foreclosure help

When you have a hangover, one cure is to drink more, though this is clearly a short-term solution.

Since the housing market began to falter in 2007, Washington has tried to help via foreclosure mitigation, increased guarantees from the FHA, higher guarantee thresholds from Fannie Mae and Freddie Mac, Fed purchase of mortgage assets, and the $8,000 home buyer's tax credit.

Yet housing, and the economy, remain in a slump. The people in unsustainable consumption and production, and everything around them, are not investing because they know there's no future for them.

The NYT highlights people concerned about some new proposed mortgage regulations that would seem a no-brainer given what just happened.

the first point of attack is on a proposal that would require sellers of mortgage-backed securities to retain part of the risk should a package of loans go sour. The sellers would have to keep on their books at least 5 percent of the value of any baskets of loans they purchase from lenders and then resell to investors. One of the few exceptions to the requirement would be for mortgages on which the home buyer has made a down payment equal to 20 percent of the purchase price.

“Most people don’t have 20 percent to put down,” said Janis Bowdler, a project director in La Raza’s office of research, advocacy and legislation. “These rules will so significantly deter the ability of first-time buyers to break into the market that we will see a real decline in home ownership.”

First off, someone who can't come up with 20 percent should not a home, they should rent. Homes require big cashflow investments for random problems such as broken water heaters, air conditioners, flooding. If you don't have $10k lying around, your house is uninhabitable after such contingencies. Then there's standard maintenance. As the Zimbabwean squatters found out with farming, you need to invest and cultivate a farm for it to be productive, it doesn't just produce. So too with housing, as homes need constant investment just to keep them from falling apart: landscaping, fixing wiring in the house, new carpets, etc.

Putting poor people into homes they can't afford leaves no one with both an incentive and ability to maintain it, and so such neighborhoods decay. Many inner cities have once beautiful homes that are now worthless, and though it doesn't happen overnight, the waste is rather pathetic. Better for everyone--neighbors, themselves--if they rent. After all, housing is not, primarily, an investment, but rather consumption item falling under 'shelter'.

On one hand, this problem is solving itself as no one will buy paper with less than 20% down mortgages, on the other hand, there's an exception: government guaranteed mortgages with only 3.5% down. The government guarantees 90% of mortgages today, which only prolongs the inevitable, and is a major reason why we aren't out of our slump, because people are not being reallocated to their sustainable patterns of trade and consumption.

This mispricing of risk is born by taxpayers and so, like Fannie and Freddie and the whole mortgage bubble, is an easy way for do-gooders to superficially address the problem. It may not have been obviously stupid in 2006, but it is now.

This post was published at the author's blog.

Cross-posted from Credit Writedowns

Stephen Roach has written an Op-Ed in today’s Financial Times that is worth reading. He outlines his version of Richard Koo’s Balance Sheet Recession theorem, opining that “the global economy is being hobbled by a new generation of zombies – the economic walking dead.”

His main points are:

• American consumers are retrenching. In the 3 1/4 years since 2008 began, real consumption growth has averaged 0.5% on an annualised basis, the lowest since World War II. That data point certainly rhymes with the consumer deleveraging of Koo’s balance sheet recession.


• Zombie companies remain on life support. Roach says the antecedent to this is Japan where Japanese banks extended credit to effectively insolvent companies, postponing a full recovery for two decades. Roach calls this the “Japan disease”. This data point is at odds with Richard Koo’s prescriptions.

Roach’s conclusion:

Washington policymakers are doing everything they can to forestall rational economic adjustments. The Federal Reserve has conducted two rounds of quantitative easing in an effort to get consumers to start spending the wealth effects of a policy-induced rebound in equities. Congress and the White House have embraced home-foreclosure containment programmes and other forms of debt forgiveness.

The aim is to get zombie consumers to ignore their festering problems and start spending again – irrespective of the wrenching balance sheet damage they suffered in the “great recession”. The subtext is Washington condones a revival of reckless behaviour.

That “Washington policymakers are doing everything they can to forestall rational economic adjustments” is certainly the conclusion I have drawn both regarding Japan and regarding the US. I would say, however that the aim is to get zombie banks to ignore their festering problems and start lending again. See the difference? That’s my updated wording. Apologies for not pointing that out in the initial version.

First, on Japan:

If one wants to see what happens when you use stimulus to help keep zombie companies alive and to resist reform efforts, look no further than Japan.

For twenty years now, Japan has been dealing with the consequences of a burst asset bubble in shares and property. And for twenty years, the body politic has been unwilling to make the necessary reforms which would eliminate zombie companies while still helping to repair balance sheets in the private sector. Instead, the Japanese have piled government deficit upon deficit like Sisyphus trying to get consumers to reflate the economy. It has not worked…

What this illustrates is that stimulus cannot be seen as a cure-all in an economy which lacks in domestic demand or in which debt burdens are high. I see this as a cautionary tale for The Europeans and Americans looking at stimulus as some magic bullet which will make structural problems disappear.

I increasingly ask myself whether any advanced democracy has the foresight to implement a targeted monetary stimulus campaign without knee-capping efforts to induce more private sector savings – fiscal stimulus is a whole different affair. Right now, the savings rate in Japan is even lower than in the United States, a direct result of easy money.

In my view, fiscal or monetary stimulus are bridges to a sustainable economic future built on the back of deleveraging, a purge of malinvestments and industry consolidation. Right now, the stimulus in Japan is looking more like a bridge to nowhere.

-Japan: stimulus without reform leads to a policy cul de sac, Nov 2009

Second, on the US:

If the US wants job growth, it will need to reduce private sector debt levels – and that takes time. It does not follow "that the central objective of national economic policy until sustained recovery is firmly established must be increasing… borrowing and lending," as Larry Summers asserts. The government can act as a counterweight to the demand drag but I am very sceptical of claims like Summers’ that doing so would solve a jobs crisis borne out of a debt crisis.

-The jobs crisis is not just about demand, Jun 2011

Third, in general:

in theory, fiscal stimulus can cushion the downturn and hasten real recovery by preventing a spiral into a non-equilibrating economic state.  However, in practice, stimulus has been used as an excuse to maintain the status quo, prop up zombie companies and forestall the inevitable.  This only lengthens the downturn, misallocating even more resources to less efficient uses. And all of the worries I had about social unrest, populism, and protectionism are coming true nonetheless…

Rather than use the period of fiscal stimulus to promote private-sector deleveraging and saving and to purge malinvestment, politicians will simply use this period as a way to continue business as usual, making the problem even bigger down the line…

What about monetary policy? Well, in a depression where the constraint is overinvestment, leverage, and debt, the question is not a monetary one.  As Marshall recently suggested, it appears Fed Chairman Bernanke doesn’t understand the basic economics of central banking. Throwing more money into the system will not make credit-worthy borrowers borrow more. Nor will it necessarily induce banks to lend when they fear that many of their prospective borrowers are not credit-worthy.

By lowering interest rates and expanding the money supply, central banks are not inducing more lending; they are trashing cash. You are not promoting saving with 0% rates; you are looking to re-create the asset-based status quo ante. And when there are insufficient lending opportunities, banks are either forced to sit on billions of cash earning nothing or try other ways of making money (proprietary trading, investment in Treasuries, maybe even lending to non-credit worthy borrowers).  Moreover, investors are earning next to nothing as well.  How many people have looked at their money market fund statements with the 0.00% interest staring them in the face and decided to switch into bond, equity or commodity funds? It’s what’s called liquidity seeking return – a major reason the stock market has been buoyed.

-Moving away from stimulus happy talk to focus on malinvestment, Dec 2009

Don’t be fooled by economists telling you the risks of a Japan disease are not real. They are. And when economists are honest like Janet Yellen has been, they will tell you that it is conceivable that accommodative monetary policy could provide tinder for a buildup of leverage. Moreover, Larry Summers is quite direct in telling us that he views the purpose of fiscal policy is to promote aggregate demand via “borrowing and lending, and spending”. How is that consistent with private sector deleveraging? Doesn’t this actively promote the preconditions for the Japan disease?

Here’s how I framed it two years ago as we headed into recovery:

1. Even if economic and monetary policy have poor longer-term consequences, it does not mean that policy won’t gain traction in the short-term. I see the potential for a cyclical upturn due to the massive stimulus campaign… Ask Alan Greenspan regarding his 2001-2003 easy money campaign. This is what happened in Japan before Yamaiichi’s demise in 1996 – and again before Daiwa and Nikko were merged out of independence.


2. Even if economic and monetary policy have stimulative short-term consequences, it does not mean that the structural problems have disappeared. They are merely lurking underneath, waiting for the next downturn to re-assert themselves. Again, the Japanese scenario is a cautionary tale on this score.


3. Asset prices will respond to an upturn, but that does not mean we are about to embark on a new bull market. Japan is the right precedent here again. After the upturn in the mid-1990s, property prices continued to collapse in Japan, sucking many more individuals into the deflationary spiral.

-Turning Japanese and understanding the consequence of policy half-measures, Apr 2009

Rather than adding stimulus with the aim of goosing demand by whatever means available to help the economy reach escape velocity, I would say that the central objective of economic policy is to help the economy reach full employment. Doing so will increase demand, increase output, and cut budget deficits tremendously. Policy makers should aid the economy in reallocating scarce resources to areas that will sustain longer-term productivity growth while doing this. In America, that means fewer resources in finance and housing and perhaps more in technology and infrastructure.

As Stephen Roach writes:

A failure to learn the lessons of Japan – especially that of post-bubble zombie congestion – leaves the US and the global economy in a very tough place for years to come. Growth-hungry financial markets could be very disappointed.

Source: Global economy menaced by return of living dead, Stephen Roach, FT

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