The Foreclosure Prevention Act (aka the Bank and Builder Bailout Act)
Conservatives used to complain liberals always wanted to throw money at problems. While there may have been some truth at times to this charge, Congress decided to literally take this path in its approach to the housing bubble last week.There are many villains in the story of the housing bubble, but the homebuilders and the mortgage industry would go on almost everyone's list. The homebuilders rushed ahead with new developments under the delusion the bubble would last forever. The result is an unprecedented glut in housing.
The mortgage industry aggressively promoted adjustable rate mortgages to the most vulnerable segments of the population, giving us the subprime crisis. They didn't care mortgages couldn't be paid because they could dump them into the secondary market almost immediately after they were issued.
During their spring recess, members of Congress heard from angry constituents who feared the loss of their home or the loss of much of their home equity due to plunging house prices. This prompted Congress to rush into action when it came back into session last week.
The centerpiece of the "Foreclosure Prevention Act" approved by the Senate is a tax break for the homebuilders and the mortgage bankers - in effect throwing taxpayer dollars at two of the industries most responsible for the housing bubble. That should satisfy troubled homeowners.
But this may not be the end of it. There are plans for a large-scale buyout of bad mortgage debt. There are several different proposals being circulated, but the basic story is the same. The government would guarantee new mortgages that would be used to buy up existing mortgages of homes facing foreclosure. While the new mortgages would be issued at prices that are less than the value of the original mortgage, they will almost certainly give the banks far more money than if the market was left alone.
For example, a bank may have issued a mortgage for $220,000 on a home that is now worth $200,000. Under the various proposals, the government-guaranteed mortgage would give the bank a check for between $170,000 and $200,000. This means a loss for the bank, but, almost certainly, a much smaller loss than if it carried through the foreclosure.
The handout to the banks is justified as an effort to keep homeowners in their houses. This may be reasonable in depressed markets like Detroit or Cleveland, but simple arithmetic shows this plan provides no benefit to homeowners in bubble-inflated markets like Los Angeles and Boston.
In these markets, houses now sell for more than 20 times the annual rent on a comparable unit. This means, even with a low 6 percent mortgage, after adding in taxes, insurance and maintenance, homeowners will likely pay 60 percent to 80 percent more in housing costs than if they rented. The additional housing costs will come at the expense of health care, quality childcare, and other necessary expenses. Furthermore, since house prices are falling in these bubble markets, it is extremely unlikely these families will accumulate any equity. In short, just like the tax breaks approved last week, these bailout proposals are yet another way to put money in the pockets of bankers under the guise of helping homeowners.
There are real ways to help homeowners facing foreclosure. Amending the bankruptcy law to allow judges to rewrite the terms of home mortgages, so families can keep their home, would be a good start. We can also change the rules on foreclosure to allow homeowners the option to remain in their home as renters paying the fair market rent. This would provide security to homeowners, since they could not just be thrown out on the street. More importantly, it would provide lenders with a real incentive to negotiate terms that allow homeowners to stay in their homes as owners, since banks do not want to become landlords.
The Fed and Congress were incredibly negligent in allowing the housing bubble to grow to such enormous proportions. Acting on the advice of economists who couldn't see the bubble, Congress now seems determined to compound this failure. It is trying to hand as many taxpayer dollars as possible to the banks in a futile attempt to prop up the bubble and keep homes unaffordable for young people. Thankfully, it is an election year.