesn't solve many problems as then it is the landlords doing the borrowing, exacting a profit from those trying to house their families, and I think we've all seen plenty of examples as to what happens to residential property when pride of ownership is not there.

As for:

"Once Obama reduces the deductions for property tax and mortgage interest, there will be greatly reduced incentive to "own" anyway."

.......... it seems Barack has only suggested lowering the mortgage deduction on high priced homes and on those double dipping on multiple homes. As for "incentive to own" down through the centuries the incentive was that of having a comfortable home in which to live and raise one's family; it's not been typical for "money to grow on houses" and the amount and types of housing subsidies available in recent years have played a strong role in encouraging buyers to buy far more house than they need, in creating the bubble and discouraging savings and perhaps investment in productive endeavors.

I can't think of a business investment which offers full deduction of taxes and interest with no obligation to pay taxes on the capital gain, as has been the case for residential housing for 50 years or so.

Jack

Geez Jim! You're pretty easy to roll!

"What would be wrong with becoming a nation of renters rather than owners which is what undocumented mortgage loans are anyway. If you can't pay cash for your dwelling, you rent"

............ once upon a time and in many third world nations that is the way things "worked". Naturally it doesn't solve many problems as then it is the landlords doing the borrowing, exacting a profit from those trying to house their families, and I think we've all seen plenty of examples as to what happens to residential property when pride of ownership is not there.

As for:

"Once Obama reduces the deductions for property tax and mortgage interest, there will be greatly reduced incentive to "own" anyway."

.......... it seems Barack has only suggested lowering the mortgage deduction on high priced homes and on those double dipping on multiple homes. As for "incentive to own" down through the centuries the incentive was that of having a comfortable home in which to live and raise one's family; it's not been typical for "money to grow on houses" and the amount and types of housing subsidies available in recent years have played a strong role in encouraging buyers to buy far more house than they need, in creating the bubble and discouraging savings and perhaps investment in productive endeavors.

I can't think of a business investment which offers full deduction of taxes and interest with no obligation to pay taxes on the capital gain, as has been the case for residential housing for 50 years or so.

Nessie

One of the reasons we're in this mess is the philosophy that everyone should (and can) be a homeowner. Homeownership invests the owners in the neighborhood, which is generally good for society, but that has to be weighed against the problem of people buying more than they can afford and banks encouraging them to do so. Why should I, a renter who lives within his means, bail out profligate idiots?

nathan

"The administrative complexity bothers me a lot. "

Admittedly this is a risk, but the administrative complexity of giving money to legacy banks and organizations may be worse. Money may have gone to people who did not need it or who did not earn it - compounding problems of repaying loans (hurting insurers and lenders) or getting seed money to people that truly need it (helping people recover from shocks). The problems of how to manage bankers is administratively much more difficult and worrisome than how to manage people who don't have tons of resources to manipulate the govt yet need some dignified assistance.

Brian Cos

Home purchases should involve an “honest-to-God down payment of at least 10 percent,” Buffett said. “Putting people into homes, though a desirable goal, shouldn’t be our country’s primary objective.”

Why am I becoming more an more Austrian each day? Even Warren Buffet (who on more than one occasion leans left) sounds like an Austrian here.

Let's not artificially inflate home values all over again. There is no quick-fix. Markets work fine so long as goverment doesn't tamper with them in the first place.

Sharon

The Obama Administration’s Homeowner Affordability and Stability Plan will offer assistance to as many as 7 to 9 million homeowners making a good-faith effort to stay current on their mortgage payments, while attempting to prevent the destructive impact of foreclosures on families and communities. It will target support to the working homeowners who have made every possible effort to stay current on their mortgage payments. The Homeowner
Affordability and Stability Plan will support a recovery in the housing market and ensure that American Homeowners can continue paying off their mortgages.

Jack

Brian: Did Buffet, likewise, have an opinion on how much assets a "bank" should have to back THEIR loans?

For many, many years we did OK with VA and other loans of no, or very little down. There are several other problems involved here. (to say the least!)

Note housing prices rocketing upwards from the LONG term trend of being a nearly fixed multiple of median wages:

Notice that in the 25-year period from 1975 through 1999, real existing house prices stayed roughly within the range of $125,000 to $160,000, with an average during this period of $142,850. The United States median price was $180,100 as of the fourth quarter of 2008.

http://mysite.verizon.net/vzeqrguz/housingbubble/

.......... and note in the graph at the bottom, how median wages flattened and diverged from the US productivity curve.

see link in next post? Perhaps we're only "allowed" one link?

One suspects you'll wait QUITE a while for "the Austrians" or the "Chicago school" folk to say ANYTHING about flat and declining wages and even those wages being further eroded by H/C and energy costs.

http://news.bbc.co.uk/2/hi/business/5303590.stm

Jack

Here's the other link

http://news.bbc.co.uk/2/hi/business/5303590.stm

Anonymous

Jack,

Check out this article. It explains why housing values started to bubble in 1999, as your graph illustrates.

http://query.nytimes.com/gst/fullpage.html?res=9C0DE7DB153EF933A0575AC0A96F958260&sec=&spon=&partner=permalink&exprod=permalink

The mess we face today is the popping of the bubble in home values because they were "artificial" values. Government interferring with markets caused this bubble. All Wall St. did was take advantage of bad government policy. I'm not giving Wall St. a pass on the blame for this mess, but if govt. doesn't have bad policy then this doesn't happen. Wall St. won't start an unsustainable business model without an excuse. They used govt's bad idea to trick a lot of investors.

The point of Buffet's quote is that we should not be incentivizing home ownership to the point where values become "artificial".

The way out of this mess is for prices to come down to equilibrium. The wrong way out of this mess is to re-inflate home values to artificial levels again with more government intervention. This is what Obama is doing. What do you think happens when you withdraw that $8000 tax rebate for first time buyers? This just delays the pop. Maybe this is what Obama wants to do so he can just blame the next republican president the way he blames the last republican president for everything...?

By the way, home values coming down is not all bad. Affordability is actually a good thing.

There is no way out of this mess. You might be able to delay more popping in values, but that only passes the buck.

Brian Cos

Since Warren Buffet is coming around finally, I think this phrase is appropriate:

"We're All Austrians Now."

Markets work when government does not interfere.

Anonymous

http://www.financialstability.gov/docs/fact-sheet.pdf

Unfortunately, this Financial Stability Plan is a lot like the article from 1999 in the NY Times. We are just building bubble after bubble. Our politicians just point fingers at each other while blowing up and popping bubbles.

I think the next wave of irresponsible lending will occur through SBA. Looks like the guarantee is increasing. I'm sure once the money flows the lending standards will collapse, much like they did after government got involved in housing in 1999. Maybe throw in a little nationalized healthcare and unemployment, and leave it up to people to get creative and figure out a way to get other people's money. And of course, lenders will figure out a way to trick people into investing in these loans.

When this ponzi scheme collapses, we'll just blame the next Republican president and not examine the core of the problem, much like the way we are doing today.

Jack

Annonymous, Brian? You bring up two issues:

One is that of how much liquidity is "too much" which is a bit like how much cream is the right amount in your coffee. And.......... it varies.

We, in Alaska, got hit the hardest in the S%L crisis that amplified the crash in oil prices that was amped by the the 1986 tax reform that made owning rentals or commercial R/E much worse for the well heeled. After the crash, and a bit like today those who "had" were hit hardest and often wiped out. They WERE the investor class, but post-crash often had no sheckels and poor credit. This happened to many who had over 50% equity in their properties.

Soooooooo, with too little demand many properties fell, perhaps, much lower than need be..... with Ha! the Resolution Trust (Government "bank" that cleaned up the S&L's that were scattered in heaps) painting and fixing them and paying the heat and lights to keep them from freezing up or being vandalized. They, then dumped properties so that Condo A sold for half or a third of Condo B whose owner was still paying his payment........ along with enough of the condo fees of his absent neighbors to keep thing going. But........ of course the Condo B guys decided to walk after a while as well.

OK, today? nationally? America is broke as others of my charts shows..... flat median income with H/C and energy munching away even at what most Americans have. Now is NOT the time to get big religion about having 10% down etc. In the case of bank held properties (millions!) if they can cut a deal with a responsible buyer for zero down that is a LOT better than having in institution not designed to be a property manager to try to manage empty homes, or even to try to rent them.

Let's agree that the equilibrium price will be FAR lower if, as Buffet suggests, all borrowers must pony up a 10% down payment; low income, middle, or even upper middle income America is NOT set up for 10% down payments. Also, let's remember that good ol Buffet, who I like, is in the insurance and RE-insurance game and is having a "tough year".

As you indicate, "we" may not care whether home prices around the nation fall a lot more......... but, consider how much more is lost by banks and all lenders as the base of that pyramid (from peak price down) expands.

Your claim of "our" corporate "non-banks" "just taking advantage of what the government started" is more troubling. No one told Sachs and others to ramp up their loan ratios from an historic 5 to over 30, and you may recall Grnspan's shock that those savvy and experienced bankers would risk the very existence of their companies in a spirit much like some gambling addict rolling all he has in the world on red seven.

In conclusion "markets work" as do all other games when they are governed by the right set of rules and that those rules are uniformly enforced. As you say, though in a slightly different context, "but if govt. doesn't have bad policy then this doesn't happen."

Ha! if one of those big errors was that of gassing the Anti-trust division long enough to create a number of these "too big to fail" (whimpering goliaths?) then what we can do (after completely nationalizing the bunch of them by Independence Day? or Labor Day? is sell them off in sizes no larger than 3% of the market each, reawaken Anti-trust and send them a memo that NONE are to become larger than 5% of the market. After all as "capitalists" we do firmly believe in competition; right?

Jake

The more I read this blog, the more I become convinced that Judge Posner and Professor Becker are conducting an aggressive sampling exercise that centers on putting informed commentary before ignorant "readers" at large and gauging their reactions. The results of this research are eagerly awaited.

LQweightloss

I think the next wave of irresponsible lending will occur through SBA. Looks like the guarantee is increasing. I'm sure once the money flows the lending standards will collapse, much like they did after government got involved in housing in 1999. Maybe throw in a little nationalized healthcare and unemployment, and leave it up to people to get creative and figure out a way to get other people's money. And of course, lenders will figure out a way to trick people into investing in these loans.

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