How To Prevent Millions of Mortgage Foreclosures
An interesting idea from a liberal democrat
By blackhedd Posted in Economy | mortgages — Comments (48) / Email this page » / Leave a comment »
Take a look at this. It's a very interesting proposal to address the mortgage-foreclosure crisis, from Dr. Robert Kuttner, a well-respected professional economist who has been writing intelligently in the popular press for many years. This column originally appeared in the Boston Globe and was reprinted in The American Prospect.
Kuttner proposes a new Federal agency, modeled on the New Deal-era Home Owners Loan Corporation (HOLC), to acquire distressed mortgage assets and offer new mortgages to holders of subprime mortgages that now face foreclosure.
The proposal falls a few steps short of being workable, but it's interesting enough to earn a solid B+.
Let's take a closer look...
The basic problem we're dealing with here is the tidal wave of foreclosures that is expected over the next several years, as millions of mortgages (many but not all of them of the "subprime" variety) reset at higher interest rates. Kuttner's proposal is one of many that seek a way to keep many of these homeowners out of foreclosure.
Let's deal quickly with the underlying assumption that this is an approach we should be taking in the first place. There is both an ethical and an economic objection.
There is a moral hazard associated with bailing out people who got greedy and bought more house than they could afford. In essence, they bet that the bubble would continue and they would be able to keep refinancing their houses indefinitely. It's ethically problematic to bail these people out.
Kuttner, as a liberal Democrat, would counterargue that these people were victimized by Wall Street and the mortgage industry, who played on their ignorance and inflamed their greed. There's something to both sides of this argument.
The economic problem with a bailout is that it will artificially prevent the market from finding its own level, which is undoubtedly far below where it now appears to be. The counterargument here carries some weight, as there will be a lot of disruption, bankruptcy and distress if we just let the chips fall where they may. I'm not saying that we should keep people from suffering the consequences of bad decisions. I am saying that it would be nice to avoid years of a near-frozen housing market.
I do have a problem with this statement by Kuttner:
Normally, when a bond loses value, markets just trade the bond at a discount. But in this case, the collapse of the subprime sector is so severe that many bonds are not trading at any price.
Not quite. There never was a liquid secondary market for mortgage-backed securities. (This is far from unique, and far from problematic, in the esoteric world of structured finance.) Mortgage-backs were carried in investor portfolios at notional values supported by high credit ratings, and by prices for new issues. When the primary market ended in late 2006 and the credit ratings turned out to be highly overoptimistic, many mortgage-backed securities turned into unholdable toxic waste.
This rather esoteric effect is actually one of the keys to the whole problem. It's entirely true that US mortgages are now running higher-than-normal rates of default. And that obviously means that the value of securities based on those mortgages should now be discounted accordingly.
However, the amount by which these securities are actually being discounted is far out of proportion to reality. And that's because the institutions that bought them when they were AAA-rated simply aren't allowed to hold them now. They just don't have the expertise to successfully invest in what has turned out to be a highly esoteric asset class. These investors will get the shaft, but they're big boys. Don't cry for them.
That means there are hundreds of billions of dollars of securities out there which might possibly be obtained for far below their true value, by new investors that have the capital and the knowledge to hold them.
At this point, I meet Robert Kuttner's proposal that these securities be purchased by a newly-created Federal agency. To be sure, he's coming at this from a totally different starting point. But I can totally bite off on the idea that the American people (acting through a quasi-public agency) should benefit from what will be one of the great land-grabs in financial history.
What's the doctrinaire free-trader's response to this? "Let the free market pick up the pieces." Well, yes, that's what's going to happen anyway. Does Warren Buffett really need another few tens of billions of dollars? I'd like to get some of that action, instead. Wouldn't you?
So I think this is attractive so far. The new agency's purchases of distressed mortgage-backed securities can be funded by issuances of short-term debt that is implicitly backed by a government guarantee, much as Fannie Mae and Freddie Mac do. (And if that reminds you of the structure of SIVs, go to the head of the class and get your gold star.)
Obvious conservative objection: "the taxpayers shouldn't guarantee these agency purchases." Ordinarily, yes. But don't forget, we're buying a severely distressed asset class at what will probably be pennies on the dollar. A principled conservative could just as well ask whether it's morally permissible for the taxpayers to rape distressed Wall Streeters up the backside. My answer to that would be: Oh yes, baby, bring it on!
But let's turn to the other side of the new agency's charter. Here we run into some problems.
The way to forestall massive foreclosures is to make it possible to "work out" distressed mortgages. That usually means the lender and the borrower get together and negotiate better deal terms so that the mortgage can continue to exist.
How do you do that when the "lender" is actually a passive investor who holds a securitized pool of mortgages, and wants to know as little as possible about what's inside the pool? There's no business relationship that can be leveraged to do the workout.
I suppose you might deal with this problem by empowering the new agency to actually write new mortgages to replace the ones in distress. This would of course solve the basic problem faced by homeowners, which is that there's no way for them to refinance now.
But this would substantially duplicate the functionality of a big chunk of private industry, as well as encroach on the turf of Fannie and Freddie. It also requires a very large amount of basic banking chops, as well as expertise in mortgage analytics. This part of Kuttner's proposal needs more work.
I don't really have a problem with creating a public apparatus to displace some of private industry's actual credit-forming capacity. That's because at this point in time, private industry is not forming new credit for mortgages in the first place. It would be essential, of course, to give the new agency a charter that would strictly limit its lifetime, as was successfully done with the Resolution Trust Corporation. (One of the many objections to the continued existence of Fannie and Freddie is that they represent unfair competition, because their capital costs are artificially reduced by the implicit government guarantee of their debt.)
The logical thing to do is for the new agency to acquire in the private market the functions related to negotiating and servicing loans. Here there is an operational problem, because government agencies aren't usually staffed by competent business people. They'll award contracts based on political patronage, and overpay the contractors for the same reason. Not a good idea. Don't try to tell me that anything created by Congress can escape this problem.
So as I said, Dr. Kuttner's idea has a lot to recommend it, as well as a lot of operational problems. I'd be happy to see an attempt to work the problems out.
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I actually like the idea so long as it is explicitly temporary - and for a governmetn agency that should proably mean timeboxing it up front or at least laying out the explicit exit strategy and trigger (succesful sale to private market of x% of held securities or something like that)
...lending power. This after all would crowd out private entrants in the same market. They won't keep themselves frozen out forever.
As far as selling out the acquired mortgage-backed securities: I can see the new agency retaining its charter to hold them until they run off. Or at least sell them at a huge profit.
A principled libertarian might argue, of course, that we don't want to do anything to shore up the public's financial position. That's because it would have the effect of postponing the day when something stinky hits the proverbial fan.
And that of course is one of the reasons why we have occasional problems with libertarians.
I would want to have them sell off the securities (at a profit of course) once a functioning market for them reemerges. I'd like to avoid it becoming another agency that exists off inertia alone - and I am all for the government profiting off of its financial help it provides here; that could even pay for a tax rebate...
...for asset-backed securities. They're just an illiquid asset class to start with, and this is true in good times as well as bad. Most investors buy them with the intention of holding them to maturity.
As a side point, this is why the whole mortgage-backed asset class got everyone so excited in the first place. Everyone wants to own mortgages because their credit quality is about as high as you can get. But calculating their duration is black magic at best. The whole premise of "securitizing" mortgage pools was to place credible bounds on their duration so they could be treated like ordinary bonds.
And yet another side point: this also explains the extreme distress of mortgage-backs. If you have to sell them, as many institutions do, the only natural buyers are bottom-feeders.
Sure they have alwas been low liquidity - but I would say the variety of asset backed securities have been trading in a functioning market, right up untill the middle of last year when the subprime securities sent doubt across the market. And I'm fairly sure that there are enough smart people in Structured Finance that someone will learn and figure out once again how to price the risk of these securities.
About postponing pain and suffering, and place it in a medical context most people would reject it out of hand. Its amazing how arguments can sound so much better when placed in a context that people have no feel for.
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"Those who expect to reap the blessings of freedom must, like men, undergo the fatigue of supporting it."
-Thomas Paine: The American Crisis, No. 4, 1777
that people are generally unwilling to accept that medical resources are finite and must be rationed in some way?
______________________________
"Those who expect to reap the blessings of freedom must, like men, undergo the fatigue of supporting it."
-Thomas Paine: The American Crisis, No. 4, 1777
Let the market play out. It's the speculators who have driven the overall housing market into its current state. The greatest generation is die off, baby boomers are moving into retirement communities and generation xers cannot afford a home because of college debt.
Maybe if the market hits rock bottom an average working family would be able to afford a home once again in America.
You referenced college debt. I think there are two problems, one involving the immediate housing crisis and a second problem regarding our culture of debt. Long term solutions to our culture of debt should address our whole college education system and student loans. It's a great place to start.
and that i could recommend it 10 times.
I don't understand most of it, I just hope to be able to memorize it so I can look smart in front of my friends.
haha, just kidding...
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Daniel 2:20 And he [God] changeth the times and seasons: he removeth kings, and setteth up kings: he giveth wisdom unto the wise, and knowledge to them that know understanding.
Maybe its cause I'm checking this late, but I don't get the joke.
I wrote about this very proposal a few days ago. The problem, or the rub as Shakespeare would say, is that the folks that need saving don't need their rates reduced as much as they need their loan amounts dropped. They owe 20-25-30-50% more than they can afford. Since even the most ardent liberal knows that cutting loan amounts en masse is patently ridiculous there is no saving these folks.
This proposal throws good money after bad. The folks that need saving shouldn't have gotten a mortgage in the first place. They are irresponsible. Banks should have created programs to weed them out and instead they created programs to include them.
Buying them out with a new government bureau increases the size of government, bureaucracy, and creates more rules and regulations, and it does it will no positive effect imo.
Here is how I wrote about this proposal.
Was it over when the Germans bombed Pearl Harbor
It's not specified how specific mortgageholders would obtain relief. In a workout process, there are several different ways to skin the cat.
Of course, this is very much a retail kind of an exercise. That is one of the problems with the proposal: it's not operationally scalable.
And I notice you have no objection to the front end of the proposal, which is to have the taxpayers acquire distressed mortgage-backed securities for a fraction of their true value.
here is how Kuttner proposes it,
What's needed is a government body like the Home Owners Loan Corporation of the New Deal era, when America last faced mass mortgage foreclosures. The HOLC issued tax-exempt bonds, and used the proceeds to refinance distressed mortgages at low rates.
Like I said in my piece, he wants to take Hillary's proposal another step and not only freeze rates but lower them. This is socialism at its finest and like I pointed out it is not going to help those folks because what they need is for their loan amounts to be lowered.
You don't need a proposal to have tax payers acquire distressed properties at reduced values because after all thse folks go into foreclosure that is exactly what will happen.
Like I said, this is an interesting proposal that is totally worthless.
Was it over when the Germans bombed Pearl Harbor
The proposal that I would be interested in (which isn't necessarily one that liberal Democrats would), would have the taxpayers acquire not properties in foreclosure, but rather mortgage-backed securities that are currently looking unsuccessfully for buyers.
(I assume when you use the word "properties," you're referring to real estate and not to financial assets.)
Why should Warren Buffett and Bill Gross get them all? At root, this is fundamentally the same role that the Federal Reserve plays when it operates as a lender of last resort.
I know that a lot of intelligent people believe we should abolish the Fed.
good tax payers money after bad. The reason these mortgage backed securities are performing poorly is because they are filled with loans to borrowers that shouldn't have loans to begin with. You want for the public to take over these securities. Why? So the taxpayer can be stuck holding on to poor performing bonds.
Given your profession, I suspect that you would be much more of a capitalist. If the government steps in everytime there is a crisis and bails folks out, like you propose we aren't living in capitalism but socialism. I don't care if the government bails out distressed mortgages or distressed bonds that are derived from mortgages, it is still socialism, and counter productive at that.
I have just as much experience with all of these matters as you do and from my perspective this proposal is no better than any other, and it is totally faulty. It creates a moral hazard, it throws good money after bad, it increases the size of government, bureaucracy, and adds layers and layers of new rules and regulations.
So, tell me again why this makes any sense...
Was it over when the Germans bombed Pearl Harbor
What an investor does is to look for value that has been overlooked by everyone else.
Your statements are jam-packed with overlooking the value in mortgage-backed securities.
Let's say someone bought an asset for $1 million that he is no longer permitted to hold. Since there's no other buyer, he'd be quite likely to say yes if you offered him $100,000. In many cases (and this is no exaggeration) his alternative is to go out of business.
Now, would you make the offer of $100,000 if you were smart enough to know that under plausible assumptions the asset was actually worth more like half a million? An intelligent investor would bust down walls to get at a deal like that.
You're saying the public shouldn't be in this business. You've adduced arguments both from principle (it's one more government boondoggle) and from economics (the assets really aren't worth anything at all). Fair enough, that's why we have these debates.
with the knowledge of who makes up the bulk of these mortgages. If these investments are great, then you buy the bonds, but don't force that buying onto the tax payers.
If there is all of this great intrinsic value, then why are you also saying that no bank or hedge fund will ever invest in them again?
I know a lot more about all of this than you realize. I know that way too many irresponsible people were put into loans that they shouldn't have, and that way too many of these folks make up way too much of these bonds. I know that is why no bank or hedge fund will invest in them. If you think they have intrinsic value then you invest in it.
Your arguement is totally void of any logic. On the one hand you claim the market itself won't ever support these bonds and then you turn around and claim that these bonds have plenty of intrinsic value. If you are right, then we won't need any government interference because that value will be discovered by the rest of the market.
The irony is that I spent five years as a stock broker before getting into mortgages, so your condescending tone is of no use to me. You are arguing for a terrible proposal and it is that simple. Everytime you say something I hate the proposal even more, and your allusion that it both has plenty of intrinsic value and yet can't find anyone in the actual market to invest in it, is a great example. Stop while you are behind, and you are.
Was it over when the Germans bombed Pearl Harbor
...outstanding tranches of mortgage-backed securities shouldn't be purchased at any price by any fiduciary investor.
That's a fair point and a lot of people agree with you. I take risk for a living, and I often forget that most people don't even understand what risk is, never mind about having the ability to evaluate it.
Investing in mortgages takes an awful lot of specialized knowledge. It's a lot to ask for a public fiduciary to have that kind of knowledge.
Do you believe that, all things considered, the best course is to allow a few million overextended homeowners to go into foreclosure over the next several years?
Or do you expect the market to recover by itself, to the point that those people will once again be able to refinance?
If one sold an asset for $100,000 that's actually worth $500,000, then exactly where did its value come from? If there were no bailouts, then the value would remain 'frozen' if that's the right word to use. Aren't bailouts one of ways to 'add' value to something that's not really worthwhile, except in political terms? A person who holds a worthless asset isn't necessarily worthless in a politician's eye, after all, he still can vote. So, a bailout in any form is always politically beneficial, however, whether it is economically wise, well, that is for you and other economists to answer.
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Daniel 2:20 And he [God] changeth the times and seasons: he removeth kings, and setteth up kings: he giveth wisdom unto the wise, and knowledge to them that know understanding.
...to hold it to maturity, and then finds that he no longer is able to finance the holding or is in violation of law or of his investment charter, then he'll be forced to sell the the asset ahead of time.
At that point, the value of the asset to some other investor is immaterial to the guy who has to sell. He'll take whatever price he can get.
If there's no liquid market for the asset, then the ultimate price will end up being far below the real value of the asset. It's also true that in the absence of a liquid market, the "real value" of the asset is notional at best, and depends entirely on the knowledge and risk-tolerance of the buyer.
In cases like this, the normal market dynamic is to wait the original investor out. He'll eventually get to the point where he's dying. At that point you bid two cents on the dollar. His mouth says "thank you" and his mind says something much cruder. And you try to stay calm and not show your jubilation until he's off the phone.
Who takes the loss? The original investor. No one else. There's no bailout of any kind.
What exactly are we teaching here? Plenty of people didn't buy houses because they were to expensive and UNDERSTOOD the pitfall of an overblown mortgage down the road so they waited and saved. So let's teach them that doing the right thing doesn't pay. These people would be able to enter the market if housing prices came back to normal levels.
It's not everyone's right to own a house, and if you do, it takes responsiblity. Not everyone should own a house that's all there is to it.
the term for what you are speaking of is "moral hazard" and it is one part of the problem of all of these proposals. If folks get bailed out everytime they make poor financial decisions, they will just continue to make the same decisions. Furthermore, this proposal and others like it wants to use the money of taxpayers that weren't irresponsible to bail these folks out.
Like I said, this maybe an interesting proposal however doomed to fail like most.
Was it over when the Germans bombed Pearl Harbor
As far as making the same mistake again is concerned: I think you and I will both reach the end of our lifetimes before you ever see a European bank or hedge-fund think again about the possibility of investing in American mortgages.
That window is closed and painted over. And as a result, the capital available for mortgages will be far below what normal markets would supply, for many years to come.
To crm: this effect will most certainly make houses cheaper. But it won't make them any more affordable, because ordinary people won't be able to score the financing. Be careful what you wish for.
This is going to affect your personal bottom line, Mike. That's the thing to balance against the moral hazard.
if no banks or hedge funds are willing to invest in mortgage backed securities then that is the market. You are trying to create an artificial mortgage market through tax payer money because in your opinion the real market is doing enough. Since when is it the government's role, or appropriate, or in anyway a productive use of tax payer money, to supplement a market that can't find private money.
If banks and hedge funds aren't willing to invest in mortgages, why in the world should tax payers be forced to? Maybe, just maybe, the banks and hedge funds have figured something out. Or is this another greater good arguement? Do we need to invest tax payer money in mortgage backed securities for the greater good? You have now taken the slippery slope and trampled on it. Do you really think that the government has any business creating an artificial market for mortgages?
Guess what before Lew Ranieri came along there was no market for mortgage backed securities. He created it himself. Yet, somehow our republic survived for 200 plus years without his ingenuity. You are proposing the government provide funds to a market it is barely twenty years old because the players in the market are unwilling to hold it on their own. Talk about throwing good money after bad. I am sorry but the more I argue with you the less I like this proposal and I hated it in the beginning. Each of your specific arguements makes me hate it even more.
Was it over when the Germans bombed Pearl Harbor
Is that people weren't dumb enough to believe thay could buy a $400,000 house earning $50-75,000 a year, and the banks weren't stupid enough to give the loans thinking they could pay it. How about just some plain old common sense from both parties. Now we the people should be hurt because of these acts. How about just making both sides take some accountability. Oh, I forgot, it's the nanny state and no one is responsible for their actions of stupidity or GREED.
At the end of the Carter years, I did some work in Canada. The whole country had "adjustable rate" mortgages (and still does). Many Canadians saw their interest rates go from 12% to 20%, overnight! And their world didn't end.
Reagan won the election. A year later, back in the US, I was happy to get my own simple 30-year mortgage at 13%. That was actually a tad better than the average rate. And my world was far from collapsing.
Just putting things in perspective. And yes, we had a recession in 1981 and 1982, but the world didn't end.
The last thing we need is another Federal Agency. We already have Fannie Mae: the Federal National Mortgage Association! Though now publicly-held, it was established by FDR to provide secondary mortgage funds.
How about letting Fannie Mae buy up mortgages at a 35% discount (the corporate tax rate), fix all the rates at 6% (a premium to 30-year US Treasuries), and let the chips fall where they may?
Incidentally, the only Republican among The Keating Five was named John McCain.
So here's what you're saying:
Don't establish a new agency. Just use Fannie Mae.
Allow Fannie Mae to buy mortgage-backed securities at a 35% discount. And then turn around to homeowners, and just reset all their mortgages to 6% fixed.
Structurally, this proposal is very, very similar to Robert Kuttner's.
What you're doing, however, is you're bailing out both the investors who hold the mortgages, and the homeowners.
That's because a 35% discount to face value is probably far above the true value of many outstanding mortgage-backs. You're giving a huge gift to people who bought securities they had no business buying. These people have big losses coming, and they need to take them.
On a strict return-on-equity basis, I would reject your deal out of hand, because you're permanently locking Fannie Mae into an unfavorable capital position. Your proposal is guaranteed to lose money, whereas the one I've been describing is likely to be extremely profitable.
Second, you're giving a gift to homeowners that should never have gotten into the mortgages they have now. It makes much more sense to work these mortgages out on a case-by-case basis.
But as I pointed out, the biggest flaw in the Kuttner proposal is that it provides no business relationship between a lender and a homeowner, within which you can negotiate a better deal, except through the new agency. An individual mortgage basically "disappears" when it gets sliced and diced into a securitized pool. (Kuttner acknowledges as much with his remark about unscrambling eggs.)
Mike Volpe's answer is very different from yours. He's not thinking about the mortgage investors at all. He considers delinquent homeowners to be guilty of a moral failing, and he wants to see them out of their houses.
While there is merit to this position, it is going to have the effect of spreading economic distress to millions of other people for years to come by keeping the housing market frozen.
I think the ideal outcome is to find a way to re-couple securitized mortgages back to homeowners, so that there is a context inside of which to revise deal terms on a private basis. I don't think any government action should modify private contracts (the proposals from Democratic politicians all contain this element in one form or another).
It's not yet clear that there is a practical way to do this. And that was the essence of my critique of the Kuttner proposal.
Historically, housing recessions have resulted in no more than a 30-35% correction in prices, at their worst. Granted ... during Texas' housing recession (~1990), I looked at a great house with a four-car garage in a depressed oil-producing area, listed for only $70,000! Didn't buy it: no reason to live there. That market recovered.
In any case ... my proposal would be to buy mortgages at 65 cents on the dollar ... the original investors would still lose 35%, and ought to. 35% would adequately reflect actual reductions in value ... it is only illiquid markets that have pushed bid/asked prices below that ... last year's $500,000 house is not worth just $100,000. Over thirty years (or even eight, the average turnover rate on residential housing), prices should return to current levels.
As to the home-owners ... no breaks ... if you signed up for a mortgage, the whole principal (100%) is still due. But with a 6% fixed rate, you'll still pay a little more than market, and won't be able to complain about "they raised the rates." Unless a mortgage holder is able to buy a million-dollar tranche that includes their own home, there's no bail-out for stupid people. If you still can't afford the payments, you get foreclosed and somebody else buys a cheap house.
Ayup ... the next bond-holders probably break even, even if the $500,000 house is sold for $325,000.
Your proposal is guaranteed to lose money, ...
Nope. If mortgages are paid off properly, the new investor get s $1.00 in principal for every $0.65 invested, plus 9% interest during the term of the mortgage: 6% of the full mortgage amount annually, with only 65% of the mortgage amount invested at issue (mortgages have to be combined into bonds ... Fannie Mae does this, so does Ginnie Mae).
If the mortgage defaults ... the investor still gets accumulated interest payments ... even a fire-sale price will likely return the principal invested, at a 35% discount to the original sale price. Of course, there's still some risk (always is).
You are right that bailing out the person that took a 4.5% "teaser" rate and didn't realize it would go up to 7.5% in a few years is "a gift."
I also agree that the gummint shouldn't interfere ... but politicians are stupid, too. They can't resist meddling.
Please resist the temptation to criticize my examples: I'm well aware the math is a bit more complicated.
They made their beds. Let them lay in them and they and the lenders will learn from mistakes. Bail them out and they never will.
The purpose of government wasn't meant to be a crutch for your own stupidity.
Hmmm. You argument always sounds good on paper, until it is you or someone you love. It changes things.
How about holding people responsible for their mistakes, instead of shaking down the taxpayer everytime someone makes one?
It just is not always that simple. I have found myself in need of grace on serveral occasions. Thank God I have not always got what I deserve.
You seem to be confusing God with government.
You seem to be saying that every time you need grace, the taxpayer needs to get ready for another shakedown.
If you always bail people out when they behave irresponsibly, you can't be surprised when being responsible goes out of style.
Why be responsible if the cost of your irresponsibility is going to be "billed" to the taxpayer?
much easier to say, let them go down. That is all. I have made some bad judgements in the past, and yes got bailed out. And I am glad and better for it. You seem to think everyone that made a bad decision is at fault. Some are for sure, but there are a lot of other factors involved most of the time.
lesson. If you're smart, you don't make the same mistake again. If there are no consequences, then you can keep on being ignorant on someone else's dime. A lot like grown-up children who refuse to accept maturity and responsibility.
however I did make my children bear consequences, and sometimes I just helped them because I loved them. And yes they are very responsbile adults and so am I. You assume to much with your attitude. May you never find yourself in circumstances beyond you control.
in particular. I assume nothing about you, other than that I don't agree with your stand on this issue. And I have found myself in a boatload of circumstances beyond my control--it's called "Life." You take the hard knocks and you develop character and life skills--you get bailed out and many people just keep on being unthinkingly immature.
I never said that a person should not get help--but I draw the line at helping to finance irresponsibility.
The RTC (Resolution Trust Corporation) turned out to be a tremendous waste of taxpayer dollars that would have been taken care of by time.
And the bad news is that the RTC may be gone, but the pure dogs - the instruments, investments or packages that you refer to above still linger to this day in the FDIC (who got the slag pile after the RTC hit its horizon date).
The RTC was a government-backed semi-private corporation. Like the government it had tremendous overhead costs, an excessively high number of contract and consultant labor costs. It "fire sold" a huge number of great packages that the meanest and hungriest investors picked up right away. As time wore on, the RTC was left with "less desirable" properties that kept getting harder and harder to unload (all at taxpayer expense). When sunset arrived, assets and asset classes were turned over to the FDIC which as far as I know is still trying to deal with distressed properties.
I'll give you a great example. A NY Savings & Loan held a note on a piece of property - prime real estate with a loan value near $1M in the city. Are you ready - the lot dimensions were 8'x 250'. Now, just exactly what are you going to do with an alley way sized lot between two buildings in NYC (except maybe build an alley). The RTC made the original S&L depositors whole. The property was obviously nowhere near a $1M and needed to be written down - but to what amount? The lot was full of debris - YOU cleaned it up (or at least your taxes did). I have no idea of the dispostion of this exact piece of property (although I did have an interest in it when I consulted with RTC) but I can easily believe that it is either still on the FDIC books or got sold for some price like $10 to some soul who hopes that one of the two neighboring buildings gets torn down.
The free market would have been FAR more efficient at dealing with the FSLIC loans, foreclosures and mismanaged properties.
If you hold the RTC as an example of shining light, then you really have been sold a bill of goods. Hey buddy, I got this great bridge in Brooklyn and you can buy it cheap......
We keep trying to be "nice" to people - the real world, the natural world is not "nice". Markets rise and fall and sometimes crash. Empires rise and have their hayday and they fall into disrepair. I have 20 deer that run day in and day out through my backyard except for the one poor soul who looks like he broke his leg somehow. He limps in obvious pain. I have invested in stocks - some good, some bad. My first taste in derivitives cost me $5000 in a month - I would say that was my bad. It took me two years to replace that $5000 that I lost in a snap of the fingers. I don't remember calling any government agency to come help me - I did it to myself. I got furloughed from a job some years ago and was told that I qualified for unemployment from the state. Why? The State didn't fire me or go out of business - the company I chose to work for went out of business. I had a new job (that paid less money, oh dear) in 5 days. That new job opened doors to a new career that has been very good to me.
Personal responsibility. I have signed loan papers on four homes at this point in my life. Every single one was perfectly clear in what I had to do - including amortization schedules that told me that I was going to eventually pay my bank $1.2M over time for owning this house. People need to grow up, take the silver spoons out of their mouths and throw them out the back window. We never promised you a rose garden, life is tough and man does it feel good to work hard and get paid for doing it!
Prevent Millions of Foreclosures? Let the free market take care of it. Yep, it will be painful to see my two houses decline in value. But neither of them truly are worth their inflated prices and I hate paying the property taxes based on those inflated prices. There is no law that says because my house was $200K in the 90's that it should be $600K in the 00's. Ask me about Apple stock prices - how do you like that roller coaster? How about the ".coms" back in the 90's? I guarantee if there are "millions" of foreclosures, the banks will start working out deals before too long. The net result will be some slighlty lower housing prices for a while and some banks having to find new ways to make revenue or going under/bought out. That's life!
Or I can take the Liberal (Socialist) view. Well, we need to save the poor from their own mistakes. (Poor being folks who have managed to buy houses as compared to renting.) We'll describe poor as below $100K/year and rich as over $200K/year. So yep, we'll make this cool government agency, spend billions and insure that folks making less than $100K can keep their homes. Rich people please don't apply. We just want to be "nice".
the sooner the housing market will right itself. Not only does this proposal bail out people who borrowed what they could not afford it encourages this type of irresponsible action in the future. As a nation we are living far beyond our assets and we can not sustain an economy based on borrowing assets we can not afford. And what is wrong with housing prices coming down to true market prices?
I agree. People who can't pay their mortgages on the terms that they agreed to and contracted for should, if they can't negotiate better terms or refinance, sell their homes (perhaps at a loss) and rent an apartment. Perhaps their house will go into forclosure.
That's unfortunate. But we can't have capitalism without some losses like this. There is no such thing as risk-free captialism.
re: "But I can totally bite off on the idea that the American people (acting through a quasi-public agency) should benefit from what will be one of the great land-grabs in financial history."
Hedley Lamarr: "There might be legal precedent! Of course, Landsnatching... land, land, Land, see Snatch. Ah, Hailie vs. United Sates. Hailie: 7, United States: nothing. You see, it can be done!"
Here's my modest counterproposal. Let's assume that the crux of the issue is not that the mortgage payment is going to soar to a point where the borrower can't pay, AND the borrower is unable to refinance because the house price has declined to the point where the borrower is underwater. This means that the $300k loan is being refinanced for a house currently worth $250k.
I outline this situation because 1) this is happening in Michigan; 2) if the house price is stable, the borrower ought to be able to refinance to terms that are affordable (how else could we have gotten into all this trouble?) (If this assumption is not true, then a government-backed low interest partial loan as described below would also work.)
In this case, the problem is not the refinancing, but who eats the loss of $50k. How about we create government program that lends the $50k to the homeowner by buying a stake in the property. The government can offer student loan interest rates, or no rates at all. The government puts a lien on the property so the homeowner can refi for a $250k loan. As long as the home isn't sold, the $50k loss isn't realized. Then the homeowner is empowered to hold the property until the value rises to the point where the loss is erased, and the government can be made whole. The original bank, despite the lien, should still write the mortgage for $250k because in a foreclosure scenario they will be worse off.
The advantage to this program is that it carves out the loss and treats it separately. It also keeps the home off the market, thus forestalling a glut of supply, which further depresses home values in a downward spiral (again, see Michigan). The losses can be quantifed so the total pain of the mortgage mess can be understood, thus providing some view of the bottom of the ocean, in a matter of speaking.
"I can say - not as a patriotic bromide...that the United States of America is the greatest, the noblest and...the only moral country in the history of the world. - Ayn Rand
Many banks loaned money to people who should not have gotten a loan. Many people bought more home than they could afford. Both sides should face some consequences.
While it's tempting to try to craft a govt program to mitigate some (but not all) of the consequences, that rarely works in practice. Govt almost never strikes the right balance. That's the essential flaw of using the govt to mitigate "market failure" -- "government failure" is almost always worse.
Are there really bonds out there that trade close to the value of Enron's stock, or is he just hyping a threat to make his proposal look more necessary?
"If this ain't a mess, it'll do until one shows up." -Sheriff Bell, No Country For Old Men