If legislators would think about our country’s problems in terms of their own family’s we’d be more likely to get better solutions and results.
The National Debt: Over $13 trillion and growing fast.
If your own family was buried deeply in credit card debt what would your options be?
· First and foremost you would cut spending to the bone. Eliminating all discretionary items from your budget. Next you might hold a ‘yard sale’ to sell any valuable assets you held that could be liquidated to pay down your debt. You might also take a second part-time job to create more revenue.
What have our politicians actually done? They have ratcheted up spending. They have bought up ‘toxic assets’ from others. They have created more new entitlements (COBRA subsidies, new home buyers’ credits etc) than they’ve increased revenues.
They are doing the exact opposite of what any rational family would do in the same circumstances.
· If the debt was so large that there was no chance to ever pay it down you would consider personal bankruptcy.
This is not taking the high moral ground or the first choice. However, if it’s the only way to survive you might do this. General Motors and Chrysler were forced to go this route and they both continue to operate today even though many of their creditors didn’t fare too well in their reorganizations.
If the PIIGS [Portugal, Ireland, Italy, Greece and Spain] were smart they would have gone this route. Default on their national debt and start over as GM and Chrysler did. Many states in America are teetering on the verge of bankruptcy due to outrageous pension promises for civil servants [think California, NJ, PA] but instead of taking the necessary steps to fix things they are delaying action because of Stimulus money from the Federal government that allowed them to keep up their old destructive spending habits. This allowed them to fall deeper into debt while avoiding the hard decisions that were needed but politically unpopular.
Temporary stimulus funds are akin to financial heroin- a great short-term high that causes addiction and ruins lives.
The Solution: America should cut spending, sell off assets and pay down debt before it becomes impossible to accomplish without default. Our leaders need to defuse the pension crisis by refusing to hire even one more new worker with a defined benefit pension plan. Make civil servants function like all the rest of society instead of treating government workers as the ‘Golden Children’ to be subsidized by all non-government workers.
Closing virtually all foreign military bases and pulling out of the Middle East wars would make a huge difference in our spending needs. We’re not accomplishing our goals overseas and we can no longer afford to be the policemen of the world.
The Housing Crisis:
The ‘Ownership Society’ and the Community Reinvestment Act pushed banks and mortgage companies to make bad loans to poor credit risks or face extinction. Fannie Mae and Freddie Mac were told to make no money down loans to people who could not afford to pay them. Banks made huge origination fees and immediately securitized and sold off their bad paper to FNM and FRE.
The entire concept of 30-year fixed mortgages is flawed. Borrowers can refinance if rates go down and hold on to favorable terms if interest rates rise. This leaves mortgage lenders with a heads they lose, tails borrowers win situation. Lenders must fund potential long-term loans with short-term deposits while taking on all the risk. It’s no wonder they couldn’t bundle up and sell their mortgages as quickly as possible. That left taxpayers (in the name of FNM and FRE) exposed to trillions of risk with no offsetting profit possibilities.
It was short-term borrowing against long-term lending that caused the S&L crisis of the early 1980s when interest rates rose dramatically. Lenders had to honor the old fixed rate mortgages while having to pay double and triple those rates to secure deposits.
Non-recourse clauses in America’s mortgages also need to be eliminated. Currently anyone with an underwater home value can simply mail in the keys and walk away [often after failing to pay the mortgage for months or years before foreclosure occurs]. Lenders cannot sue to recover losses even if the borrowers are financially able to pay. This must be changed.
President Obama, Chris Dodd and Barney Frank still think we need FNM and FRE to make no money down loans or else the housing market would fall further. It was these 0% - 5% down purchases that have the highest default rates now. Home owners without equity stakes have no reason to stay when prices are below mortgage balances. Higher, not lower, down payments must be required.
Most importantly- securitization of mortgages should be eliminated. If the originating lender had to keep the loan on their own books they would only want to write loans for those who had the income and down payments necessary to be good risks.
Would housing prices fall if these ideas were implemented? Probably yes in the short run. However, once properties reached their clearing prices things would bottom and start picking up again in earnest. Nobody speaks about the benefit that lower prices would provide to those who are looking to get into the homes for the first time. A $10M - $20M lower price would be better for them than any $6M - $8M tax credit and it would not force other taxpayers to subsidize their purchases.
Lower housing prices would also allow investors to buy properties as rentals. At the right price almost any rental can have a positive carry. If prices are artificially high it keeps investors from buying.
The government policies regarding housing are almost 100% counter-productive. They have delayed the process of bottoming and recovery while continuing to promote all the things that caused the original problems.
Solutions: Terminate FNM and FRE by putting them into runoff and prohibiting them from making or buying any new loans. Let the private sector make good loans only on terms that actually make sense.
Stop all mortgage securitizations.
Halt all mortgage cram-downs. Trampling over contract law hurts all future buyers while damaging the lenders and rewarding dead-beats. Allow lenders to foreclose or rework mortgage only at their own discretion.
Make all mortgage loans recourse to the full assets of the buyers. This would stop a lot of the abuse and keep rates lower than they would be otherwise.
End all home buying incentives permanently.
Dr. Paul Price
www.BeatingBuffett.com
June 30, 2010
