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October 17, 2008

Home Prices Need Policy Help

Catherine New
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Federal Reserve Chairman Ben Bernanke spoke at the Economic Club of New York on Oct. 15, 2008 and praised the Treasury and Congress for moving to restore confidence in US financial markets. (full speech) However, he warned the process would take time, since the housing crisis continued to be worrisome. He said:

Stabilization of the financial markets is a critical first step, but even if they stabilize as we hope they will, broader economic recovery will not happen right away. Economic activity had been decelerating even before the recent intensification of the crisis. The housing market continues to be a primary source of weakness in the real economy as well as in the financial markets, and we have seen marked slowdowns in consumer spending, business investment, and the labor market. Credit markets will take some time to unfreeze.

Dean Glenn Hubbard, who is also chairman of the Economic Club, responded along with Harvard economist Martin Feldstein, to Bernanke’s speech in an interview with Bloomberg TV. Hubbard said: (watch video)

What is important is ... to stop falling house prices. There are ways to do that and variety of proposals, but they all center on getting the mortgage rate back to where it would be in a well-functioning credit market. The second would be to clarify the capital injections, and how the Fed and the Treasury will resolve troubled institutions so the market knows and private capital knows. And the third would be for the Fed to be very aggressive in guaranteeing interbank lending and providing for commercial paper. … We will have 10 to 15 % further house price decline likely, absent policy action, and that will hurt consumer spending and hurt the job market and, of course, the balance sheets of commercial institutions.

Both Dean Hubbard and Senior Vice Dean Chris Mayer (and Feldstein as well) have been vociferous in asking for policy action on housing. In the Wall Street Journal ("No Quick Fix for Housing Prices", Oct. 14), Mayer called for government to "push mortgage rates down to 5.25% in order to spur demand."

Prof. Charles Calomiris offered another view on solving the housing crisis ("How To Prevent Foreclosures", Oct. 14) and said:

As I understand the new McCain plan, it would buy mortgages from the lenders (or servicers) and then refinance them into the FHA plan. ... A more modest proposal than that of Sen. McCain, which may balance costs and benefits more effectively, would follow the example of the successful Mexican "Punto Final" plan of 1999, which resulted in substantial debt write-downs very quickly and the resolution of much financial gridlock in that country.

The government would share losses borne by lenders from mortgage principal write-downs on a proportional basis. For example, taxpayers could absorb 20% of the write-down cost borne by lenders on any mortgage so long as it is agreed through a voluntary renegotiation between lenders and borrowers, and so long as doing so creates a sufficient write-down for borrowers to be able qualify for refinancing under the FHA facility.

What are your thoughts about solving the housing crisis? Please leave your comments.

Photo credit: Economic Club of New York

Comments

by Matt | October 30, 2008 at 2:28 AM

First it was called a sub prime crisis then a housing crisis perhaps this is a credit crisis we are facing because American people cannot budget their money, nor can our governments. The irony is that the 700 billion we are using to bail out our institutions in the short run contributes to the same thing that got us into this mess in the long run.

by Paul Gilmore | November 09, 2008 at 12:22 PM

The housing crisis is two fold at least...uncertatinty in the job makret and lack of high paying jobs has caused homebuyers to postpone pruchases which has led to depressed home prices, increased defaults and the current financail mess. I like dEAN Hubbards suggestion on Fannie/Freddie sponsored mortgages but lets look at a real world example: Typical loan: 150,000 @ 7.0% 997.95 mthly payment Fannie/Freddie Loan 150,000 @ 5.25% 828.31 mthly payment In my case, the savings would be enough to prevent me from going into foreclosure...but across the US how many homeowners would this save? The recovery needs to be two fold...prevent as many homeowner foreclosures as possible which leesesn the impact of declining home prices and create a job recovery. What will turn the US economy around? Hopefully, American ingenuity—I see a similarity between Barack's investments in Green Technology's to Reagan's military build up (1980 - 1989). Barack's investment in Green Technology (if done right) would create high paying US jobs that could be the economic stimulus we need. This investment would return intellectual and physical capital to the US population by making us less dependent on foreign oil (as T. Boone Pickens says). Could this investment fuel the economy until the next American Technological innovation comes along? This remains to be seen—however, Barack's administration will also face challenge of creating the right mix of regulation that maintains acceptable levels of risk while keeping a stable dollar, taming inflation, and allow free capitalism—in the end US innovation will take care of the rest.

by Eapen Chacko | January 29, 2009 at 9:34 AM

In today's WSJ, Bill Gross of PIMCO talks about the need to slow the collapse of asset prices. The turmoil in the housing market continues unabated, and foreclosures are ratcheting upward. Despite posted lower mortgage rates, the pull-through rate on approvals is around thirty percent, so very few people are getting these mortgages. It really cannot understand why the Hubbard-Mayer plan did not garner more visibility and support. I thought at one time the Obama Administration was considering something similar, but I don't see the follow-through. Is the window of opportunity for this program gone?

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