Tag: housing bubble

It Was those Bad Speculators That Drove the Housing Bubble….

A recent report from the Federal Reserve Bank of New York examines the role of speculators in driving the housing bubble. Setting aside the fact that almost everyone who bought a house was “speculating” to some degree, the researchers focus on those who were buying homes they did not intend to live in.

Some have already tried to paint this study as proving the government had little to do with the housing crisis. To their credit, the study’s authors do not go that far. Others, Mark Thoma for instance, show no such constraint:

“This is pretty far away from the (false) story that Republicans tell about the crisis being caused by the government forcing banks to make loans to unqualified borrowers.”

Of course, I’m sure that even Thoma knows that he’s set up a straw-man. Does anyone really believe that the Community Reinvestment Act and the Government Sponsored Enterprises housing goals were the only factors behind the crisis? Perhaps if the New York Fed really wanted to understand the crisis, it should look in the mirror.  It would seem reasonable to me that three years of a negative real federal funds rate might have had some impact on the housing market, particularly in encouraging speculators. After all, the Fed was basically paying people to take money.

None of this takes away from the role that Fannie and Freddie played in the housing market. For mortgages they purchased directly, Freddie’s investor share increased from three percent in 2003 to seven percent in 2007. And this ignores the massive volume of private label mortgage backed securities purchased by Fannie and Freddie. I think its reasonable to believe some of those were investor loans. In addition, the FBI has reported that the most frequent form of mortgage fraud has been borrowers stating the loan was for a primary residence when it was not.  But then it would be impolite of me to suggest we actually prosecute borrowers who committed fraud.

As I argued over two years ago, the relatively high percentage of foreclosures that are driven by pure speculators should make us question the many efforts to slow or stop the foreclosure process. If so many of these foreclosures are speculators, then why do we continue to protect them from losing the homes? They gambled, they lost. It’s time to move on and let the markets continue to adjust.

Now, one can continue to blame private sector actors for following the perverse incentives created by government. After all, the banks didn’t have to make the loans and the borrowers didn’t have to take the money. But it should be the primary objective of public policy to get the incentives correct. It should by now be crystal clear that all of the massive speculation in the housing market didn’t “just happen”—it was the result of massive government distortions in our housing and financial markets.

 

Uh-Oh: Bipartisan Housing Commission Announced

The words “bipartisan” and “commission” usually send a chill down my spine. I felt such a chill when I learned that the Bipartisan Policy Center (BPC) had formed a Housing Commission to “address the long-term challenges facing a struggling housing sector.” My initial reaction was confirmed when I read that it would be chaired by former government officials and politicians of the establishment type:

  • Christopher “Kit” Bond – former U.S. senator (R-MO)
  • Henry Cisneros – Housing and Urban Development (HUD) secretary under President Bill Clinton
  • Mel Martinez – former U.S. senator (R-FL) and HUD secretary under President George W. Bush
  • George Mitchell – former Senate majority leader (D-ME) and BPC co-founder

The most disturbing name is Henry Cisneros. Policies implemented by Cisneros’s HUD helped lead to the housing bubble and bust (see this section on Cisneros from a Cato essay on HUD Scandals). What’s next, Dick Cheney on a hunting safety commission?

Christopher “Kit” Bond, former appropriator and proud porker, hangs himself with his statement on the BPC’s website:

Since serving as Missouri’s Governor, and then as a United States Senator, I have worked to be an advocate for improving public housing and advancing community development. Some of my proudest achievements are helping shape housing policy and programs in homelessness, rural housing, public housing, HOPE VI, and affordable housing. None of these successes would have been possible without strong partners on the other side of the aisle.

In fact, my fellow Commission Co-Chair, and former HUD Secretary, Henry Cisneros and I, were referred to in a 1996 Wall Street Journal article as the ‘Odd Couple’ of federal housing policy – a moniker I still wear as a badge of honor. Though it was a different time in our nation’s history, Henry and I were then – as we are now – committed to coming together to address long-ignored problems with immense implications.

The federal government’s abysmal record on housing (see these Cato essays here for more) is a poster child for government failure. But not only does Bond consider his support for these programs to be among his “proudest” achievements, he actually states that collaborating with Cisneros back in the 1990s is a “badge of honor.”

I’m not sure what Mel Martinez has going for him on housing policy other than that his relatively short tenure as HUD secretary under Bush wasn’t marred by scandal like his successor’s, Alphonso Jackson. At least Martinez acknowledges that the Bush administration continued the Clinton administration’s misplaced emphasis on expanding homeownership.

As for George Mitchell, his claim to federal housing policy fame is that he authored the creation of the Low-Income Housing Tax Credit. Here’s what a Cato essay on public housing has to say about the LIHTC:

Another response to the failure of traditional public housing has been the creation of the Low Income Housing Tax Credit in 1986, which currently subsidizes construction or rehabilitation of roughly 70,000 units of low-income housing each year. This is another failed attempt to manipulate markets, and it has a variety of negative effects. For one thing, the structure of the tax credit program encourages the location of projects in particularly low-income areas, thus exacerbating the concentration of poverty in cities, just as traditional public housing did. Also, the method of allocating tax credits to the states results in many subsidies going to areas of the country where few housing affordability problems exist.

Further, the projects built under the LIHTC program have income caps for tenants, which create the same disincentive effects for personal advancement that traditional welfare programs do. Finally, the program essentially functions as a subsidy program for developers. Economists Edward Glaeser and Joseph Gyourko argue that developers effectively pocket the $4 billion or so in annual federal tax credits, while the rents in buildings constructed under the program are generally no lower than they would have been in the absence of the program.

In a nutshell: an establishment commission is planning to “reform the nation’s housing policy by crafting a package of realistic and actionable policy recommendations” for the Beltway establishment’s consideration. Hold onto your wallets, taxpayers.

No Hope or Change When it Comes to Fannie Mae

The Washington Post is reporting that President Obama has assigned his staff with the task of designing a new set of government guarantees behind the U.S. mortgage market. Although as the Post also reports the “approach could even preserve Fannie Mae and Freddie Mac.” That’s correct. Despite their role in driving the housing bubble and the already $160 billion in taxpayer losses, President Obama appears to be considering just putting the same failed system in place. Of course, we’ll be promised that it will all work better this time.

Perhaps most offensive is that the Post reports that Obama “officials don’t want to punish the thousands of Fannie and Freddie employees who have specialized knowledge about the mortgage market.” Seriously? What about the many blameless employees of AIG, Lehman Brothers, or Bear Stearns? Or New Century for that matter. Did the janitors and receptionists at those firms really cause the crisis? The truth is that the employees of Fannie and Freddie have been lining their pockets at the expense of the taxpayer for years. What the Administration is really saying is that they wouldn’t want all the political operatives at these favored firms to lose their perks. After all, Obama officials will need somewhere to land after 2012 and Goldman Sachs has only so many slots.

What’s most depressing is that you can’t say Obama hasn’t been given the facts. As the Post makes clear, his economic advisers spelled out the case against massive subsidies for the mortgage market. Austan Goolsbee, chair of Obama’s Council of Economic Advisers, points out: by subsidizing mortgage investments, the government drives capital away from other types of investments. If Obama truly wants to help the middle and working class, then he’d want capital to flow into investments that increase labor productivity, which is the ultimate source of wage growth.  Running up asset prices, like houses, does not make us wealthier in the long run.

But then what should I expect. The President has already entered campaign mode. It would be nice to see the economics win over the politics. But it looks like such a thing will have to wait for another administration.

Put Federal Flood Insurance Out of Its Misery

The House of Representatives is scheduled this week, as early as today, to consider an extension and “reform” of the National Flood Insurance Program (NFIP), administered by FEMA. Since Hurricane Katrina in 2005, the NFIP has been about $18 billion in the hole. And this is from a program that only collects around $2 billion a year in premiums, which barely covers losses and expenses in a normal year. So make no mistake, the NFIP is still on course to cost the taxpayer billions more in the future.

Even before Katrina, the Congressional Budget Office estimated that the NFIP was receiving a subsidy of close to a billion dollars a year. Under CBO’s optimistic projections, the House’s reform bill would increase NFIP revenues by about $4 billion over the next ten years, making only a small dent in the program’s current deficit.

The projected cost savings could potentially be lost by the expansion of the NFIP in the House bill. Yes, you read that correctly. Despite being deep in debt, the House is proposing to expand the coverage, and hence the risk, underwritten by the NFIP. For instance, the reform bill adds coverage for living expenses and “business interruption expenses,” as well as increasing the coverage limit from $350,000 (250k for structure and 100k for contents) to about $520,000 per home.

Such a massive expansion of coverage would likely drive out the existing providers of excess flood insurance coverage. And yes, you also read that correctly: there are a handful of insurers that offer private flood insurance. There is absolutely no reason that the private market could not offer flood insurance. Yes, rates might go up for the highest risk properties, but they would likely go down for others (and clearly reduce costs to the taxpayer). And given the high administrative costs of the NFIP (about 30 percent of premiums go directly to private insurance companies to help run it), it is likely that a completely private system of flood insurance would be cheaper.

In the aftermath of the housing bubble and its extreme costs to the taxpayer, we should eliminate the vast array of subsidies for housing construction, including the NFIP. If there’s one thing we should have learned, the underpricing of risk can have disastrous results.

Democrats Turn on Trade in Desperation

In the 2006 and 2008 election cycles, Republican candidates for Congress tried to save their bacon by running against immigration. In 2010, according to the Wall Street Journal this morning, a number of Democrats are trying to save their seats by running against trade. I predict the Democratic tactic will be as fruitless as the Republican effort before it.

Democratic incumbents have been running TV ads accusing their Republican challengers of favoring trade agreements, outsourcing, and tax breaks for U.S. companies that invest abroad. The charges are wrong on substance, as I address at length in my 2009 Cato book Mad about Trade: Why Main Street America Should Embrace Globalization, but running against trade has not proven to be a vote getter, either.

It is difficult to find a presidential or congressional election anywhere that has turned on trade. While most voters have an opinion on trade, the issue tends to rank down the list of top concerns, far behind the economy, jobs, and, in this election cycle, government spending and debt.

Demonizing trade is an especially odd campaign tactic in 2010. The recession of 2008-09 was not caused by trade, but by the bursting of the housing bubble. As the economy slowly recovers, trade has been one of the bright spots, with a healthy increase in exports fueling a revival of the closely watched manufacturing sector, as my Cato colleague Dan Ikenson blogged a few days ago.

Democrats running against trade should remember that the “Clinton economy” of the 1990s that they often speak nostalgically of restoring was built in significant part on the passage of major trade agreements and a robust expansion of trade.

Government’s Unwelcome Economic Distortions

A couple of weeks ago, David Boaz discussed the Old Testament story in which the people of Israel ask Samuel for a king to rule over them. God’s instructions to Samuel can be summed up as “tell them to be careful of what you wish for.” David brought up the passage in the context of civil liberties, but the story’s lesson also applies to economic liberties.

Over the past eighty years, the public has become conditioned in times of crisis to turn to their rulers and demand that they “do something.” That the rulers had a hand in the crisis is all too often either unrecognized or it’s a secondary concern. As Robert Higgs demonstrated in his seminal book, Crisis and Leviathan, the rulers will willingly oblige the public and, in the process, come away with more power and control than they had prior to the crisis. Unfortunately, the rulers’ enhanced authority begets more crises in the future.

The latest chapter in this story is the economic downturn. Many of the “seeds” for the recession were planted by government. Regardless, the average citizen reflexively looked toward Washington to quickly fix the economy. The public’s limited patience meshes well with policymakers who are naturally inclined to operate on a short-term horizon (i.e., the next election). Therefore, policymakers responded with quick-fix measures with almost no regard to the long-term consequences.

The long-term economic problems caused by massive deficit spending and mounting debt are the most obvious. But as two stories in the news show, short-term measures implemented by policymakers to “fix” the economy have also introduced unwelcome economic distortions.

First, following the expiration of the federal homebuyer tax credit, home sales have fallen off the cliff. The Christian Science Monitor asks: was the homebuyer tax credit the “scam of the century?” The program was riddled with fraud, some folks who were induced to purchase a house are already underwater or are headed in that direction, and the billions of dollars spent on the program did zilch for the long-term health of the housing market.

When one looks at ultimate beneficiaries of the tax credit, it’s easy to see why the CSM calls it a “scam:”

[I]n trying to fully understand why the government undertook such a useless and poorly calculated program, it’s important to recognize those who truly walk away from this policy in better standing.

Realtors, home builders and mortgage bankers… some of the most notable culprits of the housing bubble years… all walk away cleanly skimming the proceeds coming from the transactions of an estimated 2 million temporarily stimulated home purchases.

It should come as no surprise that these were the very same industry groups that worked tirelessly lobbying to enact this failed policy… it was a simple exchange… your tax dollars to their wallets.

Second, we go from “scam of the century” to the “the dumbest program ever.” The latter refers to the “Cash for Clunkers” program, which Chris Edwards submitted for nomination in August 2009. Chris cited numerous problems with the program, including that “Low-income families, who tend to buy used cars, were harmed because the clunkers program will push up used car prices.”

A senior editor at Edmunds.com tells a reporter from WIOD news radio in Miami that used-car prices are way up (h/t Radley Balko):

If buying a used car is among your cost-cutting measures… be prepared to pay up to 30-percent more than you did last year.

It is a simple case of supply and demand.

Trouble is … there are fewer used cars.

The cash-for-clunkers program took a bunch off the market.

Plus, Edmunds Senior Editor Bill Visnick says 5-million fewer new cars were sold last year…which pares down the used car supply even more.

As Radley sarcastically notes, you can’t blame those supposedly selfish limited government types for this one:

[W]e have a government program whose stated aim was to shore up huge, failed corporations by giving public money to mostly upper-income people that in the end will penalize low and middle-income people. But remember folks, it’s the libertarians—who opposed C4C—who are greedy corporatists who hate the poor.

There could be a silver lining in the cloud if more Americans start to realize that asking policymakers to quickly fix problems that government policies helped foster isn’t much different than asking the arsonist to put out the fire.

Cisneros Rewriting HUD History

In a recent speech to real estate interests, former Clinton HUD secretary Henry Cisneros preposterously claimed that the recent housing meltdown “occurred not out of a governmental push, but out of a hijacking of the homeownership process by some unscrupulous interests.”

The only criticisms Cisneros could muster for the government’s housing policies over the past 20 years were that regulations weren’t tough enough and it should have focused more on rental subsidies.

The reality is that Cisneros-era HUD regulations and policies directly contributed to the housing bubble and subsequent burst as a Cato essay on HUD scandals illustrates:

  • Cisneros’s HUD pursued legal action against mortgage lenders who supposedly declined higher percentages of loans for minorities than whites. As a result of such political pressure, lenders begin lowering their lending standards.
  • On Cisneros’s watch, the Community Reinvestment Act was used to pressure lenders into making more loans to moderate-income borrowers by allowing regulators to deny merger approvals for banks with low CRA ratings. The result was that banks began issuing more loans to otherwise uncreditworthy borrowers, while purchasing more CRA mortgage-backed securities. More importantly, these lax standards quickly spread to prime and subprime mortgage markets.
  • The Clinton administration’s National Homeownership Strategy, prepared under Cisneros’s direction, advocated “financing strategies, fueled by creativity and resources of the public and private sectors, to help homebuyers that lack cash to buy a home or income to make the payments.” In other words, his policies encouraged the behavior that he now calls “unscrupulous.”
  • Cisneros’s HUD also put Fannie Mae and Freddie Mac under constant pressure to facilitate more lending to “underserved” markets. It was under Cisneros’s direction that HUD agreed to allow Fannie and Freddie credit toward its “affordable housing” targets by buying subprime mortgages. Fannie and Freddie are now under government conservatorship and will cost taxpayers hundreds of billions of dollars.

Cisneros now serves as the executive chairman of an institutional investment company focused on urban real estate. Might that explain why Cisneros is now a fan of subsidizing rental housing?

“Unscrupulous” would be a good word to describe the millions of dollars Cisneros has made in the real estate industry following his exit from government.

From the Cato essay:

In 2001, Cisneros joined the board of Fannie Mae’s biggest client: the now notorious Countrywide Financial, the company that was center stage in the subprime lending scandals of recent years. When the housing bubble was inflating, Countrywide and KB took full advantage of the liberalized lending standards fueled by Cisneros’s HUD. In addition to the money he received as a KB director, Cisneros’s company, in which he held a 65 percent stake, received $1.24 million in consulting fees from KB in 2002.

When Cisneros stepped down from Countrywide’s board in 2007, he called it a “well-managed company” and said that he had “enormous confidence” in its leadership. Clearly, those statements were baloney—Cisneros was trying to escape before the crash. Just days before his resignation, Countrywide announced a $1.2 billion loss, and reported that a third of its borrowers were late on mortgage payments. According to SEC records, Cisneros’s position at Countrywide had earned him a $360,000 salary in 2006 and $5 million in stock sales since 2001.

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