Has Government Knocked Out the Housing Crisis?
In a swift, one-two punch the U.S. government knocked out the housing crisis yesterday. Punch one came from the Federal Reserve Board as they lowered short term interest rates by half a point. Later in the day punch two landed when the House of Representatives passed H.R. 1852, known as the Expanding American Homeownership Act of 2007 which allows more borrowers to qualify for government guaranteed mortgages.
Wall Street cheered and the stock indexes responded with huge gains. Stocks have added to the gains today. H.R. 1852 goes before the Senate today and we should have word that it passed by the end of the day. President Bush should sign it into law by next week.
Why do I think this combination will be effective? First of all, a rate cut by itself won’t necessarily prevent
borrowers with adjustable loans from defaulting. Many of the at risk loans are tied to indexes that are not tied to the Federal funds rate. The vast majority of subprime loans for instance are tied to LIBOR, which has been trending higher than the Prime rate recently. While the two indexes tend to mirror each other, the Fed on it’s own can’t quickly impact the LIBOR rate. Further, many of the Option ARM loans are tied to the COFI or COSI index which trail Prime and LIBOR by as much as three months.
In combination with a rate cut, the FHA revisions that include higher loan limits, risk based mortgage insurance to include more borrowers and no down payment catch many of the borrowers facing foreclosure because of adjustable loans. Conspicuously absent from this group of saved homeowners will be investors with multiple properties and fraudsters who have already defaulted without making a payment.
There are some people out there who don’t believe this will prevent housing prices from lowering. The wave of foreclosures is already out there and not even the Fed can stop it. Collateralized debt obligations are a failed economic instrument according to Alan Greenspan -
And I think we’re going to find that there’s going to be no regulation, but a lot of the collateral debt obligations, collateral loan obligations, these special investment vehicles, all of which are highly questionable, I think people are going to be frightened to deal with those things for a long time, and many instances, a lot of them, are just going to disappear because they’ve been tried. They don’t work.
However, home loans guaranteed by the Federal Government, backed by mortgage insurance paid by the borrowers and re-insured by foreign underwriters, are going to become the next great investment vehicle. With increased loan limits, even the highest priced States will see benefits from these revised guidelines.
Isn’t this new program, just more of the same…a different package for the same rotten egg? I’m not so sure the risk system of mortgage backed securities is fully to blame here. I think the bad loans started with the originators and the lenders failed to audit because they were so busy making loans. Alan Greenspan recently said -
I’ve always been in favor of enhancing home ownership in this country, even though it is risky in the subprime area. I don’t know where you draw the line, because a lot of the subprime lending has been frankly truly egregious and I think in many cases, criminal fraud.
If anything were to come out of this mess, I would hope it would be regulation of mortgage originators and better auditing systems by lenders so they could catch fraud earlier. Punishment should be a deterrent. People defrauding institutions of millions of dollars should go to prison for more than a year and a half.
The most important effect of yesterday’s combination punch is a restoration of confidence in the economic system. While many of the comments at Housing Panic on the topic were clearly upset with the rate cut, one anonymous poster succinctly summarized exactly what happened with the cut -
Anonymous, have you not figured out by now that the fed was looking at jobs and at consumer sentiment. That is 75% of our economy. This economy does not live or die by responsiblity (sic), it lives and dies by consumption. The government DOES NOT WANT you to save money and put it away. They want you to invest in stocks, buy houses, buy cars etc. And they WILL do whatever it takes to make sure that does not slow down. DO NOT bet against the fed. That is the culture. Like it or not. This has just turned from a housing crash, to a housing correction. And telling from the sales this weekend at the K Hovanian properties (at least around here) most of the interest was there all along, it just needed a lower price, not a crashing price. Now with inflation coming back, get ready cause here we go again. The MSM will highlight this, and the folks that have sat on the sidelines are going to start buying. Slowly, but they will. They needed a bottom, and the fed just created it.
Local economist Jeff Thredgold also pointed to consumer sentiment in a Salt Lake Tribune article today -
“What this [interest-rate cut] does is give people a psychological boost,” he said. “It offers them the sense that the Fed is watching over the economy and is concerned about what is happening.”
There were a lot of causes of the housing bubble and there needs to be lots of solutions as well. Lowering rates to prevent foreclosures and modernizing FHA guidelines and loan limits to encourage home ownership are solid first steps to re-establishing consumer sentiment to real estate. Lowering home prices in certain instances and expanding regulation of the mortgage lending business are steps that should quickly follow.