With FHFA’s chief Ed DeMarco declaring mass principal write-downs off the table, the attention, has appropriately turned to Congress. First of all, this is really where the debate should have been. DeMarco is an acting director with little, if any, statutory authority to impose potentially large losses on the taxpayer in order to help mortgage borrowers. If we are going to do a massive giveaway to borrowers, the responsibility for such lies with Congress.

One such proposal was been put forth by Sen. Merkley, discussed by Joe Stiglitz and Mark Zandi in today’s New York Times. Stiglitz and Zandi claim that lowering the interest rate on outstanding mortgages would “work like a potent tax cut.” Monthly payments would be reduced, increasing disposable incomes and like magic, turn around the economy. As I’ve mentioned elsewhere, however, such a scheme is really just a redistribution of wealth and not wealth creation, as the “savings” comes at the expense of the holders of mortgage assets.

The Federal Reserve Bank of New York has come up with an interesting argument why such a scheme would not be “zero-sum.” Their argument is that most mortgage assets are held by the government and that the government’s “spending on U.S. goods and services does not depend to any significant degree on their income from the mortgage bonds.” I’d be the first to admit that government spending does not appear to be deterred by massive losses or deficits, however that does ignore the fact that someone else ultimately pays for government.

If some version of Ricardian Equivalence holds, then losses suffered on mortgage securities would be viewed as future tax increases, decreasing current consumption. I applaud the NY Fed for at least attempting to put some numbers behind their already chosen policy, but the fact is I cannot see how anyone, with a straight-face, could claim to know with any certainty whether such a program would be zero, positive or even negative-sum. I can think of all sorts of reasons for such to be a net-loss, like scaring investors away from the mortgage market and hence reducing mortgage credit and weakening housing demand, but I’d be the first to admit I don’t know the net impact with any degree of certainty. If what Stiglitz and Zandi ultimately want to do is provide a tax cut, then call for a tax cut, such would be far more transparent than continuing to use mortgage finance policy as an opaque regressive transfer to well-off homeowners.