Many of the readers here have heard of Robert Shiller, mostly due to the many, many references to the Case-Shiller Home Price Index. In my opinion, the Index is at best a trend indicator, not a measure of absolute accuracy. It is, however, widely referenced.
My point is that, a few years back, in 2004, the same Robert Shiller published a paper entitled “Household Reaction to Changes in Housing Wealth”. In this paper, he reported his conclusions resulting from a multi-national study relating the “wealth effect” on household attitudes and consumption from stock market growth versus housing appreciation.
While the paper contains a great deal of technical references to various economic studies and methodologies, there are some simple facts which stick out: He found that a 10% gain in stock values has no correlation to any increase in consumption in the economy. He also found that a 10% gain in housing values resulted in a measurable increase in consumption of 1% in the general economy. Shiller’s own comment: “We find a statistically significant and rather large effect of housing wealth on household consumption.”
This begs the question: If we know that housing appreciation and the economy are linked, why are we not fixing housing? Another way to ask the question is: What will be the effect on the economy of a 10%, 20% or greater decline in housing values? What will it do to consumption, jobs....etc?
Mr. Shiller finished his paper with:
I conclude that although the “wealth effect” of national home prices on national consumption may be hard to prove, there is a serious risk of the consequences of home price declines at least regionally. The regional housing bubbles that appear to be going on in the United States ought to be concerns of the Federal Reserve Board.
This is not me making stuff up. This is Robert Shiller’s take on the housing problem, and where the economy was heading, four years ago. Aside for other “bubble talk” theories, this is a very compelling argument to resolve the housing issue, not cheer its erosion.
The “wealth effect” is referenced as the measure of changes in home prices (and stock prices) and the impact on consumption and hence on aggregate economic activity. I believe that he was connecting dots: real estate goes up, consumption goes up and the economy grows and jobs are secure; real estate goes down, consumption goes down and the economy suffers and jobs are in peril.
With this as a prelude, let me get into my subject - how to repair housing in America. My personal disclosure: I have spent 30+ years in mortgage lending and real estate. Over this time, I have held a variety of positions, licenses and been granted a variety of authorities in lending and real estate. I speak from my various experiences.
In June of this year I wrote a draft of a proposal entitled “The Plan to Repair Housing in America.” It was forwarded to: Chairman Bernanke; Secretary Paulson; the Wall Street Journal; the New York Times; the Washington Post; approximately 100 Senators and Congressmen, including Representative Frank, Senator Dodd; Senator Clinton; Robert Reich and the Obama campaign; and the McCain campaign. I received ONE actual response - from John McCain’s office. So, my conclusion was that no one really cares about the economy, except for John McCain, mildly.
When the housing rescue bill was passed in July of this year, I wrote a OP/ED piece called “Barney’s Purple Loaf”, and sent it to the Wall Street Journal, the New York Times, and the Washington Post. It was not published.
In the piece, I compared the Housing Rescue Bill to a “purple loaf of nutra-bread," a meal served to prisoners who have broken the rules in jail and are punished with this diet. It takes their scheduled meal, grinds it into a batter, and it is baked and served . That is what the bill represented to me. Real world problems, requiring real solutions, and they gave the American people a tasteless meal.
To understand why we need at this time a comprehensive housing repair plan is simple. Robert Shiller told us why; connect the dots. Housing health and the economy are linked arm-in-arm.
My plan was simple, as was the underlying reasoning. Here is the reasoning:
- At the heart of the problem in housing and mortgage lending are mistakes made at the top of the food chain, beginning with Fannie Mae (FNM) and Freddie Mac (FRE). They set the tone for the expansion of lending criteria beginning in the mid 1990’s, at the urging of the Clinton Administration.
- Fannie and Freddie (F/F) represented the gold standard in lending. Most lending criteria in the mortgage industry based on some sort of relationship to the F/F guidelines.
- As F/F expanded their business foot print, it both signaled to all lenders that expanding lending criteria was acceptable, and they encroached on other lending businesses.
- This encroachment left these ALT/subprime businesses with two choices: expand elsewhere for profit, or close up shop.
- F/F and other lenders found a ready, willing and creative funding outlet in various Wall Street firms; they found the money.
- Various governmental agencies have oversight broad enough to encompass 99% of the lenders, the lending and loan programs. All mortgage loans funded by any regulated lender is a federally regulated loan. Other than private party lending, all loans are federally regulated.
- Congress actually has direct oversight of F/F and HUD, VA and FmHA.
- There was plenty of oversight on what went on in mortgage lending; it was not exercised.
The government had the tools and the responsibility to manage the mortgage lending process; they simply ignored their duty. Because they failed in their defined duties, I believe that the government should sponsor a "plan". The plan is not a bailout; the plan is intended to stabilized housing, and hopefully the economy, to allow a more orderly market driven correction.
I do not believe that we had an orderly market for 1996 to 2006. And, I do not believe that we have an orderly market at this time. Markets cannot be orderly if key criteria (such as underwriting of mortgage loans) is subject to arbitrary and capricious manipulation.
I did my first conventional loan in 1978. At that time, the published income underwriting guidelines were 25/33, if I recall correctly. Underwriters would maybe give you 28/36 if they liked other aspects of the borrowers profile. 28/36 is still the published guideline for F/F loans. I cannot recall the last time I have a borrower who actually met the published guidelines.
When F/F began to expand, they did so via “automated underwriting systems" [AUS] developed to streamline the process and standardize decision making. Fast, efficient and non-biased was the hype presented to originator like me.
Using the income ratio guidelines to illustrate the changes, you can see how the AUS system was continually expanded to accommodate more loan production. 28/36 may be the guideline in print, but, in reality, in mid-2007, 60/65 was good enough, with other relevant factors, to get F/F’s highest level loan approvals. In December, 2007 a 605 mid credit score was also good enough for the best that F/F had, at 100% LTV.
F/F, with the Expanded Level approval process, encroached into the “best” of the subprime borrowers. F/F, with their “simple” products, encroached into the “best” of the stated income borrowers.
As I said above, other lenders, ALT and subprime, referenced themselves with F/F, and through the end of 2006, wrote the business that F/F left for them.
I am not saying that all was good, but these are the facts as I see them, based on 30 years of work in this industry. F/F set the standards, and they were wrong.
Before we can reform the mortgage industry, I truly believe that housing must be stabilized and mortgage lending restored to a more reasonable business foot print. And, I believe, that lenders must be “encouraged” lend. No more sitting on the sidelines.
Here is the plan:
- That the Federal Reserve and the Department of the Treasury, in concert with the necessary and related federal agencies, announce a National Refinance Program [NRP]. All existing homeowners would be eligible for this program;
- This program would be available to all homeowners regardless of their situation;
- This program is only for owner occupants, no investors or second homes at this time;
- This program would only payoff existing mortgage debt owed, excluding any prepayment penalties…strictly payment and rate reduction;
- This program would finance the principle balance, back payments and interest;
- This program would be mandatory for all lenders under the “federally regulated” umbrella;
- This program would be voluntary for those homeowners choosing to participate, but it would be time-limited as to the time frames they can apply and be accepted;
- The files would be processed without income, credit or appraisal documentation to expedite the process;
- There can be no fees charged to the borrower by the lenders;
- The homeowner would be responsible only for: payoff of any items to provide clean title to the lender, back taxes, if any, homeowners insurance, title insurance, escrow/attorney fees (these could be a fixed fees), and recording fees;
- Only one program would be available for use…I am proposing that the only choice would be the FHA-245 in a modified form.
- The Federal Court system would issue an immediate temporary injunction stopping all foreclosures in the US on all federally regulated loans to allow this process to be completed.
The general FHA 245 program mechanics are as follows:
- Fixed interest rate, with the rate to be set by the Fed.
- For the first 5 or 7 years, depending on the final plan implemented, payments will adjust predetermined per cent from the previous year’s payment. For example, if the per cent increase is finalized at 7.5%, then a $1,000 P&I payment year 1, becomes $1,075 P&I payment year 2, and so on.
- When it was introduced around 1978-79, the FHA-245 program actually had 5 variations for borrower consideration when first introduced…this is Option #3 if I recall correctly. The option was most often selected by the marketplace as it had the greatest overall leveraging for the buyer. Others could be selected or designed.
- The initial period will have a small amount of deferred interest during the early years (years 1-3 in the case of Plan III), and then the loan balance begins to amortized in a normal fashion.
There are very few situations that the NRP/FHA 245 cannot address and improve substantially. This program was selected because if addresses several issues which I see daily in my current business.
First, I truly believe was have an income and “under-employment” problem. People are not making the money they were in 2005-2006, and it will take time for the economy to adjust and to begin to grow income again. 90% of those I know personally who are in trouble with their mortgages have had their household incomes reduced by 25-50%, or more. This is a fact that gets no headlines.
Second, by lowering payments, and setting a schedule for future increase, we are giving homeowners clarity in the payment structure, and time to make adjustments. I truly believe that the economy needs to time to find new direction. My plan gives the economy that time.
Third, by stopping foreclosures, lowering payments and stabilizing the housing market, the inventory of homes for sale should fall dramatically. Demand should grow, in part because of the number of foreclosures slowing, because we have stabilized prices and because we have re-established a more realistic mortgage market. As supply and demand should fall into a more acceptable relationship, we may then see new home construction begin again…can we say JOBS. In my area, according to the mayor, every home sold, new or used, generated about $14,000 in gross revenue to the town. I am sure it is similar across the country.
All homeowners will benefit from the availability of this one-time effort, and the NRP could go a long way to bringing the consumer back into the marketplace.
How would the process work, in general?
To secure a new loan plan under my program, all lenders would offer the program to all of their borrowers. The only benefit to the borrowers is generally lower payments. I would give homeowners a 30 to 45 window to apply. The lenders have all of the staff they need currently in place to process a one page request for the NRP loan, open title, review it, process a payoff statement, issue docs and wait to close. I would give the lender 90 days from receipt of the homeowners NRP request to complete the process. It would take 120 days to complete this process.
Why would the homeowner not have to prove income or qualifications at this time?
First, all of these are existing loans, no matter how or when they were closed. Because of falling home values, damaged credit and eroded earning levels, much of this the result of confusion, poor planning and mismanagement the lending community, this process needs to become a no-peek process for all who apply. FHA Secure, HOPE NOW and other efforts have failed because they require too much at a time and effort and cost…and they provide little, if any, true benefit. When we lower payments, payment history improves and therefore credit will eventually restore itself, as well value and, as the payments are reduced and real hope and optimism returns to the consumer, and spending improves, and the economy improves, so will income levels also improve.
The homeowners who choose to apply for the NRP loan PROCESS have to be automatically approved to gain the greatest percentage of participation…we want all of the old loans gone…we want all of the homeowners to live easier in the current economic climate…we want all of the lenders, GES’s and MI companies to quickly restore normality to the mortgage marketplace. We want and need this process to be simple, smooth and successful.
Why pay off bad loans in full?
Many lenders, investors and other professional level participants have already suffered greatly, along with many homeowners. This program cannot make them whole, or even attempt to do so. Given the complexity of the mortgage securitization process, and the various levels of CDO’s, derivatives and traunches, etc., there is just not enough control in any one place to effectively and efficiently manage and expedite any real solution to the problem. Therefore, all of the remaining loans must go away.
I would imagine that the various market participants would experience great improvement in their balance sheets, which is good and would encourage them to expand their operations in a more prudent manner.
Let me also address the angst I read on many blogs about the “liars” who lied on their loan application, about the “idiots” who bought more than they could afford, about the “flippers” who bought multiple homes, and those “greedy” realtors and mortgage lenders who jammed people into houses for profit. Hey, I’ll be the first to admit that there were probably some abuses. Every industry and every economic cycle will evidence abuses. It’s not good, but it’s a fact. It’s is also the exception, not the rule.
For every “liar” or “flipper”, there may be 1,000 who, viewing the real estate market, and made decisions to buy a home. I talk often of the client who, looking at his homes value, and his savings, retired. Now his home has lost value, he cannot get his job back, and he is short of money for retirement. He did nothing wrong, but he is a victim.
How about the buyer who relocated and paid cash? No loan fraud, no appraisal fraud, no nothing, except he has lost a lot of money when his home went down significantly. He is a victim.
My point is that, for all of the “wrongs” over the past several years, there were many more “rights." A lot of Americans are hurting, not just homeowners, and we need to address all of these issues to properly position the economy for the future. I made the point to Chairman Bernanke, fruitlessly, that the “pain-train” we are on as regards to housing and the economy is not necessary, nor is it good. We have a “top-down” problem, and the only solution is a “bottom-up” plan. My "Plan to Repair Housing in America” is the only real solution to address housing and the economy.
I welcome your feedback.
