Niall Ferguson Dismisses Moral Hazard of Fixing Housing Mess

In what is otherwise a very nicely done piece by historian Niall Ferguson, whose PBS documentary "The Ascent of Money" should be considered required viewing for every individual on the planet (particularly economists and bankers), comes this rather stunning view of moral hazard as it relates to fixing the housing mess.

The second step we need to take is a generalised conversion of American mortgages to lower interest rates and longer maturities. About 2.3 million US households face foreclosure and that number is certain to rise. For example, $US97 billion of $US200 billion of option adjustable-rate mortgages will reset in the next two years. The average monthly payment will increase by more than 60 per cent. As a result, up to eight million households could be driven into foreclosure, driving down home prices even further. Few of those affected have any realistic prospect of refinancing at more affordable rates. So, once again, what is needed is state intervention.

The idea of modifying mortgages appalls legal purists as a violation of the sanctity of contract. But, as with the principle of eminent domain, there are times when the public interest requires us to honour the rule of law in the breach.
...
Another objection to such a procedure is that it would reward the imprudent. But moral hazard only really matters if bad behaviour is likely to be repeated. I do not foresee anyone asking for, or being given, an option adjustable-rate mortgage for many, many years. The issue, then, is simply one of fairness.

Paraphrasing Mark Twain, the housing bubble kind of rhymed with the stock bubble...

My take on things over the last ten years is that the housing bubble was made much worse than it otherwise might have been as a result of the millions of individuals who just sat by and watched equity markets rise, then fall, then get rescued by one percent interest rates.

I can't remember how many wild-eyed individuals I talked to who didn't know a thing about ETRADE or Ameritrade back in 2002 or 2003, but who "understood" the real estate market.

Comments

[Trane250:]

The "pic-a-pay" (a/k/a option ARM) mortgage destroyed Washington Mutual and Wachovia (through Golden West). This gimmick allowed people who otherwise couldn't afford to buy an overpriced west coast home to get in on the great California real estate game. The US taxpayer has already paid out tens of billions in consequence of the failure of those two delinquent banks. Modifying the mortgages of folks who hadn't really paid too much on their monthly payment would reward speculation and sends the wrong signal.

Mar 04 09:09 AM

[Buckoux:]

The Federal Reserve's constant lowering of the interest rate in order to maintain the "cheap money" needed to support worthless real estate loans is one of the main culprits in this tragedy. Had the Fed held its overnight rate at the 2003 level - even under pressures from markets to lower it - the housing bubble would have only been a burp. Greenspan and Cox need to be exiled to Gitmo.

Mar 04 09:54 AM

[gotnochips:]

Washington, DC (AP)
President Barack Obama and the democrat controlled Congress are considering sweeping legislation that will provide new benefits for many Americans: The Americans With No Abilities Act. AWNAA is being hailed as a major legislative goal by advocates of the millions of Americans who lack any real skills or ambition.

"Roughly 50 percent of Americans do not possess the competence and drive necessary to carve out a meaningful role for themselves in society," said California Senator Barbara Boxer. "We can no longer stand by and allow People of Inability to be ridiculed and passed over. With this legislation, employers will no longer be able to grant special favors to a small group of workers, simply because they have some idea of what they are doing."

In a Capitol Hill press conference, House Majority Leader Nancy Pelosi and Senate Majority Leader Harry Reid pointed to the success of the U.S. Postal Service, which has a long-standing policy of providing opportunity without regard to performance. Approximately 74 percent of postal employees lack any job skills, making this agency the single largest U.S. employer of Persons of Inability.

Private-sector industries with good records of non-discrimination against the Inept include retail sales (72%), the airline industry (68%), and home improvement 'warehouse' stores (65%). At the state government level, the Department of Motor Vehicles also has an excellent record of hiring Persons of Inability (63%).

Under The Americans With No Abilities Act, more than 25 million "middleman" positions will be created, with important-sounding titles but little real responsibility, thus providing an illusory sense of purpose and performance.

Mandatory non-performance-based raises and promotions will be given so as to guarantee upward mobility for even the most unremarkable employees.

The legislation provides substantial tax breaks to corporations that promote a significant number of Persons of Inability into middle-management positions, and gives a tax credit to small and medium-sized businesses that agree to hire one clueless worker for every two talented hires.

Finally, the AWNAA contains tough new measures to make it more difficult to discriminate against the non-abled, banning, for example, discriminatory interview questions such as, 'Do you have any skills or experience that relate to this job?'

"As a Non-abled person, I can't be expected to keep up with people who have something going for them," said Mary Lou Gertz, who lost her position as a lug-nut twister at the GM plant in Flint, Michigan, due to her inability to remember "rightey tightey ,lefty loosey".

"This new law should be real good for people like me," Gertz added. With the passage of this bill, Gertz and millions of other untalented citizens will finally see a light at the end of the tunnel.

Said Senator Dick Durbin (D-IL): "As a Senator with no abilities, I believe the same privileges that elected officials enjoy ought to be extended to every American with no abilities. It is our duty as lawmakers to provide each and every American citizen, regardless of his or her inadequacy, with some sort of space to take up in this great nation and a good salary for doing so."

Mar 04 10:17 AM

[Fred W:]

U.S. home prices must be allowed to fall and fall rapidly--all of the "real estate investors" of 2000-2008 lived the high life off the equity created in their properties...now they want the rest of us to pick up the tab.
Frankly, if this housing bailout continues as laid out, I will simply pay big $ to people to provide me "tax avoidance". This plan throws fairness out the window, and with that goe my feelings of obligation to support our government.

Mar 04 10:24 AM

[BlueFire:]

The so called regulators walked away from their responsibilities because they were afraid to speak the truth. They did not "put their faith in market forces" so much as fear having to be the voice of reason. Greenspan basically said that he did not bother trying to confront congress about the housing bubble because he assumed that no on would want to take on the responsibility for intentionally bursting the bubble and then be responsible for higher unemployment and higher interest rates. Well, nice job shirking your responsibility and allowing the insanity to grow to cancerous proportions.

If regulation and monitoring is put back into play, then Ferguson is right that this current version of moral hazard cannot repeat itself. If an institution has to hold the paper that it issues, you can be pretty certain that they would have no interest in no-doc trick interest payment loans. They have to make money off the paper instead of the sale of the paper to the next level up in a sick chain.

This crisis was caused by the flood of global capital that was seeking a good investment. The lack of oversight opened the flood gates to "creative" Wall Street types placing downward pressure on the front line mortgage origination industry to churn out as much crap as fast as possible. And no one cared because at each link of the chain, the crap had been pre-sold. Fiscal hot potato with everyone making sure that they would not be the last one holding the junk. And at each level a new layer of obfuscation and deception was added - so the end buyer of the CDO was left feeling that something too complicated to understand being sold by such a nice well dressed man from Wall Street who surely understands what he is doing must be a good investment. After all it says it is AAA rated and that it is a "structured security." Such nice words. That sounds pretty safe. Let me bet my entire nation's well being on it because it sure sounds like a good deal. Please, Sir, may I have another?

Thanks SEC. Thanks FTC. Thanks Greenspan. Who could hold you accountable for not wanting to speak truth to power? We don't need a police force because surely the citizenry will act in their own mutual best interests. What planet are you guys from?

Mar 04 10:26 AM

[robert.b.fe...:]

Securitizing bad debt and selling it what a concept. Who would have thought that Frank Raines and mozillo the magician would have turned risk middigation into an entiere new industry at every one elses expense. Aided and abetted by thier pet politicians and now being turbo charged for even more leveraging by team Obama what a great idea! Lets borow our way out of bankruptcy.

Mar 04 11:30 AM

[henarl:]

The sad fact is that moral hazard loses priority when you're going broke.

Mar 04 11:43 AM

[ArnoldCountry:]

Tim's article is on the money... no matter how you feel about blame... put is aside. Every time you have a foreclosure, you increase the inventory by one and reduce the inventory of consumers who can buy a home by one. Normally, this is not a big deal. However, we have two supply sides to deal with... one the supply of housing is huge but the supply of buyers is getting smaller.

The greater good of society is to put blame aside and focus on the problem. As much as everyone wants to focus on blame... just remember, your home values continue to plummet because the inventory is getting bigger and fewer buyers. Keep your eye on the problem.

Mar 04 01:30 PM

[Fabien Hug:]

The problem is too many houses and not enough people able to afford them. Everybody knows that. The solution, it depends on where you stand on the political scale. Just remember, we can always recycle.


On Mar 04 01:30 PM ArnoldCountry wrote:

> Tim's article is on the money... no matter how you feel about blame...
> put is aside. Every time you have a foreclosure, you increase the
> inventory by one and reduce the inventory of consumers who can buy
> a home by one. Normally, this is not a big deal. However, we have
> two supply sides to deal with... one the supply of housing is huge
> but the supply of buyers is getting smaller.
>
> The greater good of society is to put blame aside and focus on the
> problem. As much as everyone wants to focus on blame... just remember,
> your home values continue to plummet because the inventory is getting
> bigger and fewer buyers. Keep your eye on the problem.

Mar 04 06:37 PM

[Fabien Hug:]

That Fergusson is completely out of it with his "moral hazard". Of course, nobody will lend to subprime, prime and glorious people anymore but something else will pop up (maybe, at least, legalization of magic mushrooms).
Moral hazard started with the bailout of LTCM and look where we are now.
If such ideas really become mainstream, we are headed to a lot of troubles.

Mar 04 06:44 PM