Topic: Finance, Banking & Monetary Policy

Tough Breaks for the Blame-Cheap-States Crowd

An explanation for explosive college prices that’s very popular with ivory-tower apologists is that state governments have been ruthlessly “defunding” higher ed for years, forcing schools to raise prices. Two new reports help to make clear – as I have argued many times in the past – that this simply doesn’t hold water.

The first report is the annual State Higher Education Executive Officers’ State Higher Education Finance Report.  While it shows that on a per-pupil basis state and local funding has declined over the last few years, total amounts have risen pretty steadily since 2000. Adjusted for inflation, total state and local support dipped from $81.3 billion in 2000 to $78.0 billion in 2005, ballooned to $87.1 billion in 2009, then dropped just a bit to $85.5 billion in 2010. Helping to put it all in perspective, SHEEO reports that in 1985 state and local funding totalled just $65.5 billion. In other words, the general trend line has gone steeply up. But don’t believe me? Take it right from the report:

Some observers have suggested that states are abandoning their historical commitment to public higher education. National data and more careful attention to variable state conditions strongly suggest that such a broad observation is not justified by the available data.

Of course, if total taxpayer funding is generally up but per-student funding is down, increases in enrollment must be significant. And indeed they are. Unfortunately, evidence suggests that that’s very likely not a good thing.

The other bad news for the blame-the-taxpayers crowd is a new report from the Center for College Affordability and Productivity that illustrates that external factors such as decreasing state subsidies are not the main culprit behind skyrocketing prices. Student aid is, because it allows colleges to increase their prices with impunity. Evidence of this includes college prices considerably outpacing overall inflation; hugely declining faculty productivity; tuition growing far beyond instructional costs; and ballooning financial aid that hasn’t been accompanied by decreasing net costs.

Unfortunately, much of this will likely either be dismissed out of hand or just ignored. But the evidence, when you examine it, is awfully compelling: Subsidies, not pennypinchers, are the big problem in higher ed.

The Mortgage Industry-Government Revolving Door

The Washington Post is reporting that current Federal Housing Administration (FHA) head David Stevens, who only last week announced he was leaving FHA, is going to be the new head of the Mortgage Bankers Association (MBA).

When Stevens was first nominated to head FHA, I have to admit I was concerned.  FHA has a long history of prioritizing the interests of the mortgage industry over that of the taxpayer.  And here was a guy right out of the real estate industry (former Freddie Mac exec).  My expectations weren’t exactly high.  Maybe because of that, I’ve been largely impressed.  As FHA Commissioner, Stevens has taken eliminating fraud seriously, as well as avoiding a taxpayer bailout of FHA (so far).

All that said, it is hard to imagine that in under a week’s time, he interviewed with and was hired by the Mortgage Bankers Association.  So while there’s no evidence that he was looking at an MBA job while carrying out his duties running FHA, there is certainly the appearance of such.  The appropriate thing to do would be to leave FHA before getting a job with the very industry that FHA regulates and subsidizes.

Again I think Stevens has done a far better job at FHA than many of his predecessors, and I don’t believe he played a role in the financial crisis, but I do believe the cozy relationship between the mortgage industry and our federal government did play a huge role in the crisis.

Are Mortgages Cheaper in the U.S.?

As Congress and the White House continue to debate the future of Fannie Mae and Freddie Mac, one of the oft heard concerns is that if we eliminate all the various mortgage subsidies in our system, then the cost of a mortgage will increase.  There certainly is a basic logic to that concern.  After all, why have subsidies if they don’t lower the price of the subsidized good.  Of course some, if not all, of said subsidy could be eaten up by the providers/producers of that good.

All this begs the question, with all the subsidies we have for mortgage finance, are mortgages actually cheaper in the U.S.?  While not perfect, one way of answering that question is to look at mortgage rates in other countries.   Although every developed country has some sort of government intervention in their mortgage market, almost all have considerably less support then that provided by the U.S.  (For a useful comparison of international differences see Michael Lea’s paper).

The European Mortgage Federation regularly collects information on mortgage pricing by EU countries.   The latest complete annual data from the EMF’s Hypostat database is for 2009, with at least a decade of historical data.

A quick glance reveals that mortgage rates in most European countries are not all that different than rates in the U.S.  For instance in 2009, the U.S. 30 year mortgage rate was, on average, 5.04; whereas mortgages in France averaged 4.6 and those in Germany averaged 4.29.  In the UK, the average was 4.34.

Part of this difference is driven by product type.  For instance, in France, most mortgages tend to be 15 year, which one would expect to be cheaper than a 30 year.  But the French 15 year rate of 4.6 isn’t all that different from the current U.S. 15 year rate of 4.1.  As lending rates are usually bench-marked off the rate on government debt, part of the slightly higher rate in some European countries is due to their higher government borrowing rate.  If we instead measure mortgage costs as a spread over government funding costs (as reported by the OECD), then many European countries look more affordable than the U.S.  For instance, German mortgages price about 100 basis points over long-term German govt debt; whereas U.S. mortgages price about 140 basis points over long-term U.S. government debt.

I don’t expect these numbers to settle the debate.  A variety of other costs, such as points paid or required downpayments, differ dramatically across countries.  Unfortunately that data does not seem to be readily available.  What the preceding comparison does suggest, however, is that even without Fannie and Freddie, U.S. mortgage rates aren’t necessarily going to be a lot higher.

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.

The Other For-Profit College Scandal

Because the evidence of wrongdoing and evasion is so clear, and the effect has been so damaging, I have devoted a lot of pixels to the GAO’s horrendous ”secret shopper” report on for-profit colleges, as well as the stonewalling about what caused the initial report to be so biased. A potentially even bigger story, though, is what appears to be the machinations of an unholy alliance of Department of Education officials, Senate HELP Committee chairman Tom Harkin (D-IA), and Wall Street short-sellers hoping to make big bucks off the demise of for-profit schools. This Daily Caller article, and the connected video of Senator Tom Coburn (R-OK), are good places to start learning more about this, as is the website of Citizens for Responsibility and Ethics in Washington.

The problems with understanding scandals like this, of course, are trying to get the truth about things that have gone on almost entirely in real or virtual back rooms; knowing what is legal and what isn’t; and just figuring out who’s who. Such scandals also reveal little about whether for-profit schools are actually more or less effective than other higher ed sectors, arguably the main public policy concern.

What this sort of thing does start to reveal, though, is just how far out of public view policy is often made, as well as how people try to profit directly from government action. In other words, it’s a great case study in public-choice theory, and just how un-Schoolhouse Rock Washington really is.

So I can’t tell you everything about who said what to whom. However, at the very least it is clear, for instance, that famed short seller Steve Eisman had a huge amount to gain by testifying that for-profits are bad and there is a “bubble” in proprietary higher ed about to burst. After all, were either the Education Department or Senator Harkin – or both – to use his testimony to attack for profits, as indeed they have, Eisman would have a highly profitable self-fulfilling prophecy on his hands.

No matter how you feel about for-profit colleges – and my feelings are decidedly mixed– learning about how policy is really made can be a very unsettling thing. In fact, it can make you feel more than just a little sick.

Deflation Dread Disorder

A recent piece in the Economists’ Voice by Ed Leamer, who runs the Anderson Forecast Center at UCLA (one of the better forecast shops), diagnoses a new mental illness: Deflation Dread Disorder.  Deflation Dread Disorder is characterized by an almost irrational concern over the almost zero chance of actual deflation — that is, falling prices.

Professor Leamer briefly addresses each of the usual reasons given for fearing deflation:  impact of falling prices on business profits, impact on nominal debt burdens, and concerns that consumers will delay spending due to an expectation of lower future prices.  The piece demonstrates why each of these concerns is misplaced in the current environment, and it does so in a manner easily accessible to non-economists.   As it is a very brief piece, you’re better off reading it for yourself

Correction: Charles Mahtesian at Politico Did NOT Agree with Chris Matthews

In my recent Wall Street Journal article, “The Myth of Corporate Cash Hoarding,” I quoted Chris Matthews of MSNBC’s Hardball asking Politico’s Charles Mahtesian an apoplectic question about businesses “sitting on their money” just to keep the economy weak and hurt Obama’s reelection chance in 2012.   Then I carelessly added an erroneous superfluity −writing that “Mr. Mahtesian concurred.”

My apologies to Charles Mahtesian (and congratulations for having had the good sense to disagree with Chris Matthews).

In reality, Mahtesian wisely dodged Chris Matthews’ bizarre interrogation about corporations willfully refusing to spend idle cash until after 2012 election.  Mahtesian instead switched to talking about business going “whole hog” during the 2010 congressional election (this show aired September 27).

Here is the transcript:

MATTHEWS:  You know, a great question, Charles, that wasn‘t on my list to ask, but I‘m going to ask you because you seem like a sophisticated guy of many parts.  Do you think business can sit on those billions and trillions of dollars for two more years after they screw Obama this time?  Are they going to keep sitting on their money so they don’t invest and help the economy for two long years just to get Mr. Excitement, Mitt Romney, elected president?  Would they do that to the country?

MAHTESIAN:  Well, I won’t touch the first question, Chris, but…

MATTHEWS:  That was all one question, bro!

MAHTESIAN:  Oh!  I prefer splitting the two.  I’d say that I think what you’re going to see the business community do is really go whole hog at this election right now because either way, you know, I think they can envision a scenario in which they lose … because, for example, number one, if the president has a Republican House, that’s probably going to be a rough scenario for them anyway because that’s what the White House wants if they want to get elected in 2012 — re-elected.  So, probably the best-case scenario for them.

MATTHEWS:  Yes.

MAHTESIAN:  So you know, either way, I mean, I think they — they weigh the equities, and you know, see it as a 50-50 endeavor.

MATTHEWS:  Anyway, I just hope business starts spending.