Friday, February 22, 2008

Naked Capitalisn on Housing Bailout Plans (Part 2)

(Naked Capitalism) Man, not only does the Administration tell whoppers, but it is completely shameless about them. The latest sighting comes from Reuters:
Treasury Undersecretary Robert Steel told the Reuters Housing Summit it is proper for homeownership to hold a special status....

"If I default on my credit card debt, no one here knows and it has no affect on your credit card debt. If I am your next-door neighbor and I get foreclosed and thrown out, and the grass goes to heck and the home is boarded up ... that affects you," he said at the Reuters Summit in New York and Washington.

With that in mind, Steel said, the Treasury Department is working to develop programs that aid borrowers who are facing foreclosure, but a government bailout of the housing sector is not now needed.

Let's deal with the minor misrepresentation before dealing with the larger one. Do the people in the Treasury live in the real world? Rising defaults on credit cards ARE affecting other credit card borrowers. The issuers are cutting back on credit lines and raising their interest charges and fees even higher. The effect of abandoned houses on a neighborhood is obvious, but Steel is disingenuous to pretend that rising credit card defaults don't impose costs on other borrowers. The industry is pulling out all stops to both contain risks and increase revenues.

And while losing your access to credit cards isn't as awful or visible as losing your home, it isn't as invisible as Steel suggests. I certainly notice when people pay only in cash. I figure they either have credit issues or are trying not to leave a paper trail (in New York, one reason might be that they are claiming residence in a lower-tax state).

Now to the bigger issue. A Treasury representative has the gall to get up and say the Treasury doesn't do bailouts when the idea floated by the Office of Thrift Supervision has all the earmarks of being one. As reported in the New York Times (which repeated the canard that the Administration "oppose[s] any taxpayer bailout"):
A more modest plan is being developed by John M. Reich, director of the Office of Thrift Supervision, the agency that regulates savings and loan companies. His plan, still in rough form, would create a voluntary system under which mortgage lenders would reduce debt and monthly payments to reflect the diminished sales value of a home.

It would take the remainder of the mortgage as a “negative amortization certificate,” a lien that the investor could recoup if the house were later sold for its original mortgage value or higher.

In an interview, Mr. Reich said he hoped that most of the old mortgages would be replaced by cheaper mortgages insured through the F.H.A.

Let's parse this. The plan is to take mortgages now in the hands of private investors (remember a lot of this paper is in securitized vehicles; there will need to be a substitution of assets; that alone is problematic, but let's assume the Fed will sprinkle fairy dust so this can happen) and substitute is with a new fixed rate mortgage probably from the FHA plus a "negative amortization certificate". (Note that the Washington Post story on this plan was more definitive, that the FHA would provide the mortgage).

Intuitively, I don't see how this will fly if the FHA doesn't also guarantee the certificate too, and that was Tanta's first reaction (I'm sure well see her usual robust analysis soon enough):
Apparently, only the FHA mortgage would be a lien against the property, with the certificate being an obligation of FHA? It certainly surprises me that the OTS feels confident it can work out the legal kinks with that quickly enough to make a difference.

Now I may be making the mistake of assuming this plan is earnest. It may be a deeply cynical effort to muddy the waters, with the real intent of simply stymieing the proposal to allow judges to modify mortgages in bankruptcy (as we discussed in an earlier post, the idea isn't as heinous as its critics make it sound). Given the difficulties with asset substitution in securitized deals, this could take a long time to see the light of day (if ever), which may be the whole point.

But if the powers that be seriously intend to move ahead with it, the presentation treats the public as too dumb to understand that the government is indeed stepping in and assuming considerable financial risk, which will lead to hard costs. The "this is not a bailout" really means "we don't don't have to ask Congress to authorize a disbursement." The idea that increasing FHA mortgages to weak borrowers isn't a liability that will result in losses down the road is absurd. The FHA didn't qualify these borrowers initially (remember, the reason the FHA lost share to subprime is that they have good procedures as far as borrower screening is concerned). For this program to have any impact, the FHA almost certainly will have to relax its lending criteria considerably. And even if a fixed rate obligation reduces the homeowner's payment stress, the presence of the negative equity certificate will lower his incentive to keep the home. The market will have to appreciate considerably for him to show any gain.

There are good odds that homeowners may go through the hassle of getting the new financing and conclude in a year or two if their housing market doesn't improve, that they are better off giving up on the house (remember, research is now concluding that falling housing prices play a far bigger role in defaults than previously recognized).

So we'll see a transfer of losses. Instead of investors taking foreclosure-related losses now, we'll see the FHA taking foreclosure-related losses later. But that isn't a bailout because the Bush Administration is sticking its successors with it.

As Joseph Goebbels said,
The most brilliant propagandist technique will yield no success unless one fundamental principle is borne in mind constantly - it must confine itself to a few points and repeat them over and over.

So expect to see every homeowner rescue program assigned the preferred tag line "private sector solution" no matter how much in the end winds up coming from the public purse.

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