If there is any game that investment enthusiasts had to love when they were kids it must have been Monopoly. Although not as complex as the real world of business, the game did teach two basic concepts; one, ownership of assets is generally a positive thing, and two, it’s always wise to have some extra cash around for those times when you land on the Boardwalk Square and have to pay the obnoxious hotel fees. Oh yeah, the game did have one other important feature, rules.
Now let us imagine for a second an additional feature to the classical game, a coin flip. Every five minutes a coin is flipped. If it lands heads the rules of the game remain the same, but if lands tails the rules of the game reverse. When the rules are reverse, instead of paying someone when you land on their property they have to pay you, and when you run out of cash, instead of being forced to sell off your assets or borrow from the treasury at a high rate the rest of the players have to give you money interest free. One could quickly see that an existence of such a rule would make the game almost unplayable and the randomness of the coin flip would negate any reasonable strategy for the game.
Well, it turns out that in our economy there is an entity analogous to the proverbial coin flip and it’s the federal government. Now, I am not implying that our government should not change laws, or create new once, certainly we are not living in a vacuum of a board game, but one would expect certain basic principles of the economy to remain in place if only for the purpose of illustrating commitment to the people who follow them, which I still suspect is most of us.
For example one might question the reason for having a federal debt limit if the limit can simply be increased by the very people who want to borrow more money. It should then come as no surprise that a senior Treasury official recently told a national news outlet that the department has some "extraordinary accounting tools" it can use to give the government breathing room in the range of $150-billion when the Debt exceeds the Debt Ceiling. Wouldn’t it be nice if you were able to call your credit card company and tell them you just increased your credit limit with them, and they can’t do anything about it?
Then there are the government mandated mortgage modification and principle forgiveness programs, which basically work as follows: someone takes out a mortgage for $400,000 but soon realizes that they can’t pay it, so the bank, with a big thumbs up from the government, decreases the principle of the mortgage to something like $300,000 in order make the monthly payments more affordable. Sounds great in principle, but there are several problems. First, someone lost out on the $100,000.
At initial glance it looks like the banks might take the hit, and although we’ve been conditioned to think of banks as greedy, soulless entities, the banks do have investors and employees, and If their business gets in the habit of losing 100K on each deal, one can quickly see that the investors will be left penniless and the employees, well, unemployed.
But this isn’t actually how it works. To keep the banks happy and flush with available funds, the federal government loans out our money, yes let us not forget that it’s the people’s money, to the banks at ridiculously low rates. So when the bank then loans this money to its costumer at a much higher rate it makes a very nice profit. In essence the bank is letting you have your money while charging you an interest.
Pretty neat huh? The second problem is that people who have been waiting for house prices to fall in order to buy at more affordable levels are unable to do so. Before we think of these potential buyers as vultures praying on other people’s misery let’s remember that most people who want to buy a house but didn’t, actually played by the rules. They saw that real estate prices were overvalued, and if we took away government intervention they would still be considered so.
So what has the government’s flip flopping accomplished? Fannie Mae (FNM) and Freddy Mac (FRE) have cost tax payers around 400 billion dollars in lost TARP money. Responsible people who want to buy houses at reasonable prices can’t do so because the government is artificially trying to keep real estate prices high, something we will all be paying for in the future (think inflation).
And finally, and perhaps most importantly, people and especially the younger generation are learning that following the rules and spending responsibly will not necessary be rewarded , so buy now, max our your credit limit, and get that big house, because the government will change the rules so often that following them will make a sucker out of anyone who does.
Disclosure: No positions