A Golden Opportunity For Obama
Though the roll out didn't go quite as well as planned, John McCain clearly intends to make his new mortgage buyout proposal one of the centerpieces of the remainder of his campaign. But as I explained in my last post, it's just not good policy.
Not only that, but it doesn't strike me as being particularly good politics either. I was pleased to see Obama economic policy director Jason Furman issue a statement criticizing the plan:
First, as Furman explains, this proposal amounts to a straight taxpayer give away to financial institutions. And no one likes that.
But more importantly, I think, this proposal is fundamentally unfair. While it would certainly help many homeowners, the help would necessarily be distributed in a very arbitrary and uneven way. It would help those who are delinquent in payments at the expense of those who have sacrificed and suffered but continued to make their payments. It would help people who purchased houses at the height of the bubble while doing nothing for those who borrowed against their home equity during the same period (and are now hurting just as bad). It would help people in certain regions of the country at the expense of taxpayers in others. It would help those who can't pay their prime mortgages while doing nothing for those who were victimized by predatory sub-prime lenders.
What this plan does is use taxpayer money to compensate people directly for the fall in the value of their homes. People's current mortgages would be purchased at face value and reduced to reflect the current value of their homes--a pretty sweet deal. But we just don't have the resources to do that for everyone. So what you're left with is an impossible line-drawing exercise. How do you decide who gets compensated and who doesn't? However you end up drawing that line, those on one side of it are going to receive a massive benefit while those on the other receive nothing. Moreover, once those necessarily arbitrary lines have been drawn, who makes the determination whether you're on one side of the line or the other? Who's going to be making that very individualized assessment? What kind of process will be afforded? Will people be allowed hearings? Appeals? What kind of bureaucracy will be needed to administer this and to comply with constitutional due process requirements?
These are questions that McCain and his policy advisers haven't even begun to grapple with. And I think Obama needs to ask them. This is an opportunity for Obama to show that he actually cares much more than McCain does about spending taxpayer money in a responsible way. He can co-opt one of McCain's signature issues.
It's also a chance for Obama to make clear that he believes in fundamental fairness and that any programs we undertake should be designed to help everyone who needs it. It's amazing to see a Republican endorse a plan that basically amounts to a massive and haphazard redistribution of wealth from some people to others. Again, this offers Obama an opportunity to co-opt some traditionally Republican themes in pursuit of good policy.
I do think the government needs to step in and address some of the problems in the housing market more directly. But there are much smarter and fairer ways to go about it, ways that offer assistance to a wider range of people and at less cost to taxpayers, ways that don't offer windfalls to financial institutions or penalize those who have acted the most responsibly. These are all points that Obama should be making over the next few weeks.
Not only that, but it doesn't strike me as being particularly good politics either. I was pleased to see Obama economic policy director Jason Furman issue a statement criticizing the plan:
It turns out it’s even more costly and out-of-touch than we ever imagined. John McCain wants the government to massively overpay for mortgages in a plan that would guarantee taxpayers lose money, and put them at risk of losing even more if home values don’t recover. The biggest beneficiaries of this plan will be the same financial institutions that got us into this mess, some of whom even committed fraud.I think this proposal presents Obama with a golden opportunity to co-opt some traditionally Republican themes and really deliver a knock out blow to McCain.
First, as Furman explains, this proposal amounts to a straight taxpayer give away to financial institutions. And no one likes that.
But more importantly, I think, this proposal is fundamentally unfair. While it would certainly help many homeowners, the help would necessarily be distributed in a very arbitrary and uneven way. It would help those who are delinquent in payments at the expense of those who have sacrificed and suffered but continued to make their payments. It would help people who purchased houses at the height of the bubble while doing nothing for those who borrowed against their home equity during the same period (and are now hurting just as bad). It would help people in certain regions of the country at the expense of taxpayers in others. It would help those who can't pay their prime mortgages while doing nothing for those who were victimized by predatory sub-prime lenders.
What this plan does is use taxpayer money to compensate people directly for the fall in the value of their homes. People's current mortgages would be purchased at face value and reduced to reflect the current value of their homes--a pretty sweet deal. But we just don't have the resources to do that for everyone. So what you're left with is an impossible line-drawing exercise. How do you decide who gets compensated and who doesn't? However you end up drawing that line, those on one side of it are going to receive a massive benefit while those on the other receive nothing. Moreover, once those necessarily arbitrary lines have been drawn, who makes the determination whether you're on one side of the line or the other? Who's going to be making that very individualized assessment? What kind of process will be afforded? Will people be allowed hearings? Appeals? What kind of bureaucracy will be needed to administer this and to comply with constitutional due process requirements?
These are questions that McCain and his policy advisers haven't even begun to grapple with. And I think Obama needs to ask them. This is an opportunity for Obama to show that he actually cares much more than McCain does about spending taxpayer money in a responsible way. He can co-opt one of McCain's signature issues.
It's also a chance for Obama to make clear that he believes in fundamental fairness and that any programs we undertake should be designed to help everyone who needs it. It's amazing to see a Republican endorse a plan that basically amounts to a massive and haphazard redistribution of wealth from some people to others. Again, this offers Obama an opportunity to co-opt some traditionally Republican themes in pursuit of good policy.
I do think the government needs to step in and address some of the problems in the housing market more directly. But there are much smarter and fairer ways to go about it, ways that offer assistance to a wider range of people and at less cost to taxpayers, ways that don't offer windfalls to financial institutions or penalize those who have acted the most responsibly. These are all points that Obama should be making over the next few weeks.
posted by A.L. at 8:55 PM
9 Comments:
Tell me again why we the taxpayers are suppose to bail out the irresponsible? Caveat Emptor my friend, We're all grown ups. The Government can't wipe your nose every time you catch a cold, besides, where is the Government going to get this money? We're broke! I feel bad for those who are about to lose their home, I really do, but the horse is out of the barn and there isn't any way to fix this mess. Instead of forgiving loans and buying bad debt, why not allow the unfortunate people who are going to lose their home to get a break on their credit scores. This would allow them to get into a new home down the road at a much quicker pace, but would not reward the lending institution for bad behavior(Moral hazard). We can't blame the large corporations for acting as they are suppose to, profit driven, blood sucking, opportunists. Our Government is to blame. Unfortunately they do not represent our best interests and that has to change. It is truly fascinating to watch an administration filled with inept, currupted officials run this great country into the ground in eight short (long) years. Simply breathtaking.
Whole thing makes my head hurt.
Do we all agree that the goal of all of these variations is to prevent people who are underwater from walking away from their homes (defaulting)? The reason being that, if defaults level off, the deflationary spiral of defaults causing house prices to decline causing more defaults, etc., gets interrupted?
So, assuming we agree on this, then the most direct implementation of the goal is indeed "unfair": you want to help the people who screwed up, either by paying too much or by borrowing too much, while you are able to ignore the people with some skin left in the game (i.e. positive equity) because they're unlikely to default. You can certainly assist the more conscientious borrowers as well but the cost of the program goes up substantially if you do.
Next, I assume that we all agree that somebody is writing down the loss between the net present value of the current loan (roughly the value of the principal and all its interest cash flow) and the NPV of the reduced principal, reduced interest rate loan that will be substituted for it. There are three options:
1) The government eats it. (This seems to be the current McCain plan.)
2) The holder of the note eats it. (This seems to be the first version of the McCain plan.)
3) Both the government and the note holder eat part of it. (This will actually be the case when the government buys a CDO through the TARP, forcing the previous holder to write down the discounted price of he CDO when it is sold. Then the government can write down any additional loss in net present value that results from resetting the principal and interest to the mortgagee.)
Now let's look at the decision of whether to reissue the mortgage to the mortgagee or not. Irrespective of whether the note holder is the government or a private entity, the game is the same: You have a pool of mortgages, some of which are in danger of default. If the cost of reissuing mortgages exceeds the future decline in value of the pool due to even more defaults, then you won't reissue. But if the costs of reissue are less than the decline from future defaults (because you interrupted the spiral), then you will reissue.
Seems to me the real question is whether McCain's plan applies only to loans in TARP-purchased CDOs, or whether it applies to privately held loans as well. I suspect that Douglas Holtz Hyphen Hyphen is assuming the former, which renders the whole Politico kerfuffle moot.
I think the guiding principle has to be maximization of return on taxpayer dollars, not fairness. Fairness went out the window when the feds got involved (which, for the record, I supported, although Boehner had it just about right with his "crap sandwich" aphorism).
That still leaves the incredibly difficult question of what mortgages to reissue and what ones to leave alone, in order to optimize further declines in market value against the costs of reissue.
Which is why my head still hurts.
I tend to agree that McCain has been vague enough with his plan to have created yet another "whafuh?" moment for his campaign, which hardly matters since he's dead anyway. But please let's all try to de-politicize this, OK? We're in real peril here. It's important to do the best thing, not the thing that gets somebody elected.
TRM,
I agree with lots of what you say. I agree that no practical solution will be "fair" in the platonic sense. But some solutions are more fair than others. Financial institutions should definitely be the ones taking the bulk of the markdown. And, frankly, not all equity losses need to be marked down. If you can offer good refinancing terms that keep people with reasonable payments, then you don't necessarily have to reduce the loan amount. The taxpayers don't have to eat it quite so hard. Loan write downs should be limited to bankruptcy procedings or other pretty drastic circumstances.
In addition to all of the excellent points by you and your commenters: the "unjust enrichment" of the lenders who get paid off. Make a bad loan, let it go onto forcloaure, and the government pays off the bad, now unsecured and therefor uncollectable portion of that loan. Yecch.
A.L.--
...not all equity losses need to be marked down. If you can offer good refinancing terms that keep people with reasonable payments, then you don't necessarily have to reduce the loan amount.
I'm in over my head on the accounting here, but I'm pretty sure that a lender accounts for a mortgage asset at its net present value, which takes into account not only the principal of the loan but also the expected cash flows resulting from it, suitably discounted. So even reducing the interest rate results in a markdown of the asset value.
In addition, just reducing the interest rate doesn't make an underwater house suddenly have equity, so you don't create the same incentive not to default. Psychology of the borrowers is key here; I'm not so sure that people are as emotionally attached to the abstract idea of home ownership as you think, especially right now.
Good idea, but Obama needs to be careful too. He needs to "see the books" and exercise due diligence before he buys the company.
In 1932, Roosevelt ran on a programme of a balanced budget. He refused point blank, right up to inauguration, to discuss any economic policies with Herbert Hoover, despite many invitations.
He felt it would tie his hands and he wanted the slate clean when he started. Obama maybe should stick to broad generalities.
For example, it is clear the next President will have to slim down and modernize the military for 21st century wars. That should give a bounce to the country's finances, but Obama cannot telegraph that punch until in office.
David Sirota has a cogent analysis of this subject in the context of analyzing Paulson's approach to the credit problem. I think the same analysis applies to the McCain proposal.
http://www.ourfuture.org/blog-entry/2008104109/crony-communist-or-businessman
TRM,
You're assuming we the taxpayer want to do something to help the over extended borrower/speculator. I understand most of your jargon regarding CDO's bought through a TARP(?). The supporting evidence you have is quite compelling... if it weren't for the fact that it still helps the lender get out from under their bad descisions(moral hazard) and there ia no way to guarentee the taxpayer a return on their gamble(investment). Here's an idea... let the market cleanse itself! It aint gonna be pretty, but IMO that is the only thing that is going to get us to the end of this. When the system is broken, sometimes you have to boil it down to find what intensic value there really is. Everytime I hear CDO's or CDS's, I feel serious ill. Welcome to Reaganomics, How's that trickle down theory workin' for ya'
Just sayin'
A friend suggest 60 year mortgages. It will help the homeowners ride this out and the truly responsible will have hte chance to pay down their mortgage earlier. The inept will get stuck paying crazy interest or selling as soon as possible. I like it. what about all those buyers who SOLD houses for enormous profit? I would hope they would have to pay extreme taxes on that profit to qualify for a bailout on their new home. It's so fraught with complications and so divisive, I honestly think you have to be a first class idiot to back this.
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