The New York Times has gotten Washington all worked up with the suggestion that we can turn around both the economy and the housing market if only Fannie Mae and Freddie Mac gave all underwater borrowers an automatic reduction in their interest rate.
The thinking, as illustrated by that world class economist Matt Yglesais, is “with a lower monthly interest payment, an indebted household can pay down other debts more rapidly. A less-constrained household will increase its consumption of goods and services.” What this misses is that a mortgage is one person’s liability, but another person’s asset. By replacing a mortgage that yields 6% with a mortgage that yields, say, 4%, you decrease the value of that mortgage (or mortgage-backed security). So whatever increase in consumption you get from making the borrower better off is reduced by making the investor worse off. There’s no magic in wealth redistribution.
I’ve argued all this before, but the reality is that the push to give underwater borrowers a free re-finance is not about economics, it is about politics. Heading into the 2012 elections, this plan offers Obama the chance to give millions of borrowers (and voters) a freebie. Of course, it isn’t free. Even if the investor is the taxpayer, as in the case of Fannie and Freddie, it is simply a transfer from one set of taxpayers to another.
I was a little surprised, however, at Yglesais’s admission that he just discovered ” that Fannie & Freddie are overseen by an independent regulator.” That’s mortgage finance policy 101. But then why let any study of the facts or details get in the way of a good political giveaway.
What again is the great tragedy of borrowers being stuck with mortgage rates of 5.5 or 6.0 percent? Those are quite low by historical standards. And if the borrower wanted their rate to decline when overall rates decline, they should have taken out an adjustable rate mortgage.