In a new column for National Journal [link expires in two weeks], I argue that one of the most important gaps in the measures taken so far to revive the economy is the lack of effective action on loan foreclosures.
For months now the Treasury and the Federal Reserve Board have been trying everything they can think of to stabilize the financial system and prop up the economy. You can criticize them for many things--for the regulatory failures that let this unfolding calamity happen in the first place, maybe for the slowness of the initial response, and certainly for the failure even now to devise a coherent, intelligible plan for financial intervention. But you cannot accuse them of timidity or of idly standing by.
In a frenzy of initiatives, they have committed trillions of dollars in various kinds of public support for banks and other financial institutions. Further huge outlays, including a second fiscal stimulus, are on the way. Nobody is any longer denying the gravity of the situation; just the opposite. Yet one critical aspect of the problem has barely been addressed--the still-rising tide of home loan delinquencies and foreclosures.
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Even though the emergency has now broadened--to almost every corner of the U.S. economy and across the world--housing is still at the center. As long as house prices continue to fall, more and more families will find that they have negative equity in their homes (in other words, their outstanding mortgage debt is greater than the current value of their house). The number of delinquent loans will keep rising, and so will the number of mortgage foreclosures. It is a vicious circle, because foreclosures drive house prices lower still. While this goes on, fiscal stimulus or no, a broader economic recovery will be difficult to engineer. The value of mortgage-backed securities will keep sinking, the panic in financial markets will persist, lending will fail to revive, and households will keep trying to retrench.
The article recommends three things: an FDIC-style plan to promote modifications; a change to the bankruptcy code, permitting courts to modify mortgage loans; and temporary tax relief to stimulate the demand for housing, as suggested by Allan Meltzer.
The column had closed before I read that the Treasury is thinking about a plan to lower rates on some new mortgages, and that Ben Bernanke was expressing renewed concern about foreclosures. The Treasury's idea, if it goes somewhere, could be helpful, though I don't know if it would pack the punch of Meltzer's proposal. In any event, this scheme is still not targeted directly at reducing foreclosures. I'm puzzled that this aspect of the problem continues to receive comparatively little attention.
Pedantic point: Your title refered to "epicenter" and the quoted piece referred to "center". Is there a difference? Is this another case of appearing clever by using the longer or more "learned" sounding word (compare: parameter)?
I once thought that "epicenter" was the place above the (subsurface) center of an earthquake.
I worry we are just kicking the can down the road. Think about what Meltzer is really saying: the biggest problem is an excess in housing supply. Well of course it is.
All of the events that have taken place to get people into homes over the past 15 years or so, combined with massive new construction, have contributed greatly to that surplus. Modifying mortgage loans and providing tax relief to stimulate the demand for housing seems like a good way to keep that trend going. As Meltzer admits, "reducing the excess housing stock reduces defaults by slowing price decline. And it brings nearer the time when homebuilding increases." If we are just "slowing" the price declines, I don't see the use; I'm a peel-the-bandaid-off quickly kind of person. Additionally, what if our economy would benefit, in the long-term, from a halt (or slowing) in new construction? I understand the urge to get these things moving again, but I think our economy is telling us to slow things down, and we shouldn't be so afraid to let that happen.
Having said that, I understand we need to do something to stave off disaster or a depression. I think things like allowing homeowners to use their down payments as tax deductions are pretty safe bets, because it will benefit only those people who can truly *afford* to buy a home. We should be careful not to recreate a situation in which unqualified buyers are encouraged into home ownership.
If bankruptcy courts allow mortgage cramdowns, don't lenders have an incentive to foreclose immediately and ruthlessly now, before the household ends up in bankruptcy court, where their claims would be whittled away?
The problem is insufficient aggregate demand. The solution is to directly stimulate aggregate demand. All else is beating around the bush.
I agree whole heartedly. I don't think you need a degree from Harvard or Yale to figure out we are headed into turbulent waters if the housing issue is not addressed. I think we may have to let the chips fall where they may and batten down the hatches.
I believe the reason few are discussing stemming the tide of foreclosures is that many have concerns about preventing foreclosures with taxpayer monies for those that have overextended themselves with mortgages that they clearly should not have gotten in the first place who would stand to make a future profit on the sale of the home. The inequity that this creates between those that used good judgment and those that will profit from their poor judgment is a serious problem. Any scheme to stop foreclosures needs to address this issue in some manner. Otherwise, it will be impossible to generate the political will needed to get this done.