There’s an interesting article at the Washington Post about the role of mortgage debt in our ongoing economic doldrums:
“No one was in doubt that debt overhangs were an important problem,†Summers said recently at a conference. But despite exploring many proposals, the administration did not see a plan that did not have the potential to cause “effects worse than the cure,†he said, such as cratering the financial system by forcing banks to absorb huge losses.
At a more basic level, officials simply did not believe that a big program of debt forgiveness was a smart investment, costing hundreds of billions of dollars — money that it preferred to spend on a massive economic stimulus package that could much more quickly lift the economy. The administration also announced a more modest program designed to avert foreclosures by reducing mortgage payments but not the total debt balance.
The issue here can be stated pretty simply. If the Great Recession was a “balance sheet recession”, caused by too much debt, then much of the pump-priming spending in the ARRA, the stimulus package, was futile. If it was not a balance sheet recession, the spending should have done significantly more good than it has. There’d be no debate over whether it had any effect or not.
The Obama Administration has a lot riding, against all evidence, on our problems not having been caused by a balance sheet recession and, in characteristic fashion, they’re sticking to their guns.
For what it’s worth here are my views. For counter-cyclical government spending does the most good when it’s timed properly and it must be of the right size. In practical terms the only way that could have been accomplished in 2009 was by suspending the payroll tax. There were just too many constituencies slavering over the prospect of all of that free money. The ARRA wasn’t economic policy; it was constituent service.
I believe our problems go back much farther than 2007. I think they go all the way back to the early 90s. That’s when we got on the roller coaster that created two successive bubbles—the dot com bubble and the housing bubble. We are relying far too much on consumer spending and not nearly enough on domestic business investment. Additional consumer spending on healthcare is possibly the worst of all possible worlds as economic stimulus but that appears to be where we’re heading. That will produce less employment per dollar spent than practically any other approach.
We also have too many immigrants with low or no skills relative to the number of jobs for people with low or no skills that are being created. Ordinary supply and demand ensures that will push down wages for the lowest income earners and nearly every empirical study of employment in the U. S. has found that to be the case.
As it is we are now conducting the world’s largest experiment in doing the same thing over and over again and expecting different results.
If I own a home that I believe is now worth $250,000, but I owe my lender $500,000, who owns my home? I think the answer is my lender, subject to my right of possession, subject to the lender’s right of foreclosure in the event I breach the mortgage agreement (stop paying monthly).
Any attempt to force the banks to account for the “true value” of their mortgage will face substantial risk that the banks will foreclose on homes. Is that good economic policy? (I know of businesses that went into bankruptcy because their commercial lenders were pressured by bank regulators) Is it good politics?
Any attempt to force the banks to refinance their mortgages will result in Constitutional claims of taking property without just compensation. In my example, if the government tries to force my lender to refinance my mortgage to $250,000, my lender will demand $250,000 from the government, and as a fall back demand individualized determinations of the market value of the house, adjudicated by a neutral tribunal.
The final complication is real estate is a local concern. The rules vary from state-to-state, making national planning difficult. The real estate market and the source and implications of its crash vary from state-to-state as well.
What government can do is spend, and it found it easier to spend more on things it was already spending on and call it stimulus. I suppose the easiest fix would have been to give lenders money to refinance. Give my lender $100,000 to voluntarily accept a $250,000 write-down. Still a problem of determining actual valuation, and a problem with whether its politically tenable for the government to be spending money on the parties that arguably got us into this mess in the first place.
Sometimes I think life is more of a game of applying ‘good’ fundamentals than simply cleverly tweaking the margins to compensate for mistakes, or artificially stimulating a market to temper immediate suffering.
Regarding housing, I think the CRA, in the 90’s, was a crucial weakening point of the housing market, whereby qualification standards eroded, or were entirely dismissed. Easy buying led to a massive amount of lending to unqualified people, price inflation of housing, mismatched bundling of good/bad loans, and the eventual unintended consequences catching up with such magical marketing schemes.
The fix has also been less than substantial, as it was again the government who stepped in with their political stopgaps, which only had a temporary and selective kind of fiscal salvation for underwater home owners. Much as if GM had gone through a managed and fairer bankruptcy to solve it’s problems, so would it have been better to have had the market experience a quicker self-correction, rather than having the government step in, tinker around, splint the immediate pain while extending the economic grief over a longer period of time.
I can guarantee a different result. I wear cowgirl boots and and I have the eye of a tiger. Not to mention lawyers.
Is everbody obtuse?
Annie, Get Your Gun.
Really, if Tina Turner doesn’t do it, what’s left?
The only person who EVER wanted me to lay into them was my husband.
Sniveling buncha babies. I quit that job.
Hon, speak up. You don’t have to take this job. Evil will not befall you if you decline.
And I don’t have lunch with Napoleaon or Catherine the Great. If I’m really hungry I go the Vidalia Market’s deli counter. I can get a plate for $6. Last’s 2 days.
Really good southern cooks.
C’mon, y’all. The story’s been told. A bit surprising at this late date, but whatev. I truly loved the man.
I was married to him for nearly 20 years.
My sweet, smart, handsome, funny, capable love.
And no, dammit. I won’t go into grief counseling. I’ll show in another another month.
So we’re getting down to practicalities. I have this antique crib for which the mattress seems very hard.
How hard should an infant’s mattress be?
Yo, Ice.
Losing your religion are you? Me, too.
Mr. Schuler, you should be a priest. That’s my confession.
Pretty staggering, hunh?
So Michael was fighting for his place in the line. He was Lyman’s first son.
I told you this stuff was operatic.
Jes call me Sif.
Your balance is extraordinary, Mr. Dave.
Give me help.
And I’m telling the rest of you to get over it.
I’ve lived with this for four months and it ain’t killed me yet. Sometimes I think he could.
Talk about taking opporttunites.
Ahem. Opportunities.
He never could spell.
My, my.
Timothy Geithner and Larry Summers were concerned about shareholders and Wall Street bonuses. All attempts to do anything substantial was rejected or sabotaged by them. Geithner is a dirtbag, and I expect he will shortly be a very rich dirtbag.
Consumer borrowing is the problem, and that is facilitated by the Fed creating money.
@PD Shaw
These companies are regulated, and they are subject to capitol requirements. The way the assets are accounted is also regulated. Requiring mark-to-market would instantly devalue the assets. The gov’t would set up an entity to purchase the trash at a steep discount. The loans would be repackaged and resold. There are simpler ways to accomplish this, but shareholders and Wall Street bonuses are not going to be happy.
Foreclosing would take too long, and they would recover substantially less than the mark-to-market value. If they wind up insolvent, they can be placed into a receivership. The FDIC has extensive experience doing this. When the FDIC gets involved, the shareholders and bondholders take the first loses.
Most of these objections originated from the financial industry and the regulators keeping them honest.
@jan
The CRA is a canard put forth by Republicans who have absolutely no idea of how the mortgage industry works, and most of them have quietly stopped blaming the CRA. Securitization is the reason the lending standards were lowered, and predatory lending was designed to put people into a loan they could not afford.
Mortgage Backed Securities are created first, and loans must be generated to fill these. These are not subject to any CRA requirements. The GSE (Fannie & Freddie) did have a large role, but this is not because of the CRA. These people are hustlers.
The days of the local banker making loans based upon the ability to repay went out with 8-track tapes. Commercial Real Estate does still follow this model, and the problem was not as large.
The reason Republicans started using the CRA was to separate Republican donors and their money.
As a start I think the issues that Tasty recounts above are sufficient to suggest that the federal government could have acted differently than it has in this matter. To them I would add the Paulson Treasuries actions in 2008 and that the matter could have been handled piecemeal rather than all at once.
It’s hard for me to believe that there’s anything the federal government can’t do to banks at this point given the will. I think it’s will that is lacking rather than need or means.
I do not like Hank Paulson any more than Geithner, but Paulson was not a regulator. Paulson was a Wall Streeter, and his boss was a Wall Street apologist. Nothing Treasury Secretary Paulson or President Bush did was out of character, but they were not saying one thing and doing another.
Sheila Bair and the FDIC has several proposals to deal with the homeowners, but Paulson, Geithner, Summers, and the other regulators were quashing them as fast as they could. The FDIC plans would have affected shareholders and Wall Street bonuses, and they were not going to let that happen.
I would recommend Sheila Bair’s new book. She details many of these proposals. Had she been stronger, a lot of this nonsense would have been prevented, but if she were stronger, she would have been a different Sheila Bair.
random thoughts
PD – the truth be told even with 20% down (and assuming loan to current value of 80%) you really only have an option on a home. In the LBO world it’s typical to put 35% to 40% in equity in a purchase, and it’s considered an option on the business.
This will sound like snark, but it’s one of the reasons I quit commenting at OTB. When convenient (poor economic news) you would hear about the headwinds of balance sheet restructuring and deleveraging. (and after all, God himself couldn’t help the economy). When the discussion was about Obamas performance per se……..why, fiscal stimulus saved us from economic hell itself. No intellectual integrity over there at all.
Tasty
Loans have existed forever. Securitization of them is a recent phenomenon. And I don’t know what you do. But I’m going to go out on a limb and speculate that only one of us has been in a conference room as a loan approval was made purely because of CRA, and not credit considerations, in particular, the uncreditworthiness of the loan.
@Drew
The CRA had nothing to do with lax loan standards, housing mess, financial mess, or the price of tea in China.
Securitization has been around for a while, but we may have a different definition of recent. If I am not mistaken, they were around in the 1920’s.
All loan portfolios will include loans that will go bad. This is included in the return calculations. Prime borrowers tend to default less, and they get a lower interest rate. Sub-prime borrowers tend to default more, and they get a higher interest rate. This is all factored into the loan portfolio.
If the bank, S&L, thrift, etc. was adding loans to its portfolio knowing they were definitely going to default, this information should have been made available to the shareholders and the regulators. Actually, the regulators are a joke. If the CRA was an issue for your institution, there were much bigger problems, and the CRA was a distraction from the real problem.
I would suggest you check with headquarters about the CRA memo. Most Republicans have realized they sound stupid crowing about it, and they have stopped.
The GSE’s are what you should be complaining about.
Tasty
With all due respect, what you write is high school analysis.
Skip some obscure securitization citations. Securitization hit the scene in a material way in the 80s. It went on steroids in the 90s, late 90s actually.
Your second paragraph is just, as I say, high school analysis.
Your third paragraph is just a fish flopping on the deck to attempt to save your point. “My institution” was a major player in business loans, including CRA driven loans, and reflective of the regulatory environment of the time. You either made CRA loans, or the regulators took, shall we say, a “dim view” of the loan portfolio quality. That created reserve issues. In the extreme, and this was a period of bank consolidation, you were precluded from participating in this process. You know all this, what with your intimate knowledge of banking, right? (snicker)
I would suggest you check in with reality and real live knowledge of the banking business, not reliance on the realities of political posturing.
I repeat. I think only one of us has been a participant in CRA related loan deliberations. You can deny, and effectively call me a liar, or you can graduate from high schooler to adult in your appreciation of how the world really works. We aint in Kansas anymore, Tasty.
Drew,
While I think the CRA played a role, it wasn’t the only thing happening. The CRA doesn’t explain, for example, similar housing bubbles in countries other than the US which were occurring at the same time.
@Drew
Securitization played a role in the S&L debacle. I have not dug into it, and I am not sure how much. It again had a role in the housing mess. Securitization has a long history, and I suspect that if I had time to look into the previous debacles, I would find similar outcomes.
I am guessing your experience was from the early to mid 90’s. This was before Wall Street got the MBS process (hustle) worked out, but banks were not compelled to make bad loans to satisfy the CRA. Sub-prime lending during that time was mostly responsible, and it is very profitable. I am always skeptical of anybody bemoaning their profits.
I claim to have knowledge of the housing mess and what lead up to it. I also have knowledge of regulators, but I will concede that your institution/bank/thrift/etc. may have had the few knowledgeable & forceful regulators. I doubt they were requiring you to make bad loans to participate in the expansions, but anything is possible. I am not calling you a liar, but you may not have understood how most regulators work. I do not have time to elaborate, but many regulators are used by one entity for their advantage – blocking mergers.
Bad loans began increasing toward the end of the 90’s, and in the mid 2005’s, they skyrocketed. This was also when Glass-Steagall was ended, and regulation of derivatives was rejected. This is relevant because these actions, Fed created money, and the GSE’s fueled the creation of bad loans, but these bad loans were not limited to sub-prime. Most of these loans were sold into MBS’s or CDO’s. At many of the regulated banks, these were in off-the-books SIV’s.
I do not care about politics. I do care about nonsense being passed off, and both parties are guilty. What I find amusing is that many of the financial people are Democrats, and they have no problem hustling. They actually do everything they accuse the Republicans of doing, but the Republicans provide cover by defending the Democrats actions.
Interestingly, the same people who blame the CRA were also claiming foreclosures would not be an issue because banks did not want REO property. After they “bought a clue”, most of them shut-up about this nonsense, but it took some never got the memo. The CRA excuse is no different.
Finally, the CRA may have been passed for noble reasons, but I doubt it. In practice, it was used as leverage by somebody for something, and that something is almost always money. This is how the real world works. We ain’t never been in Kansas. It’s Hustlerville, and in Hustlerville, power and money are at the bottom of everything.