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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Im still scratching my head over this item I found a few weeks ago, how the budget was balanced; wish I had more history on this (from Wik):
n 1968, to help balance the federal budget, Fannie Mae was converted into a private corporation. Fannie Mae ceased to be the guarantor of government-issued mortgages, and that responsibility was transferred to the new Government National Mortgage Association (Ginnie Mae).
Yves, relax. It seems to me that Steel’s comparison of default on credit card debt vs. mortages was about externalities. I’m guessing his point is that there is an externality in the second case, but not in the first.
I’m sure even a Bushite wouldn’t be stupid enough to claim that defaulting on credit card debt has no effect on the defaulter.
Anon of 3:55 AM,
Whoops, I see your point. Have tweaked the post.
Robert Steel is, as far as I can tell, Goldman Sachs point man at Treasury on the continuing saga of how to bail out the banks. He wrote a letter to the SEC on SFAS 140 accounting, he pushed MLEC, etc. Nothing he says should be taken at face value.
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.
Now wait a minute! If I refinance a $500K loan with a $350K loan plus a lien, are they really saying I can sell the house for $510K and keep the $250K difference as profit? That the original lender will only be able to claim the $10K difference between the $500K and the selling price?
That’s truly nuts from the original lender’s POV. Why would a lender even think a certificate like that is worth $2 on $100?
I gathered from reading the other relevant post “Desperate Measures: Treasury…” and the links embedded there that the answer to ljr’s question is: The original lender gets to claim anything over the $350k up to the original $500k. It is less clear to me whether the original lender would/should/could claim some portion of the next $10k in the scenario presented – because as I study what finance capitalists do, I try to think like them, and so I can imagine an argument wanting some quid for the quo…
People find different aspects of this plan absurd or offensive or dangerous or immoral. Let me share what jumps out at me: The “negative amortization certificates” (NAM-C’s?)would/could be tradable. So of course, they could be bundled. And so they could themselves become objects for speculation. No doubt, those of you who do this or study this for a living are quizzical why I focus on this, as it should be just obvious or “common sense” this is how finance capital works. But for me, it is confirming evidence of a point I stumbled across, made by Schumpeter, expanding upon Marx’s observations about the diremption between finance and industrial capital. Most succinctly, the temporal parameters become so different that the interests of the various parties less and less coincide. I’ve come to think of it this way: The limit of the time frame for the circulation of finance capital is instantaneous – the moment a paper is transferred, it becomes transferable. So embedded within this plan is the very “logic” which has brought us to here – unless all this is going to be on book, as you all say, and regulated such that all parties know who’s got what for how much (but how does one speculate in THAT kind of environment…?)
What’s the bromide about doing the same thing over and over while expecting a different result…?
Dave Ratheil:
You are absolutely right that what is being created with the negative amortization certificate is a long term call option above the strike price of the reduced first mortgage of $350K. What is truly weird is that the homeowner now has no financial incentive to sell the home for any price above $350K. Only if he can get above the $510K level
does he gain ANYTHING! The NAS is worthless economically to the bank unless it has the right to reject any future sale on the basis of price.
dave raithel: rk:
Good points!
That’s probably what the tortured sentence I quoted above really means. Do they send journalists to grammar class anymore? I think not.
It surely does turn home owners into renters with no incentive to improve the property. Wouldn’t you love living in a tract with such folks?
This whole situation has a “through the looking glass” quality. No one seems able to just suck it in and say, “we’re screwed.” No, no. Instead they are trying to use financial alchemy to turn lead into gold.
It won’t work.
The heart of the problem is that the financial quants have convinced us that “uncertainty” can be modeled like “risk.” They do this by pretending that financial events can be stochastically modelled as stationary processes. The fly in the ointment is that the probabilities are not stationary as they would be for a Bernoulli distribution of molecules. The system is self-aware in an opportunistic way which creates feedback loops that dynamically change the probabilities. The system is intrinsically unstable.
This is what Soros meant by “reflexivity.”
rk:
The NAS is worthless to the bank unless it has the right to reject any sale on the basis of price.
If the original lender has that right then it screws the new lender royally. Would the new lender be able to foreclose and sell if the original lender decides to balk at a sale price that makes its option worthless? That sounds like the old hostage problem all over again. The original lender could hold the second lender hostage to a payoff.
“I’m sure even a Bushite wouldn’t be stupid enough to claim that defaulting on credit card debt has no effect on the defaulter.”
This statement presumes that there is a limit to stupidity.
Einstein didn’t agree with that. Me think the great physicist was onto something. ;-)
If the mortgage was sold by the originator and bundled into a CDO, what entity would get the NAS-C?
Just look at the legal problems that exist today in foreclosing:
“Banks Lose to Deadbeat Homeowners as Loans Sold in Bonds Vanish” – http://www.bloomberg.com/apps/news?pid=20601087&sid=aejJZdqodTCM&refer=home
Would the FHA even want to touch this crap?
As a follow up, the ONLY way that the NAC could possibly work would be if it was an option in PERPETUITY on the home until it was finally exercised.
But now consider what happens when the home is resold. The new buyer has a limit on any future appreciation equal to the NAC, and he cannot take out any secondary financing because that would have to be SENIOR to the NAC, which would never be allowed by the bank that held the “certificate”, or by any subsequent holder. So the question is,
“Who will buy a home with such restrictions”?
The answer is simple: NOBODY. And if that is true,
the original homeowner will remain locked in place
for a very long time.
rk:
The new owner would only realize a profit AFTER the NAC was retired at face value. It’s interesting that interest does not accrue on the NAC. Inflation would reduce its value over time.
If I buy a NAC encumbered house for the newly financed amount and accept the NAC as part of the sale then I’m in the same position as the previous owner with respect to profiting from improving the property.
I can see this resulting in a house being passed from owner to owner with no improvements or upgrades until it’s finally so run down that the last owner takes out the copper pipes and leaves.
And what about this? Can there be more than one NAC on a property? Suppose the market craters after the first NAC and the owner applies for another reduction resulting in another NAC. I assume the second NAC would be subordinate to the first. Furthermore, FHA would be on the line for the second NAC since they provided the second loan that is being lowered yet again.
The original owner will actually not be locked in place. He can walk away and leave the first and second lenders to duke it out in foreclosure proceedings. His liability is only for the second loan. He can’t sell the place at par because it is encumbered with the NAC.
This is the worst combination of renting and owning I could imagine. The bank is essentially an absentee landlord with no authority to even enter the property or inspection.
Obviously no one has thought this out in the slightest detail. It’s a non-starter. I think it is just something being run up the flagpole to forestall legislation allowing cramdowns.
Another question is whether the reduced loan is recourse or non-recourse. My head hurts.
As I said the previous day, “Where is Lewis Carroll when we need him”?
One issue I haven’t read about is exactly HOW will the owners of the NACs treat them? As an asset at face value? If so this whole thing could be a scam to let the banks pretend – a la Japan – they have assets that don’t really exist.
This idea is far too stupid to be anything but crooked.
There’s a whole lot here worthy of response, but I’ll try to limit myself and be brief. One of the Anonymous queried: “If the mortgage was sold by the originator and bundled into a CDO, what entity would get the NAS-C?” (I still like NAM-C, but NAS or NAC seems preferred) I believe I read in another post here, perhaps it was Mr. Smith himself, that in the case of the CDOs there would be an enforced resetting of the tranches. I believe I read that if this was uniformly done – but I don’t know enough to know how that could be – then the CDO/CMO holders couldn’t bring suit for breach (getting less interest than promised). I mentioned this to a friend who observed, in the same theme of “reflexivity” mentioned by ljr, that resetting rates somewhere has to affect other entities that trade in rates and papers, and so WHY wouldn’t THEY have grounds for complaint (at least political, or ideological…)worthy of redress?
Most generally (and this is not a proposed solution, simply an observation): I still believe that many people are like my wife and me – we did not buy a “house” and a piece of land for investment, we bought the house and the land to make a home. We are not the class of people highlighted by Nightline a few days (or weeks?) back, living in Claremont, CA., trying to unload $1.5 mill homes to just break even. We bought a home in ’93 with a VA loan and a small downpayment, and when we refinanced, we improved the property and paid off the last of the student loans – we didn’t go party. We have every intention of staying here until, at least, our youngest gets through college. My point is not to assert we are virtuous, but to politely challenge, if you will, a somewhat cavalier attitude I detect about what should happen to people in a degenerating economy. Talking about what “America” needs to endure is a bit too abstract for me, because benefits and burdens are not randomly distributed. It is true that most any “solution” will wind up benefitting both the “worthy” and the “unworthy”; but similarly, economic collapse does harm even to those who have played by the rules. Mr. Smith often observes that in all this, there are no good solutions, only bad ones and worse ones. So we push “moral hazard” up against “saving capitalism”…
So, somebody tell me: Are the people who make a living in finance capital experiencing any change in attitude regarding regulation and the proliferation of investment “vehicles” (and I use that term in the broadest sense). Which arguments are winning the ideological struggle, so to speak, on the street (I can’t see that from flyover country) – Minksy’s and Krugman’s and those more like them, or is it still all for Friedman and Greenspan and …Gecko?
I could go on about how regulations have made a difference in the quality of rental properties inside the City of Columbia and what’s outside the city limits, but if don’t stop now, I might never stop….