Some longer time readers will remember a post that I made back in April of this year titled “Chuck Ponzi’s Law of Unintended Consequences“. That post detailed the bail-out idea du jour… foreclosure moratoriums.
I always enjoy a discussion of how the mortgage mess that we find ourselves in can be “fixed” by using nontraditional methods. For each of the parties arguing the solution, it often involves directly benefitting them, while the cost is to be borne by another group… “the marks”.
Mike Shedlock’s analysis of the CRL (Center for Responsible Lending) and FDIC’s proposed solutions is particluarly interesting. His post is properly titled “The Debt Slave Act of 2005 Revisted“, which makes perfect sense considering how consumers have effectively been cut off from the one chance to make a clean break after devastating financial problems. Instead, the newer law attempts to weed out deadbeat habitual spendthrifts from performing frequent and repeated filings to wipe the board clean every few years. Instead, it has made it difficult enough to file bankruptcy that there is little to no possible way out. In addition, with pledges to repay, many become debt slaves to past problems, unable to leave them in the past.
Don’t get me wrong, I’m definitely for personal responsibility in life, perhaps even too much; but the law as it currently stands puts a burden on already destitute people. It has served to benefit lenders most of all. So, it is with some twisted satisfaction that I read what Mish has to say on the matter… all of with which I agree.
First, he quotes a CNN Money article (shortened excerpt)
One consumer group estimates that 600,000 foreclosures could be avoided over the next two years by making a simple change to the bankruptcy code.
The Center for Responsible Lending (CRL) calls it a tweak, but it could be a significant change for homeowners and the market for mortgage-backed securities.
CRL’s proposal – reflected in a House bill recently introduced – would make changes to the regulations for Chapter 13 bankruptcies, which don’t wipe out debts, but rather establish a repayment plan.
Under current law, when a person files for Ch. 13 bankruptcy, judges cannot reduce mortgage debt owed on a person’s primary residence, although they may modify mortgages on investment property or second homes.
Under the House bill, the bankruptcy judge would have the option of reducing what the homeowner owes the lender. Say a homeowner’s property is worth less than what he owes. The judge could reduce the principal to match the home’s current market value as well as reduce the loan’s interest rate.
Mish also quotes the FDIC’s proposal:
The heat on U.S. mortgage lenders and servicers was turned up a few degrees this week when the country’s chief bank regulator publicly proposed that they permanently freeze interest rates on subprime adjustable-rate mortgages (ARMs) for many homeowners.
“Keep it at the starter rate. Convert it into a fixed rate. Make it permanent. And get on with it,” Federal Deposit Insurance Corp. Chairman Sheila Bair said in prepared remarks at an investor’s conference.
That solution is nearly as bizarre.
Now, before too many of my readers go off on rants considering how this is supremely unfair… consider 2 things: first, if balances on loans can be decided in a court and lowered as a judge feels inclined, how many banks will want to loan money, and secondly consider what Mish has to say regarding “fixing” the ARMs:
It should not take a genius to figure out that if ARMs rates are “frozen” at a point where the market does not think rates should be, there simply will be no more ARMs offered. Furthermore, to cover the cost of existing ARMS, prices would rise on new fixed rate mortgages. Oddly enough, price fixing ARMs would not even help the person most at risk because that person cannot afford the teaser rate, let alone the cost of a current ARMS rate. Thus price fixing ARMs is a sure fired guaranteed way to cause a continued weakness in home prices, if not an actual out and out crash.
Which reminds me of the original Chuck Ponzi Law of Unintended Consequences:
If there is any chance that someone can get bailed out by someone else, they will, and you will have to pay for it from your own pocket.
Now, I’m considering that I have to add that while you may need to pay for it, anything other than letting the market deal with it efficiently will likely crash it anyway. In the end, it is the same thing that my first Econ professor in college always said was the #1 rule of economics: TNSTAAFL “There’s No Such Thing As A Free Lunch”. No such thing.
I am willing to bet that any artificial means of attempting to “solve” the problem will only make it worse, both for the person they are trying to help, and the overall group of people. The only people helped by the above solutions are those who have ALL of the following:
- Long histories of repayment
- Excellent credit scores
- Lots of cash for a down payment, maybe up to 30 or 40% to prevent bankruptcy write-downs
- Enough income to support purchases on fixed rates with lengthy work history.
This way, only the most qualified can purchase. At current prices, there are likely only 1 to 2% of the people in the entire Southern California region who could fit this bill for an average home. And, frankly, there is no way these people will live in an “average” SoCal home. Imposing the suggested “solutions” will only serve to do three things:
- Depeen the credit crunch
- Crash the housing market
- induce a consumer-led recession, if not depression
The deeper the credit crunch, the harder and farther housing prices will have to fall to meet demand. The harder and further prices fall, the more likely that good paying homeowners will walk away from an underwater mortgage. More foreclosures dropping prices and deeper credit crunch will turn off MEW (Mortgage Equity Withdrawals) which is what has been keeping the consumer (along with their credit cards) in clothes, vacations, and Plasma TV’s. A crumbled consumer is a crumbled economy.
When the service on debt becomes more than the income, defaults are certain. Since US wages have been in real decline (against inflation), and the US dollar in severe decline, the loss of purchasing power has become an unbelievable crush. Anyone who has not felt and seen the substantial inflation over the past 2 years has either been asleep or dead. Even high-end wage earners have felt the sting of higher prices.
All of this leaves me very pessimistic about the local economy that has been so built on the fortunes of real estate. I fear we may have much, much worse things ahead of us compared with the past few months.
