Thursday, May 8, 2008

The Politics of Foreclosure

In today's Wall Street Journal there is an article called Keeping Families Above Water. The article starts of with a discussion about a possible show-down between President Bush with the Treasury on one side against the Congressional Democrats with the Federal Reserve on the other side. However the article then leaves the political fight to look at the numbers behind the issues. Here are some interesting nuggets -

Of the 80 million houses in the U.S., about 55 million have mortgages. Of those, four million are behind on payments. Foreclosure proceedings were begun on about 1.5 million homes last year, up more than 50% from 2006. This year will be worse. The Treasury, according to presentations its officials have made recently, predicts house prices could fall another 10% to 15% before touching bottom.

Moody's estimates that one in roughly 12 American families with mortgages -- four million in all -- already owe more than the current value of their homes. They are said to be "underwater." The firm predicts that by early 2009 nearly one in four, or 12 million, homeowners will be underwater. Most will continue to pay mortgages on time. Many won't, and are at risk of losing their homes.

Lenders, we're told repeatedly, prefer to avoid foreclosure if possible. Better to cut a deal than end up with an empty, decaying house. "If a foreclosure is preventable...the economic case for trying to avoid foreclosure is strong," Mr. Bernanke said this week. And not just for borrower and lender: "Clusters of foreclosures can destabilize communities, reduce the property values of nearby homes and lower municipal tax revenues," he said. And that could depress housing prices, which could hurt the economy and the stability of the financial system, he added. On that much, Mr. Frank and Treasury Secretary Henry Paulson agree.

This is the foreclosure spiral that is occurring. As more people go into foreclosure house prices in the surrounding area lose value. This produces more people underwater, who then can not refinance or broker a deal with their lenders. Those people then have few options but to have a short sale, walk away before foreclosure or wait for the foreclosure.

... As the Treasury argued in a recent PowerPoint presentation: "Homeowners who can afford their mortgage but walk away because they are underwater are merely speculators." (It's a bit jarring to hear the Treasury vilifying people who are acting in their economic self-interest.) But if not for the widespread decline in house prices -- "a relatively novel phenomenon," Mr. Bernanke labels it -- and the proliferation of no-money-down mortgages made with the acquiescence of regulators, these homeowners wouldn't be underwater.

The quote is incorrect, Many people are so underwater that it will take them less time to repair their credit than get ahead. Many people who are forced to make this choice are doing it because it is in the best interest for themselves and their families. They are tied to a house they can not sell, they can not refinance, and is worth substantially less than what they paid. These people thought they were buying into the American Dream and ended up in an American Nightmare. Lenders who will not negotiate but will hound them for money and a government that scolds them like they are five-year-olds. Maybe this public anger and condemnation should be directed at the lenders who thought it was a brilliant strategy to lend people more than the value of their homes, that thought it was a good idea to pool many loans together and sell them as a sound financial investment, that make possible buyers and sellers (short sales) wait for weeks while the paperwork goes through the red tape only to come back declined. But how our we treating the lenders ...

Despite the restrictions, the plan could allow some homeowners to get a deal they don't deserve; that's the unfortunate byproduct of any rescue. But the Treasury and Fed surrendered the let-the-market-work-it-out high ground when they agreed to risk nearly $30 billion of taxpayer money to shield Bear Stearns, its creditors and counterparties from losses.

Currently our tax dollars are helping only one of the parties in trouble. Granted their are millions more borrowers than lenders to the fix is much simpler - but this does not erase the parity of the situation. Scolding one party while favoring the other when both parties bear responsibility for the troubles is just bad policy and bad politics.

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