Wednesday, February 18, 2009
Several months ago I said it would probably take four times before the government actually came out with a program that would help mitigate the current foreclosure and credit crisis. Today marked the third attempt and it will fail. Ordinarily this would be Strike Three and you're out, however since Obama just became President we'll give him another shot at hitting a home run.
The plan announced today is based on a fairy tale - the same fairy tale that the Bush administration and congress hoped would have a "happily ever after" ending. That ending would be a world where foreclosures stop and home prices climb back up allowing the banks not to have to write down trillions in bad mortgage loans. This is what everybody in Washington is hoping for, but it just won't happen - it isn't possible.
This latest plan fails on five fronts:
1. It aims to help those who can least afford to stay in the home
2. It helps people who have reasonable interest rates already and have only lost a little on their home
3. It doesn't help out anyone for whom helping would make financial sense
4. There is not enough money being used
5. There is no provision for real write down of principal
This plan aims to keep people in their homes who simply can't afford to keep such an expensive loan. It does this by subsidizing interest rates, not by principal reductions. This distorts the marketplace and will eventually lead to a prolonging of the crisis and perhaps even more foreclosures.
I presented a framework for a mortgage plan in a previous post. A simple test could be designed to see if the homeowner could afford the house if the principal was reduced to about 120% of the current value (this is for hard hit regions) for example, if not the home could be rented to the homeowner and eventually sold or the the foreclosure process would start. As hard and as bad as it might sound we need to purge the market of those who will never be able to afford the house they are currently living in - subsidizing them doesn't help anyone and only prolongs the inevitable.
The second part of the plan is really the weirdest provision, it's going to be cool for those people who have an LTV higher than 70% as they'll be able to refinance and lower their rate, but these aren't the people in trouble of foreclosure, so it doesn't actually save anybody from going into foreclosure, it simply makes money for a mortgage broker (hey, they gotta eat too) and gives the owner some more dough in their pocket......kind of like a tax cut - but at other taxpayers expense.
This plan will basically bypass most of California, Arizona, Nevada and Florida......where the problem is. It doesn't help, if someone can demonstrate how it will, I'm all ears. Those who are most likely to foreclose and leave the banks with billions and trillions in losses aren't addressed at all.
The actual cost of a real mortgage plan is not $275 billion. This plan is similar to Bush's Hope For Homeowners program which helped only 25 people when it was supposed to help 400,000. The real goal with that plan was to provide bailout money to Fannie and Freddie - we could dub this Hope For Homeowners II - it does more to help Fannie and Freddie than anyone else. Two mortgage plans have been proposed - $75 billion will be spent in some manner (this isn't actually clear to me) on helping homeowners - $400 billion for Fannie and Freddie.....see where I'm going with this. Both plans are, were and will be smokescreens for getting money into these two failed entities.
Without a plan that focuses on principal reductions and lower interest rates, along with the sharing of equity and actually foreclosing on those who should be foreclosed on......there will be no recovery. This plan doesn't focus on principal reductions and will thus fail, potentially costing the taxpayers another $500 million as the housing market continues to crumble.
Wall Street obviously wasn't impressed with the plan, there was no rally.
Here is the problem - this housing crisis will cost possibly $2 Trillion or more to fix. The "T" word is scaring the heck out of the politicians and so they are putting their finger in the dike, the problem is that there are holes everywhere and not nearly enough fingers. The longer we wait the higher the price tag.
I've said it will take four stabs to get it right, the good news is that this it the third one.....perhaps we are closer to the point where the politicians finally capitulate and do what is actually needed.
Until then, no recovery. You'll know that they got it right when they announce a plan and the market jumps a thousand points. The bad news is that the only way to pay for the cost of this fix is to print money, leading potentially to higher commodity prices, inflation and the devaluation of the dollar.
The funny thing is that the housing crisis isn't our real problem (though it is huge and needs to be fixed), we could fix it for a mere couple trillion dollars (I'm not saying that with a straight face). Social Security, Medicare and Medicaid on the other hand..........that is about $65 Trillion and that is the real crisis that everyone is ignoring.
Scott Dauenhauer CFP, MSFP, AIF