Tag: borrowers

The Cost of Delaying Foreclosures

With State AGs and the Federal Government pushing to further extend the mortgage foreclosure process for late borrowers, one might assume that these government officials believe that further delay has no costs, and is at most a transfer from the lender to the borrower.  Judging from the results of a recent working paper, by economists Shuang Zhu and Kelley Pace at Louisiana State, they would be wrong.  Further foreclosure delays impose significant costs, not just on the economy and lenders, but also on other borrowers.

Zhu and Pace start with the observation:   “The longer the period between first missing payment and foreclosure sale, the more valuable the default option becomes. The borrower preserves the option to either keep defaulting or cure the default in the future. Since this option value grows with the foreclosure period, longer expected foreclosure periods increase the propensity to default on mortgage loans.”

As state and local law govern the foreclosure process, the authors examine differences across areas to see if such differences in delay impact the rate of foreclosures.  Interestingly enough, they do find that the longer are delays, the greater is the foreclosure rate. 

Given that lenders understand that delays are costly, this is likely to show up in the price of the mortgage.  Zhu and Pace find that with each additional six month delay in foreclosure, mortgage rates increase by 10 basis points.  As delays are running an extra year or so now, mortgage rates are higher by about 20 basis points due to government efforts to extend the foreclosure process.  This might seem small, but its also the amount many claimed Fannie Mae and Freddie Mac lowered rates by.  Clearly the costs of delaying foreclosures are not borne just by the banks, but by anyone hoping to get a mortgage.  For those who would respond “but mortgages are cheap” - they are only cheap due to cheap money.  The spread of mortgage rates over Treasuries is actually about 20 basis points above its historical norm.

Also of interest is that Zhu and Pace, using S&P/Case-Shiller house price futures, find that in cities where borrowers have lower future home price expectations, they default at a greater rate.  I believe this lends some support to the notion that we should stop trying to hold up prices and let them hit a point where up is the only direction.    The paper is full of interesting findings, and also includes a useful literature review of the default literature.

What Caused the Crisis?

Last night National Government Radio promoted a documentary on National Government TV about the financial crisis of 2008, which concludes that the problem was … not enough government.

If the “Frontline” episode mentioned any of the ways that government created the crisis – cheap money from the central bank, tax laws that encourage debt over equity, government regulation that pressured lenders to issue mortgages to borrowers who wouldn’t be able to pay them back – NPR didn’t mention it.

For information on those causes, take a look at this paper by Lawrence H. White or get the new book Financial Fiasco by Johan Norberg, which Amity Shlaes called “a masterwork in miniature.” Available in hardcover or immediately as an e-book. Or on Kindle!

And for a warning about the dangers lurking in Fannie Mae and Freddie Mac, see this 2004 paper by Lawrence J. White.

Housing Bailouts: Lessons Not Learned

The housing boom and bust that occurred earlier in this decade resulted from efforts by Fannie Mae and Freddie Mac — the government sponsored enterprises with implicit backing from taxpayers — to extend mortgage credit to high-risk borrowers. This lending did not impose appropriate conditions on borrower income and assets, and it included loans with minimal down payments. We know how that turned out.

Did U.S. policymakers learn their lessons from this debacle and stop subsidizing mortgage lending to risky borrowers? NO. Instead, the Federal Housing Authority lept into the breach:

The FHA insures private lenders against defaults on certain home mortgages, an inducement to make such loans. Insurance from the New Deal-era agency has enabled lending to buyers who can’t make a big down payment or who want to refinance but have little equity. Most private lenders have sharply curtailed credit to those borrowers.

In the past two years, the number of loans insured by the FHA has soared and its market share reached 23% in the second quarter, up from 2.7% in 2006, according to Inside Mortgage Finance. FHA-backed loans outstanding totaled $429 billion in fiscal 2008, a number projected to hit $627 billion this year.

And what is the result of this surge in FHA insurance?

The Federal Housing Administration, hit by increasing mortgage-related losses, is in danger of seeing its reserves fall below the level demanded by Congress, according to government officials, in a development that could raise concerns about whether the agency needs a taxpayer bailout.

This is madness. Repeat after me: TANSTAAFL (There ain’t no such thing as a free lunch).

C/P Libertarianism, from A to Z

Mortgage Mods: Congressman Prefers Coercion over Cooperation

The recent focus in Washington on mortgage modifications once again illustrates one of the most fundamental flaws in current political debate:  the notion of using government to threaten or force the “voluntary” transfer of wealth from one group of citizens to another.

Just this week Rep. Barney Frank warned the banking industry if they don’t “voluntarily” do more to reduce foreclosures, Congress will step in and make them do so, by allowing bankruptcy judges to re-write mortgage contracts.  This proposal is really nothing more an ex poste transfer of wealth from investors in mortgage backed assets to borrowers.

Of course, Rep. Frank and others respond that they are only trying to “bring lenders to the table” in order to keep negotiations going.  In the words of many “consumer” advocates, this is just a “stick” to the motivate the lenders.  I could think of few things more offensive to a free society.  In a government truly constituted on the notion of the common good or general welfare, it would be no more appropriate to use the stick of the state on lenders than it would be on borrowers.  Government quite simply should not take sides in purely private disputes. 

One would think that if anyone could understand the principle that government should not interfere in the private, voluntarily entered relationships of consenting adults, it should be Mr. Frank.

Obama Financial Reform Plan Misses the Mark

The Obama Administration is presenting a misguided, ill-informed remake of our financial regulatory system that will likely increase the frequency and severity of future financial crisis. While our financial system, particularly our mortgage finance system, is broken, the Obama plan ignores the real flaws in our current structure, instead focusing on convenient targets.

Shockingly, the Obama plan makes no mention of those institutions at the very heart of the mortgage market meltdown – Fannie Mae and Freddie Mac. These two entities were the single largest source of liquidity for the subprime market during its height. In all likelihood, their ultimate cost to the taxpayer will exceed that of the TARP, once TARP repayments have begun. Any reform plan that leaves out Fannie and Freddie does not merit being taken seriously.

While the Administration plan recognizes the failure of the credit rating agencies, is appears to misunderstand the source of that failure: the rating agencies government created monopoly. Additional disclosure will not solve that problem. What is needed is an end to the exclusive government privileges that have been granted to the rating agencies. In addition, financial regulators should end the out-sourcing of their own due diligence to the rating agencies.

Instead of addressing our destructive federal policies at extending homeownership to households that cannot sustain it, the Obama plan calls for increased “consumer protections” in the mortgage industry. Sadly, the Administration misses the basic fact that the most important mortgage characteristic that is determinate of mortgage default is the borrower’s equity. However such recognition would also require admitting that the government’s own programs, such as the Federal Housing Administration, have been at the forefront of pushing unsustainable mortgage lending.

The Administration’s inability to admit to the failures of government regulation will only guarantee that the next failures will be even bigger than the current ones.

Congress “Helps” Credit Card Customers

One of the best laugh lines always has been “I’m from the government and I’m here to help you.”  Certainly that’s true when it comes to consumer protection.

In the name of saving customers from the evil, rapacious credit card companies Congress plans on limiting access to credit.  It also is working to hike costs for people with good credit.

Reports the New York Times:

Now Congress is moving to limit the penalties on riskier borrowers, who have become a prime source of billions of dollars in fee revenue for the industry. And to make up for lost income, the card companies are going after those people with sterling credit.

Banks are expected to look at reviving annual fees, curtailing cash-back and other rewards programs and charging interest immediately on a purchase instead of allowing a grace period of weeks, according to bank officials and trade groups.

“It will be a different business,” said Edward L. Yingling, the chief executive of the American Bankers Association, which has been lobbying Congress for more lenient legislation on behalf of the nation’s biggest banks. “Those that manage their credit well will in some degree subsidize those that have credit problems.”

This makes a lot of sense.  We’re worried about bad debt, bad mortgages, and bad loans.  So Congress is going to penalize people with good credit who carefully manage their financial affairs.  Of course!

It has long been evident that Congress has the reverse Midas touch.  Everything congressmen touch turns to, well, this is a family-oriented blog.  You can fill in the blank.

If Congress wants to help consumers, the best thing it could do is take an extended recess.

Two Terrible Tastes That Taste Even Worse Together

Few things irk me more than human-interest anecdotes parading as objective journalism, or college students/graduates complaining about how much money they owe – and think someone else should pay – for their educations.

Perhaps in a bid to break some sort of irritation record, yesterday the USA Today combined these two odious phenomena into one wretch-inducing article about how just cruelly difficult it can be to rid oneself of the student debt one freely entered into.

I won’t go into a detailed dismantling of the piece. Read it for yourself and you’ll see that it really is nothing but a long series of anecdotes delivered with way too little information to have any idea why the debtors shouldn’t, you know, take responsibility for debt they freely incurred. I’m just going to highlight one vignette that sickly typifies just how rationally and morally bankrupt (pardon the pun) both the sentiments of some debtors, and the article, are:

Lenders often fail to offer relief to the neediest borrowers, says a report issued last month by the National Consumer Law Center.

“I feel like it’s a real shame that people like me are coming out of college, weighed down by all this debt,” says Austin Light, 24, a journalist for The Mecklenburg Times in Charlotte. He and his wife have $100,000 in student loans. “My dream is to be a full-time children’s book author and illustrator, and if I wasn’t shackled with this debt, I would be pursuing that.”

In how many ways is this galling?

  • We don’t know anything about why Mr. and Mrs. Light have $100,000 in student debt, but we are supposed to become morally indignant just because they feel “weighed down” by it? Did they go to very expensive schools? Did it take them each seven beer-soaked years to graduate? Who knows, but since average student debt for graduates who have any debt is only about $20,000, the rational conclusion must be that they did nothing to control their costs.
  • We don’t know what these two studied, but we do know that Mr. Light really wants to be a children’s book author and illustrator. Well, you don’t need to go to college for that, especially one so expensive you incur a debt that even Stephen King – much less a neophyte kiddie lit author – might have trouble paying back.
  • Given the overall context of the article, readers are presumably supposed to feel that it should be easier for the Lights to discharge their debts in bankruptcy. But why should people who lent them the money, especially taxpayers who have no choice but to back federal loans, have to take losses on loans that these two freely agreed to pay back when they took them? Isn’t the word for that “stealing”?

Unfortunately, this seems all-too representative of the growing sense of entitlement exuded by many student interest groups. Students should get all the benefits of an education, but someone else should pay for it! And their will is being done in Washington, with several pieces of aid-enhancing, loan-forgiving legislation (which I sketch out here) having been passed in the last couple of years; the Serve America Act – which includes taxpayer-funded education stipends for qualifying “volunteers” – enacted in April; and Senator Dick Durbin (D-IL), according to the USA Today article, planning to re-introduce legislation that would allow private student loans to be discharged under bankruptcy.

And we wonder why higher ed costs, among other things, seem to be out of control…