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What’s Going to Prevent The Housing Crisis From Happening Again?
By JLP | June 25, 2009
Interesting article by David Wessel in today’s WSJ about how he believes (and Greenspan too) that the economy can only rebound if housing prices rebound. From the article:
For the two-thirds of American families who own their homes, a house is their biggest asset. The lower house prices go, the less wealthy they are and the less they can or will spend and borrow. For home builders, the lower home prices go, the fewer new homes they will build and the fewer workers they will hire. And for many American banks and other financial institutions, mortgages, mortgage-backed securities and financial instruments that rest on mortgages remain a huge headache. The lower house prices go, the less these loans and investments are worth and the weaker the foundations of the financial system are.
Although I understand the importance of housing prices, I’m concerned that as a nation we will return to our former ways of using home equity as a piggy bank for consumer spending. From what I have read it’s clear to me that that was what led us to this predicament in the first place.
I guess my real question is…
What’s to stop this from happening all over again?
I mean, we have laws against fraud, but they weren’t enforced when people lied about their income in order to get bigger mortgages. What’s to stop this from happening again? Clearly we can’t rely on homeowners or potential homeowners to not take on too much debt. Nor can we rely the ethics of the mortgage brokers and bankers to not allow customers to take on more debt than they can handle since they [the mortgage brokers and bankers] are worried about the potential customer getting financing from a competitor.
I’m also concerned that so much focus is placed on consumer spending. Yes, we need consumer spending but shouldn’t we be more concerned with the incomes necessary to support that spending? We saw in the last eight years that consumers were simply borrowing money in order to spend.
Maybe we should have some standards in place. Things like…
• No more than 30 – 35% of your income should be spent on housing.
• Your income MUST BE VERIFIED!
• You need at least a 10% down payment when purchasing a house.
• No more than 80% (or maybe even less) of your equity can be withdrawn via a home-equity loan.
I would even like to see new homeowners attending homeownership classes or something of that nature. Purchasing a home is a HUGE decision and people should be getting their education from someone other than those who stand to gain from their decision.
Those are my thoughts? Do you have anything you’d like to add?
Topics: Credit Crisis, Housing Market | 15 Comments »
June 25th, 2009 at 8:01 pm
Your "standards" are all focused on the consumer, which I think is the wrong approach. Consumers should be allowed to take whatever risks they are able to take. It's the lenders who should have "standards" – or more precisely, one standard – THE MORTGAGE LENDER MUST HOLD THE OBLIGATION FOR AT LEAST THREE YEARS. The lender can then make whatever decisions it wants to make, using whatever standards it wants to use, but knowing that if they lend money to somebody, they will be stuck with that obligation for three years before they can trade it to someone else.
I would also remove the ridiculous extra paperwork caused by the irrelevant "notices" and the PATRIOT Act and all the rest. All you need is a simple security agreement, a promissory note, and a deed to secure debt. This would inject a level of transparency that is much needed.
If you make the two simple changes described above, the market will still have plenty of competition, with some lenders being more risk-averse than others. Imposing more stringent "standards" will inhibit competition rather than promoting it, and will make the markets work less effectively.
June 25th, 2009 at 8:04 pm
I am not concerned with this happening again in our lifetimes. It takes longer than that to overcome the impact on psyches. In fact the greater danger is likely to overreact speeding up the time before people think these are all unnecessary restrictions on the market again. Not that these are unreasonable measures that should be applied in most cases and only in exceptional circumstances deviated from. The one I would add is qualification on fully adjusted rates. It was terribly easy to offer buydowns to 2% or even 1% interest rates for a year or two and qualify people at those rates, not what true market rates were, leaving the unpleasantness to show up down the line.
June 25th, 2009 at 9:57 pm
The problem as I see it is that there are so MANY people in the process with their hand out.
Realtors
Real Estate Brokers
Mortgage Brokers
Attorneys
Home Inspectors
Appraisers
Advertisers
All get a cut in some way. All are interconnected in some way. The realtor always uses XYZ Inspections and ABC Appraisals. The Mortgage Broker "highly recommends" a certain real estate lawyer and the items that need fixing (found on the inspection) should be ONLY done by Smith&Jones Construction …
What we need is better disclosure of who gets what, who gets paid by whom, and what the costs really are. That would be a good start.
I like your ideas too, especially the income verification. As far as setting a percentage of how much home equity you could withdraw, I don't know. With a falling market, those numbers could get out of whack fast. Maybe 50% would be better.
</ dodges behind the furniture >
June 26th, 2009 at 6:23 am
Who would administer the courses on home ownership?
June 26th, 2009 at 3:09 pm
While I agree that those things ought to happen, I'm not sure who you're saying should set those "standards" ? Should it be common sense of buyers? I mean, yes it *should*, but obviously it doesn't. Should it be the companies involved? Perhaps, but obviously they also has disincentives, as you yourself have detailed. Should it be the government? I would have thought you'd be pretty against that.
I actually like the first commenter's suggestion – it's a simple, fair regulatory level rule that really changes the playing field. If you can't pass the buck instantly, the company has immediate incentive to make sure they're not getting a bum steer, and if the consumer is being called on their BS, they're less likely (not zero, but less) to try and pull it.
June 26th, 2009 at 4:16 pm
A big part of the problem is a result of putting the cart before the horse. Government sees people who own homes being responsible citizens and thinks "aha! A magic formula! Home Ownership = Good Citizenship, so we need to ensure that more people own their own homes!". But the equation is exactly backwards. Good Citizens (ie, responsible citizens) are more likely to own homes. There's nothing magical about home ownership that makes people become responsible.
"That which we gain too cheaply, we esteem too lightly".
Until the Feds get this through their collective heads (unlikely, given how long they've been doing this nonsense) the problem won't go away.
June 26th, 2009 at 4:56 pm
I am with Lord – I am not concerned. The lending standards have already returned to the pre-bubble standards. It's very unlikely that they will be relaxed again as all currently-alive investors aren't likely to buy into "house prices can only go up" myth or invest in the CDOs backed on mortgages. Without investors that are willing to buy any mortgages, banks aren't likely to give out bad loans.
This is not to say we will not have another bubble and another crash, but it'll be different enough that people will not see it coming. In 50-100 years – maybe, but not as long as people who remember it are still alive.
If you look in the past, you rarely have the exact repetitions of a previous crisis. Every crisis is sufficiently different from the previous one (and those before it) that people can say "it's different this time". Internet bubble was 'different": people looked at 100 P/E of tech companies or at $100 stocks for companies that weren't profitable at all and said "this is new economy, old rules don't apply". Then came real estate – the invention of new financial instruments, bad loans, the belief that real estate can only go up. The next bubble and the next crash and the next crisis will be different. If any of us can predict it, we'll be rich…
June 26th, 2009 at 7:25 pm
Certainly there were unethical brokers and bankers. But now how much money do they have to lend NOW? Welcome back to real life, where money's dear.
I guess I'm a little annoyed with posts that don't seem to understand what the massive wave of liquidity was, and how deregulation of financial instruments enabled it, because you end up attributing the problems to all these symptoms. Instead, I attribute a very large helping of the affair to A. Greenspan who kept rates low on a misappraisal of Randian economics, and Phil Graham, who prohibited regulation of derivatives.
But my views are not atypical. There are many who have drawn similar conclusions. This is showing me that bloggers can talk a lot, they don't have to research, and they can draw whatever conclusions they want. Which is fair enough in a free society.
June 26th, 2009 at 2:47 pm
John,
It’s not my intention to mislead anyone with my postings. One of the things that I do try to do on this blog is to encourage interaction so that we can learn from each other. I have never claimed to be an expert on anything but I do try to tell it the way I see it.
There’s no doubt that lots of ingredients went together to create this mess. Wall Street is definitely a huge culprit in this mess. Greenspan made some bad decisions. I’m not sure about Graham–I’ll have to research that.
June 26th, 2009 at 8:26 pm
John: What say you of the "$15,000 tax credit for first time homebuyers" that is currently in congress?
http://www.marketwatch.com/story/american-land-ti…
June 26th, 2009 at 5:59 pm
Oops! I mispelled Gramm!
June 29th, 2009 at 6:44 am
Remember Before Buying Foreclosed Home
Buying foreclosed homes in the present scenario of rising prices of properties is definitely an option that can be considered by the intending buyers of such homes. Foreclosed properties turn out to be profitable both to the sellers and the buyers. The sellers get rid of the troubled properties (and recover their money) and the buyers get them at a lower price than the prevailing rates of the market.
http://mgbfinance.blogspot.com/2009/05/remember-b…
June 29th, 2009 at 8:38 pm
LOL: I favor the tax credits for first-time buyers, though $15k is getting up there. The purpose is to prevent an undershoot of market prices and I think it's a sound way to do so.
This post is one of the reasons I stopped reading this blog. Strident pitchfork ranting is fine, if properly focused. But again I see someone who agrees with my view that Greenspan and Graham are the two major contributors to this problem:
1. Federal Reserve Chairman Alan Greenspan
2. The Federal Reserve (in its role of setting monetary policy)
3. Senator Phil Gramm
(See more at The Big Picture, or read it in Bailout Nation.)
So blogs can finger consumers, but on author Barry Ritholtz's list, they are 12th. We need quite a few more posts about faults in the federal reserve system, and far fewer ragefests about no-doc abusers. I want to go where the evidence-based inquiries lead, not just the anger.
July 1st, 2009 at 1:24 am
The upside to this housing crisis is that banks really are using those standards you stated (at least from my most recent experience). The downside is that it's taking a lot more time to close escrow (I close two weeks late). A friend that works at Bank of America told me that almost all their escrows are closing late now because of the case load for each loan processor and the amount of due diligence they have to perform now.
July 6th, 2009 at 12:17 pm
Mike Dunham has it almost right… the problem occurred as lenders were able to pass the default risks onto someone else. As AIG and others offered credit default swaps, purchasers of these pools felt they were insured. And they were… unfortunately, our government had to come in and cover the losses.
Look at it this way… if I allow you to buy my home and I allow you to take over the payments on my mortgage, I am ultimately still at risk. Lenders should be accountable in the very same way… they should not be able to walk away from the risk of default once they sell the loan. If this was the case, no one would have ever gotten a 100%, no income check, negative amortization loan. Not even close.