Topic: Finance, Banking & Monetary Policy

HUD Helps to Set the Ground for Next Round of Mortgage Fraud

Just when you were thinking it was safe to go back into the mortgage market, today’s Wall Street Journal  is highlighting the next source of mortgage fraud, the Federal Housing Administration’s (FHA) reserve mortgage program.  In a typical reverse mortgage, the bank sends the borrower a monthly check (or a lump sum payment at the beginning of the loan).

It seems that some creative individuals have figured they could deed a run-down house to an elderly individual, and then get a reserve mortgage on that property; leaving them with the cash and the government with the run-down worthless property.  Of course, this requires getting an appraiser to go along with the value of the home, but since the Clinton HUD decided to do away with FHA control of appraisers and let the lender pick the appraiser, that sadly hasn’t been much of an obstacle.

The great thing for lenders is that if the loan goes bad, or the value of the house falls below the mortgage amount, FHA - backed by the taxpayer - picks up the tab.  Of course, the borrower is required to pay an insurance premium to cover any potential shortfalls.  But just like in any other federal insurance program, when these’s a shortfall beyond funds collected via premiums, we taxpayers are left on the hook.  I could go on about what a great job Washington does running insurance programs; suffice to say, Washington does a pretty poor job.

If Washington were serious about cracking down on predatory lending and mortgage fraud, Congress should end the practice of allowing lenders to put 100% of their losses to the taxpayer.  Maybe that would provide the correct incentives for the lender to actually make sound loans.

Embracing Bushonomics, Obama Re-appoints Bernanke

bernanke1In re-appointing Bernanke to another four year term as Fed chairman, President Obama completes his embrace of bailouts, easy money and deficits as the defining characteristics of his economic agenda.

Bernanke, along with Secretary Geithner (then New York Fed president) were the prime movers behind the bailouts of AIG and Bear Stearns. Rather than “saving capitalism,” these bailouts only spread panic at considerable cost to the taxpayer. As evidenced in his “financial reform” proposal, Obama does not see bailouts as the problem, but instead believes an expanded Fed is the solution to all that is wrong with the financial sector. Bernanke also played a central role as the Fed governor most in favor of easy money in the aftermath of the dot-com bubble – a policy that directly contributed to the housing bubble. And rather than take steps to offset the “global savings glut” forcing down rates, Bernanke used it as a rationale for inaction.

Perhaps worse than Bush and Obama’s rewarding of failure in the private sector via bailouts is the continued rewarding of failure in the public sector. The actors at institutions such as the Federal Reserve bear considerable responsibility for the current state of the economy. Re-appointing Bernanke sends the worst possible message to both the American public and to government in general: not only will failure be tolerated, it will be rewarded.

American People to Government: Don’t Mess Up the Economy

The American people get it.  The government is likely to go too far in “fixing” the economy. 

Explains Rasmussen Reports:

Fifty-four percent (54%) of U.S. voters worry more that the federal government will try to do too much to fix the economy rather than not enough. That’s up three points from a month ago and the highest level of concern found on this question since Barack Obama was elected president.

A new Rasmussen Reports national telephone survey finds that just 37% are more worried that the federal government will not do enough in reacting to the nation’s current economic problems. That’s little changed from last month and down from a high of 44% in January.

Last October, as the meltdown of Wall Street dominated the front pages, 63% worried that the government would do too much. By the first week of November, that number had fallen to 46% and it stayed below the 50% level for several months.

Among the nation’s Political Class, (70%) worry that the government will not do enough. As for those who hold populist or Mainstream views, an identical percentage (70%) fear the government will do too much.

Notable is the contrary thinking of the political class.  The vast majority worries that the government won’t do enough.  Unfortunately, this group has far more influence over what government is likely to do than does the general public.

The Pay Czar at Work

Mark Calabria notes how the form of salary scheme at financial institutions played no apparent role in sparking the financial crisis.  But that hasn’t stopped the federal pay czar from boasting about his power, even to regulate compensation set before he took office.

Reports the Martha’s Vineyard Times:

Speaking to a packed house in West Tisbury Sunday night, Kenneth Feinberg rejected the title of “compensation czar,” but he also said said his broad and “binding” authority over executive compensation includes not only the ability to trim 2009 compensation for some top executives but to change pay plans for second tier executives as well.

In addition, Mr. Feinberg said he has the authority to “claw back” money already paid to executives in the seven companies whose pay plans he will review.

And, he said that if companies had signed valid contractual pay agreements before February 11 this year, the legislation creating his “special master” office allowed him to ask that those contracts be renegotiated. If such a request were not honored, Mr. Feinberg explained that he could adjust pay in subsequent years to recapture overpayments that were legally beyond his reach in 2009.

This isn’t the first time that federal money has come with onerous conditions, of course.  But it provides yet another illustration of the perniciousness of today’s bail-out economy.

Did Bank CEO Compensation Cause the Financial Crisis?

Earlier this summer, the House of Representatives approved legislation intended to, as Rep. Frank, put it, “rein in compensation practices that encourage excessive risk-taking at the expense of companies, shareholders, employees, and ultimately the American taxpayer.”

While there are real and legitimate concerns over CEOs using bailout funds to reward themselves and give their employees bonuses, Washington has operated on the premise that excessive risk-taking by bank CEOs, due to mis-aligned incentives, caused, or at least contributed to, the financial crisis.  But does this assertion stand up to close examination, or are we just seeing Congress trying to re-direct the public anger over bailouts away from itself and toward corporations?

As it turns out, a recent research paper by Professors Fahlenbrach (Ecole Polytechnique Federale de Lausanne) and Rene M. Stulz (Ohio State) conclude that “There is no evidence that banks with CEOs whose incentives were better aligned with the interests of their shareholders performed better during the crisis and some evidence that these banks actually performed worse…”

Professors Fahlenbrach and Stulz also find that “banks where CEOs had better incentives in terms of the dollar value of their stake in their bank performed significantly worse than banks where CEOs had poorer incentives.  Stock options had no adverse impact on bank performance during the crisis.”  While clearly many of the bank CEOs made bad bets that cost themselves and their shareholders, the data suggests that CEOs took these bets because they believed they would be profitable for the shareholders.

Of course what might be ex ante profitable for CEOs and bank shareholders might come at the expense of taxpayers.  The solution then is not to further align bank CEOs with the shareholders, since both appear all too happy to gamble at the public expense, but to limit the ability of government to bailout these banks when their bets don’t pay off.

What Recovery?

Despite the ballyhooed cash-for-clunkers program, retail sales dipped in July. Initial claims for unemployment also rose. Housing continues to be plagued by foreclosures. And many banks are still operating under the burden of toxic assets, which inhibits their ability to provide credit. These are not the recipe for an economic recovery. Yet the Federal Reserve is signalling it thinks a recovery is on the way. And President Obama is making happy talk on the economy.

A recovery may very well technically begin in the 3rd quarter of 2009, as signalled by rising GDP. But it is shaping up to be a jobless and joyless recovery. Firms are finding ever new ways of producing and earning some profits without hiring workers. The prospect of higher taxes for health care and to fund all the bailouts understandably makes businessmen cautious about taking on the liability of new workers.

The administration’s economic policy has been behind the curve. The idea of initiating new federal mandates, like health care and cap-and-trade with the attendant higher taxes, is a sure way to derail an economic recovery. What is needed is less spending and broad-based tax cuts. The administration’s economic policy is the real clunker and it is time to trade it in.

Measuring Policy Success

NPR reported this morning that “Cash for Clunkers” style programs in Germany and France are “popular and successful.” Successful by what standard? I see that the Wall Street Journal has reported that in Europe “’cash for clunker’ programs have breathed fresh life into a battered auto industry.”

Yes, by that standard, no doubt subsidies for buying cars are successful in encouraging the sale of cars. Certainly subsidies to homebuying encouraged the buying of homes. A “Cash for Computers” program would “breathe fresh life” into computer sales. Make it “Cash for Compaq” or “Cash for Windows,” and you could direct purchasers to particular companies.

But to declare a policy successful, shouldn’t you mean that it makes the country better off? And that means that the subsidies produced more economic growth or more overall consumer satisfaction than a policy of nonintervention would have. That’s a much harder standard to meet. Subsidies by definition divert consumer choices from their natural outcome. Economists generally agree that subsidies create deadweight losses for society. And sometimes, by distorting consumer decisions and encouraging decisions that don’t make real economic sense – as in the long effort to channel consumer resources into housing – subsidies eventually prove unsustainable and unstable.

Indeed, it seems likely that another part of the Wall Street Journal was correct when it described “Cash for Clunkers” as “crackpot economics.”