Tuesday, May 1, 2012

Helping Mortgage Borrowers, Revisited

it seems to me that a modest share of the trillions in federal borrowing in the last few years, along with the trillions of assets that the Federal Reserve has accumulated through its "quantitative easing" policy, might have been better applied to assisting the millions of American households who took out a mortgage and bought a house--implicitly relying on the ability of supposedly better-informed lenders to tell them what they could afford--and then were blindsided by the national downturn in housing market prices.

The first part of his argument is irrelevant, in my view. The fact that the government spent trillions of dollars doing other things does not in any way imply that it is now beneficial to bailout mortgage borrowers.

Let me repeat some of the problems with bailing out mortgage borrowers.
1. Not all mortgage borrowers were "blindsided." Many of them knew what they were doing. Many of them were repeating speculative strategies that on previous attempts had generated windfall profits.
2. Many mortgage borrowers lost little or nothing. They put no money down and they never accumulated any equity.
3. Many mortgage borrowers, if given assistance, default again (one reads of re-default rates of 50 percent). They are being set up to fail.
4. The assistance to mortgage borrowers does not create wealth. It redistributes wealth to those borrowers and away from other people. For example, other people who might be able to buy homes if market prices were allowed to fall to their market-clearing level are shut out. People who were prudent during the housing bubble get nothing out of the bailout other than the increased tax liability needed to pay for it.
5. There is a huge deadweight loss in these programs. That is, the transaction costs involved in screening borrowers for eligibility, processing new mortgages, and so on, are quite high. As I have said before, this involves combining and redesigning two different processes--loan servicing and loan origination--and the cost of writing computer systems and training staff to handle this new hybrid process is quite significant.
Overall, I think that borrower bailout programs have done for the housing crisis what price controls did for the energy crisis of the 1970s. That is, they have deepened and prolonged the agony.
Of course, you know that I am even more strongly opposed to the bank bailouts. Again, the argument that "we bailed out the banks, therefore we should bail out the borrowers" carries no weight with me. We should have done neither.

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