Wednesday, August 24, 2011

Housing: Just On More Area Where Obama Falls Short

From a post by Mike Konczal on the Rortybomb blog:
...I want to talk about cramdown. Ezra specifically points out housing as a place where action wouldn’t have made a large difference:
Or perhaps more could have been done on housing. I think housing is the place where the White House made the most mistakes, and I’ve been spending a lot of time lately looking into alternative policies. But it’s slower going than you might think. Most policies that would have dramatically improved the housing situation would have dramatically destabilized something else (the banks, for instance). And the policies that wouldn’t have been destabilizing would not have done as much as their proponents hoped.

Let’s take, for instance, cramdown, in which bankruptcy judges could modify the principal on mortgages, and which is among the most popular of the policies offered. Last year, I asked Dean Baker, whose analyses of the housing market had been the most spot-on, what he thought of cramdown. “Cramdown is good,” he told me. “But I think people overstate the impact it would have. Most foreclosures don’t go through the bankruptcy process. It was 10 to 15 percent before the crisis, and let’s say it’s at 20 or 30 percent now. And it goes through a bankruptcy judge. They’re not necessarily going to be that sympathetic to debtors. Take an optimistic scenario where 30 percent went through bankruptcy, I’d be surprised if in more than half the cases the people could keep the home.”
Luckily, to set the stage for a counter-response, Ezra brings up the idea of a balance-sheet recession in a different post. It’s the Housing Debt Stupid:
If you take the Rogoff/Reinhart thesis seriously — and people should, and increasingly are – what distinguishes crises like this one from typical recessions is household debt. When the financial markets collapsed, household debt was nearly 100 percent of GDP. It’s now down to 90 percent. In 1982, which was the last time we had a big recession, the household-debt-to-GDP ratio was about 45 percent.

The utility of calling this downturn a “household-debt crisis” is it tells you where to put your focus: you either need to make consumers better able to pay their debts, which you can do through conventional stimulus policy like tax cuts and jobs programs, or you need to make their debts smaller so they’re better able to pay them, which you can do by forgiving some of their debt through policies like cramdown or eroding the value of their debt by increasing inflation.
Kevin Drum brings up monetary policy in this context, but let’s talk about the modification of mortgages in bankruptcy, cramdown. This isn’t Monday morning quarterbacking; many people told Obama at the time to get cramdown as part of the second round of TARP, when the banks were vulnerable. Obama decided against it, and his team showed no interest in followup. This is after Obama campaigned on bankruptcy reform.

But why does it matter? The real value of cramdown for a “household-debt crisis” isn’t the debt-forgiveness part of it – though that’s a major part. It is that it sets some clear boundaries on how the losses from the housing bubble get shared between debtors and creditors.

For a simple example, let’s go back to the early 2000s crash and say that I owned shares of and Enron stocks. I’m an owner and benefit from the upside of the business. Turns out the businesses are, respectively, dumb and corrupt. What happens? My equity share is wiped out – my stock is worthless and goes to zero. In bankruptcy the firm is either liquidated and sold on the market or it is reset if there is continuing value. And we go on our merry way. I am not worried that I shouldn’t send my kids to college in order to pay out bondholders and creditors because I owned a stocks during that bubble.

There are people right now who aren’t going to send their kids to college in order to put more money on a house that is 50% underwater. If we think of homeowners as having “stock” (the equity spot) in a home – they are first in line to absorb the ups-and-downs of the market – when that equity is wiped out it isn’t clear what happens. Bankruptcy can’t reset that debt. Since there isn’t a system in place, private agents have every incentive to try and get everything they can out of the homeowner, instead of having a sense of what an ultimate check looks like in terms of outcomes. Normally win-win renegotiations would happen to prevent waves of foreclosures but there are a variety of incentive and informational problems in this new way of organizing mortgages.

Meanwhile what has the administration done? We looked at HAMP and its consequences are making the debt problem worse: mortgage debt actually increases in modification, re-defaults are high, total debt loads remain high, consumers aren’t put into a place where the debt load is sustainable.

This was known in advance. Among the numerous critics of nudging private modifications, Alan White looked at private modification workouts in an early 2009 paper, Deleveraging the American Homeowner, The Failure of 2008 Voluntary Mortgage Contract Modifications, and found “Most voluntary modifications result in increasing debt, by capitalizing unpaid interest, and little interest or principal is being forgiven. More than half of modification agreements still increase monthly payments rather than reducing them.” This is the exact opposite of what we want to be doing for this crisis.

Getting debt-to-income lower isn’t just a manner of numerics; it’s a matter of getting housing debt into a position where it is manageable for households. That’s what isn’t happening, and the situation doesn’t look any better for the two years of dithering. But to confront how losses happen after a Wall-Street led bubble requires confronting power – wealthy owners of bad debts do not give up their claims easily.
Obama promised many things in 2008 and has delivered on very, very little. If he was honest, he should have told voters "a vote for me is a vote for Wall Street, for big money interests, for big corporations, and for a veneer of 'assistance' to the poor, the unemployed, the homeless, the working class, and the middle class". But Obama knew he couldn't get elected if he told the truth. So he told you "those Republicans are the party of big money and corporations, vote for me and I do will do this and this and this" of which, of course, he did almost nothing.

Americans get a choice between
  • Republicans who lie about evangelical religion and social conservatism and deliver power to the ultra-rich and big corporations

  • Democrats who lies about concerns for "average" Americans, for unions, for health care, for pensions and deliver power to the ultra-rich and big corporations
It is a weighty choice to make in the voting booth, whether to die by hanging or by firing squad.

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