Friday, September 26, 2008

To Own a Home in the State of Nature

Why isn't anyone anywhere looking at the fact that housing prices were becoming irrationally, and unreasonably high in the first place?

In 1995 Bill Clinton and the 104th congress pushed through legislation altering the Community Reinvestment Act, in essence to promote more home ownership in what were considered to be overlooked, poorer and often minority neighborhoods. A1992 Federal Reserve Bank study on lending determined that a disproportionately small number of minorities were being approved for loans. The first instinct of Washington politicians was not that we as a country needed to address the potential issue that a disproportionately large number of minorities in America were needlessly poor and had bad credit; no the response was predictably that the banking industries method's for calculating lending risk were hopelessly outdated and wildly racist. The result was well over a decade of public policy aimed at forcing lending institutions to adopt low income and high risk neighborhoods. In order to maintain a favorable ranking with the Federal Government (a CRA ranking as came to be called) lenders had to comply or face fines, loan penalties and major roadblocks in deals like mergers and acquisitions. In order to assuage the risk that banks knew existed while complying with federal regulations and HUD policy, banks did two main things. The first was to offer mortgages at variable interest rates in order to ensure that if the cost of federal loans went up they wouldn't lose money. These adjustable rate mortgages (ARMs) meant that they could offer reasonable rates to attract high risk borrowers, as long as the FED did the same, but then they could raise rates to cover potential losses when FED rates rose. This as a banker seems like a reasonable idea until you factor in massively inflated home prices (due to too much lending) and stagnating wages.

The second thing the banking institutions did was to package extremely risky debt with extremely safe debt and sell it to larger lending institutions under the average overall risk ratings. The problem with this is of course that risk factors on main street are easier to observe in person than they are from thousands of miles away based only on a few numbers. The Federal Government added to this lending trend with the heavy the handed promotion of HUD's government backed lending institutions like Fannie May and Freddie Mac. These government backed lenders worked hard, and were encouraged by the Federal Government to promote and purchase as many of these complicated risk balanced debt packages as they could acquire. In essence the government was creating a giant banking competitor with a virtual guarantee that drove the market to deeply invest in these debt packages with no real understanding of the street level risk. There's no way the market can, by itself, escape a predatory competitor as large and unwieldy as the Federal Government and the government systems within which banks are required to operate. The result when coupled with the low interest rates and loose lending policy in a post 9/11 panic economy, is not simply the collapse of the system we are seeing now, but the precipitation of this collapse by the drastic and unrealistic increase of home prices. Take a look at every aspect of the housing market, from sales to renovation, over the last ten years and you will see the bloody opportunistic profiteering that can only occur in unrealistically sharp market increases. Entire cable TV channels sprung up over night, devoted to flipping houses in what many believed was a magically growing housing market. Prices just couldn't seem to stop multiplying.

The problem is that more and more people, responsible workers, middle class families, and careful investors went looking for that first home and saw a market that had vastly out-priced their stagnating wages, and had inflated beyond the means of their hard earned savings. What had begun as a program to promote increased lending to high risk mortgagees became the only game in town with home prices soaring to astronomical levels.

To put it another way, bad mortgages and bad mortgagees are and have been preventing responsible savers and wage earners from paying the right price for a home. When too many people move into a market with money no one should have lent them, and when at the urging of the government they overextend their reach, they compete with people who live responsibly and who do not overextend their reach. Hard working middle class Americans have been bamboozled by the entire length of this process, not just this end of it. And when we use tax dollars that come from the middle (and yes the wealthy) classes to 'bail out' these institutions, we are in actuality punishing the same people who are already being punished by higher home prices. Whats more the punishment comes in the interest of saving a system that will continue to lend irresponsibly to the segment of the population who, for better or worse, doesn't pay much if any income taxes and who will continue to buy beyond their means.

It's time for the banking industry to take it's own knocks, to tighten it's own policy, and to make the kind of guarantees that investors need to put actual capital into shoring up these ugly debts. Loans from the government can only serve to increase liquidity in these organizations which will only allow them the time they need to sell off what good assets they have left at more appropriate prices. These loans will not make good debt out of bad, and they will not save dying institutions. Every investor knows that you don't make money buying bad debt, but you do make money buying stock in a good company in times of misfortune. Private investment and sensible lending policy is the only recipe' for success in a situation like this.

A better use of the Federal Government's time and money would be to address why we are a country that isn't friendly to the businesses that would hire the poor and less fortunate. To the market, people are not races they are resources. If we foster private business in this nation, we will encourage businesses to take advantage of every available resource. A person with a good job, in a strong community is a responsible lending choice. There is no way to turn an irresponsible lending choice into a responsible lending choice simply by making them a loan recipient. And there is no way to turn a bad lending choice into a good lending choice by shifting the cost of those choices onto the middle class which is already stretched by unrealistically high home prices. This is a time not to look to the government, or the giant government protected corporations. This is a time to look at private business, and encourage it's growth and prosperity, because in that prosperity lies the answers to our 'credit crisis'. The answer isn't more fake money from Washington, and more loose lending on 'main street'. The answer isn't more taxation on the working people of this nation. The answer isn't simply $700b in 'liquidity'. The answer is capital, and that only comes from work. Work comes from jobs, and jobs don't come from Uncle Sam.


Mike said...

Nice. You should send it to your former boss.

Mike said...

I've come to a couple of conclusions: 1. nobody reads your blog, which is a mistake. 2. Those who do don't understand it.

Ombibulous said...

Well very few people read it and maybe this morning's congressional vote is hope at least that some people would understand it. I'm not holding my breath. Also I don't think it's that cryptic. I do think that blogger is probably the wrong avenue to get a widely read blog. Keep you eyes peeled in the next few months for a better effort in a better format.