Plan B for Reviving the Economy: The Mortgage Investment Bill

The Federal Reserve is out of Federal funds rate options and now Congress is about to pass legislation which will be the largest bailout bill in the history of the world. Fannie Mae (FNM) and Freddie Mac (FRE) are now penny stocks with perhaps over 1000 bank failures yet to come. The American taxpayer will be told that they and their children will be writing big checks to rescue the Wall Street crooks and congressmen that caused all the problems, while receiving nothing in return.  

Anyone who has been following recent congressional hearings knows by now that this is unacceptable to Main Street, the voters who will be firing their congressmen for turning the USA into a socialist country.  It is also widely believed that this bailout bill may not be embraced by Wall Street because of its onerous terms even if passed. Finally, it will not provide sufficient liquidity for improving the rest of the economy.  

A much more effective and fairer way to end our economic crisis is easily attainable. To state it simply, all Congress has to do is to pass a Mortgage Investment bill which allows individuals a one-time option to use some of the funds in their IRAs to pay off their mortgage balance in full, without any penalty, interest, or taxes for doing so.  In return, individuals choosing to exercise this option give up their mortgage interest tax deduction for life.  This bill could be passed quickly and independently of any other economy-related legislation currently being debated, or included in the current bill. Individuals choosing this option would need sufficient IRA funds to pay mortgage balance in full. The actual payment to the individual’s mortgage company would be done by the IRA managing institution to avoid fraud. 

As one senator recently stated, ‘for most people their home is their IRA’. For many others, their 401-K plans hold many trillions of dollars, much of which by now is parked in money market funds or T-bills as mine is. If these IRA funds could be released to pay off mortgages, we could possibly avert, or at least significantly shorten, the economic recession we now find ourselves in. In fact, no other bailout legislation may even be necessary, although more regulatory legislation is certainly needed.   

I asked Allan Meltzer, Arthur Segel, and Ellen Zentner to review this proposal and received some positive responses. Ellen said it seemed to be fool-proof and better than a reverse mortgage. In fact, it is a no-brainer for the homeowner with a large 401-K balance, and for the government. The only people who might object, as Ellen stated, are the bankers who want to keep homeowners dependant on them, especially those in the upper-income group.  But even the bankers can not want the government to own a large stake in their business for a multitude of reasons. 

It makes sense to allow people to use their IRA money, which they earned, to invest in the best and safest investment they could ever make, their home. Presumably they will need a place to live in retirement on a fixed income. It makes no sense for someone with more than enough IRA funds to cover their mortgage balance to loose their home because they lost their job and can not pay their mortgage. It also makes sense because it is not some form of government bailout which rewards the bad behavior of mortgage companies and unqualified borrowers. Instead, it rewards the good behavior of those who have saved and invested in the economy 

If only 5 million people chose this option, for an average of only $200,000 each, the result would be $1 Trillion in paid-off mortgages, providing liquidity to the mortgage industry. By executing the option, an individual’s annual mortgage payment would become disposable income to put back into the economy or back into IRA accounts. To the individual, the effect is the same as lowering taxes. If only 5 Million people were able to put back $20,000 per year into the economy, the result would be a $100 Billion per year stimulus package for many years to come. 

In my case, with $800K in IRAs and a secure pension, I would increase disposable income by $1600 per month while reducing the IRA balance by only $160K, but saving over $120K in future interest payments. I could retire, which I can not afford to now, and leave my six figure job to someone else. I could also quickly replenish the IRA money used to pay off my mortgage with the extra income. 

Adding a further provision to delay receiving Social Security payments for a year in order to exercise the option would be a baby step towards privatization of Social Security. Anyone financially able to exercise the option should be able to delay the payments.  For every 5 million people choosing the option, approximately $100 Billion would remain in the Social Security fund. This could fix our problems with Social Security for good.  

Some of the benefits of this plan would be to:  

• Immediately increase an individual’s or married couple’s disposable income by tens of thousands of dollars each year while enabling them to become debt free
• Save homeowners hundreds of thousands of dollars in mortgage interest payments
• Encourage individual IRA savings by many who have never saved
• Allow many people to retire earlier than they otherwise could
• Create demand for housing, reducing inventory, and stopping the decline in home prices
• Stimulate the overall economy, creating and saving jobs
• Not cost the government anything, and actually Increase federal, state, and local tax revenues by eliminating individual mortgage interest tax deductions, without raising tax rates
• Force the banks to sell their good loan assets to cover their bad loan losses, instead of forcing the taxpayer to buy their worst loans, and increase liquidity for new loans to those who need them
• Allow the free market economy to work through the crisis rather than resorting to socialism
• Not increase the national debt nor the money supply as a bailout would do and contribute to inflation
• Allow the individual home owner to the freedom to become their own banker with the money they earn, reducing America’s dependence on bankers, and changing America from renters and borrowers to homeowners and savers

The merits of this simple plan, the Mortgage Investment bill, for saving the economy, instead of trillions of dollars for a Wall Street bailout which will socialize the finance industry, are obvious and would benefit everyone involved. The individual gets more disposable income and a chance to live debt free, the capital markets get needed liquidity, the government collects more taxes and collects them sooner at the expense of the bankers, the housing market gets more demand, and the general economy gets a much needed boost for the next few years.  

Democrats should like this plan because they can claim that it lets the wealthy pay for this mess. Republicans should like it because it increases disposable income, which has the same effect the same lowering taxes.  The average voter should like it because it addresses all segments of the economy with a huge economic stimulus package, not just Wall Street, and costs nothing while helping to pay off the national debt and potentially fixing Social Security. 

Jim Cramer says we are going to 8,000 on the Dow. He may be right. So until Congress shows that they can make some meaningful progress on the economy, my recommendation is to sell every stock you own, wait for XLF to bottom and retrace 20%, and then look for bargains.  

Disclosure: Stan Muse holds no positions

Comments

[akasidney:]

With all due respect, I think that this is a better plan, and below it's compared to Marty Feldsteins plan:

Treating the disease, not the symptoms.
www.responsiblelending...
Some interesting numbers from this data;
• Number of families who now hold a subprime mortgage: 7.2 million1
• Proportion of subprime mortgages in default: 14.44 percent2
• Proportion of subprime mortgages made from 2004 to 2006 that come with “exploding” adjustable interest rates: 89-93%
• Proportion of completed foreclosures attributable to adjustable rate loans out of all loans made in 2006 and bundled in subprime mortgage backed securities: 93%
• Number of subprime mortgages set for an interest-rate reset in 2007 and 2008: 1.8 million Valued at: $450 billion

There are 7.2 million subprime mortgages out there worth 1.3 trillion, of which possibly 70% of them have exploding rate mortgages, which means about 5 million have exploding rates. Exploding rate mortgages account for 93% of the bad mortgages, which means that possibly 4.5 million of these will go bad, or 63% of the total, at a value of $820 billion and an average value of $180,000. If the ARMs reset from 7% to 12%, the increase in monthly payments is about $590 per month. $590 per month times the total of 5 million is about 3 billion dollars per month. Therefore, $700 billion would pay for 233 months, or nearly 20 years of payments… and this without renegotiating the loans so that maybe they just go to… say… 9% with the government picking up the difference. The holders of all the CDO’s would then be able to value them, mark them back to market, solve their balance sheet problems… financial problems solved. From the housing markets point of view, it would relieve the pressure of the foreclosure spiral forcing down prices more than ‘normal’, and provide years for the economy to recover and housing to rebound. Furthermore, any homeowner who availed himself of the help would give up all or a part of the appreciation of the property over time, penalizing them for getting jammed up, but not penalizing the guy who is paying his mortgage and playing by the rules.

If the sub-prime ARMS were renegotiated down to 9%, the monthly payments the government would be liable for would be an average of $225 per house per month, or $1.1 billion annually. The $700 billion under those circumstances would be good for 636 months, or 53 years…

The following is a comparison of the advantages to the above plan to Martin Feldsteins plan, as published in the NYT.

• No budget busting huge amounts of capital required in any one year, but rather nominal amounts in any particular year.
o Feldstein’s plan would require huge outlays of capital, a trillion dollars by his own estimate, in order to protect the 5,000,000 threatened mortgages, which is a totally unnecessary budget buster
• No need to try and ‘untangle’ all of the bundled, sold, sliced and diced mortgages… they will be paid.
o A benefit of both plans.
• Slows the fall in house values, shoring up all real estate assets both residential and commercial
o A benefit of both plans
• Doesn’t penalize those who ‘play by the rules’
o The Feldstein plan rewards those who for what ever reason can’t make their payments by making them eligible for a very cheap very long term loan. This penalizes those who are paying and is unfair on it’s face.
• Allows Mark to Market rule to continue to be used
o A benefit of both plans
• By establishing a value for all the mortgage-related assets, the markets in them will restart, liquidity problem solved.
o This is less clear under Feldstein’s plan, as there still could be defaults. Payment is left to the original mortgagee, and what if they decided to take that $80,000 and pay off some other more pressing bill. Because of that threat, the trillions of dollars in derivatives would not be as secure and thus would not be as valuable. They may be as liquid, but at a risk induced lower price… not a good thing.
• Moral hazard: companies that participated in selling the bubble take a hit for their reckless behavior through the discount in the ARM through the revaluing downwards of their assets.
o Feldstein’s plan does not recognize the need to lower the ARM (more appropriately an ERM – exploding rate mortgage) increases through a blanket one time renegotiation with all holders. This is equivalent to what happens when someone secures a better deal rescuing a company than the deal originally offered to the original stock holders… such is life.
• The program could be expanded to include anyone who was threatened with foreclosure due to ARMs… not just sub-prime, but Alt-A, etc.
o A benefit of both plans.
• No bankruptcy interventions necessary.
o A benefit of both plans.

2008 Oct 07 06:57 PM