Thursday, July 10, 2008

Moralizing at Treasury


On July 8 Treasury Secretary Henry M. Paulson addressed the Federal Deposit Insurance Corporation’s Forum on Mortgage Lending to Low and Moderate Income Households. Excerpts from, and comments about, his remarks follow (

“Many of today's unusually high number of foreclosures are not preventable. Due to the lax credit and underwriting standards of the past years, some people took out mortgages they can't possibly afford and they will lose their homes. There is little public policymakers can, or should, do to compensate for untenable financial decisions. And in the midst of rapid price appreciation, some people bought homes anticipating an immediate profit. Now that their investments have not turned out as they had hoped, these people may walk away, even though they can afford their mortgage payment. These borrowers can and should be living up to their mortgage commitment - government intervention here would be inappropriate……….”

Comment: Some home-buyers borrowed unwisely, and they will lose their homes to foreclosure.

“Since last summer, we have been intently focused on avoiding preventable foreclosures: where homeowners, one, want to keep their homes and two, have the financial wherewithal to do so. Here, the challenge we encountered – and it was a big one - was the impending threat of a market failure arising from the complexities and difficulties of a mortgage market that had been transformed by the wide-scale securitization of mortgage financing……. “

Comment: The Treasury Department has worked with the mortgage-lending industry to avoid preventable foreclosures.

“We sought to address this potential market failure, by working with the industry to facilitate a process that approximates what would be normal behavior between a bank and a struggling borrower if the borrower were dealing with a bank that had originated and held the mortgage. And so last summer, we encouraged the creation of the HOPE NOW Alliance of mortgage lenders, servicers and counselors with the urgent mission of untying the Gordian knot of complexities surrounding the mortgage workout process………. “

Comment: Treasury assisted the workout of securitized mortgages made to borrowers who could pay their debts.

“From the outset of the HOPE NOW process, I have measured success by whether a borrower who has made all the payments at the initial rate, but couldn't afford the reset and reached out for help avoids going into foreclosure. And so far, the data on this question show an unqualified success………”

“Of course, lower interest rates have significantly reduced the reset problem. Still, there is no question that because industry has acted to fast-track eligible borrowers, we are achieving our objective. Of the more than 700,000 subprime mortgage resets originally scheduled through May of 2008, only 1800 loans that were current at reset have entered foreclosure. We will continue tracking that number closely to monitor progress. Entire industries do not adjust easily or quickly, even when markets are calm. The HOPE NOW Alliance is demonstrating that an industry can, through coordination, make a difference and do so without forcing American taxpayers to pay the bill…………..”

Comment: Treasury avoided helping those who would default and go into foreclosure in order to avoid a federal subsidy of these borrowers.

“Homeowners have responsibility as well. We can't help those who aren't willing to help themselves, and we must continue to urge struggling borrowers that if they haven't already, they need to reach out for help……….”

Comment: We will help those who help themselves.

“That said, working through this correction is made more challenging by the virtual disappearance of the subprime lending market. In response to excesses, that market has probably changed unalterably – as it must. Clearly, some who took out subprime mortgages never should have been approved for a mortgage in the first place. Practices, such as low or no doc loans, minimal or no down payments and other lax credit practices, are likely, as they should be, a thing of the past. At the same time, we cannot lose sight of the fact that subprime lending gave millions of responsible Americans a chance to borrow, despite a less-than-perfect credit history. We must not lose the benefits of the subprime market as we eliminate its flaws………………….”

Comment: Subprime lenders provided funds to borrowers who would probably default, but subprime lenders did expand homeownership.

“We are also strengthening efforts to improve financial literacy, so that borrowers better understand sophisticated lending products and the obligations they carry. Through the President's Advisory Council on Financial Literacy, Treasury is identifying approaches to financial education that will help potential borrowers evaluate mortgage options and avoid commitments they cannot meet.

Comment: Some home-buyers didn’t know what they were doing when they borrowed beyond their means.

Grand conclusion: The U.S. Treasury has helped those who did not borrow unwisely, and refused to help those who borrowed unwisely in order to avoid federal subsidy.

Isn’t that a little like the fire department saying it reduced the burden on taxpayers by refusing to put out fires at those homes where residents played with matches or smoked in bed? But doesn’t that fail to recognize the consequent problem of increased burden on taxpayers because those homes left to burn started other fires that consumed entire neighborhoods?

And, returning to the housing debacle, maybe it would have been better to provide taxpayer-funded assistance to all mortgage borrowers in the hope of preventing as many foreclosures as possible and thereby preserving home values and avoiding a housing debacle.

© 2008 Michael B. Lehmann


homebuyers121 said...

The rise in interest rates would seriously affect home-buyers when the rate goes up to 10 or 12 per cent. It projects the inflation rate this year will be about 8 per cent. He predicts a middle-way increase in the policy rate. You can get more information about home buyers which I browsed on internet can fetch you help.

dblwyo said...

Mike the other quibble I have with this is the notion of protecting home values. Given a once in multiple generation inflation in asset values (houses), however it was brought about, we either take down those values now...or live with a non-clearing market for a much more extended period...and take them down later. In this process both lenders and borrowers are going to get they should be. What we want as a matter of policy is to make this an orderly process with minimal disruptions to the larger economy. But pay me now or pay me can't save these houses at these prices. I believe in standard micro-theory that's known as when S >> D ? :)