There is little question that the root of our current economic problems is the housing market crash. The severity of the problem is daunting: at the end of 2010, 23.1 percent of all residential properties with a mortgage were “underwater,” meaning that borrowers owe more on their mortgages than their homes are currently worth. That “negative equity” totals $750 billion. Moreover, the housing market is largely frozen, due in large part to the fact that banks attempting to foreclose on delinquent homeowners cannot produce titles for said properties. They were “bundled” to sell on Wall Street, and the “paper trail” determining who actually owns the deed to a given property has been obliterated. This reality produces an extremely troubling question: how much moral hazard are Americans willing to accept to get the housing market functioning again?
With to respect that market, moral hazard has been an all-encompassing affliction. Lending institutions were more than happy to grant mortgages to borrowers manifestly ill-equipped to pay them back. Borrowers were more than happy to sign on the dotted line and take the money, even as they ignored the implicit contractual obligations. Government was happy to pressure lending institutions to make sub-prime loans to unqualified applicants, often with ridiculous terms attached, such as no money down. Banks in turn extended those ridiculous terms to prime borrowers, vastly expanding the pool of risky loans. The risky loans were then pooled together and sold to investors, many of whom were convinced to buy them when the financial ratings agencies (who were paid by the banks), gave those securities an AAA rating.
Virtually all of the activity that took place during the boom years was based on two ridiculous premises: one, a house was viewed to a large degree as an entitlement, when the government contended (and still does) that a certain number of mortgages should be exempt from the normal requirements imposed on borrowers; and two, real estate values would continue to go up indefinitely. Neither of these premises withstood reality. The rest is history.
So how do we get out from under? One plan is being floated by the Obama administration. Another one is being proposed by the banks and the state attorneys general. The former is aimed at aiding homeowners, by allowing them to re-finance their loans to prevent foreclosure, with a possible reduction in principal as well. This plan underwrites borrower irresponsibility, allowing people who bought more house than they could afford, or failed to make payments to which they contractually obligated themselves, off the hook for their bad decisions.
The latter is a plan attempting to address the reality that banks, via a concept known as “robo signing,” were foreclosing on properties for which they could not produce proper documentation of ownership. This plan underwrites lender irresponsibility by giving them the opportunity to pay a one-time fine, and possibly get immunity from further litigation related to improper foreclosures. That allows a lot of bankers who knew better than to make questionable loans and bundle them into questionable securities off the hook for their bad decisions as well.
Both plans are aimed at stabilizing, and eventually re-invigorating, the housing market.
There is no question that people on whom the banks have foreclosed without proper documentation are entitled to redress. There is also no question that many of theses so-called victims are hardly the innocent naifs they purport themselves to be. Many bought houses using false documentation. Many have made no effort to honor their contractual obligations, as in paying mortgages they agreed to pay, in some cases for years. Many have engaged in “strategic default,” a term coined to absolve those who could afford to pay what they owe, but have decided against it because their loans are underwater. And finally, there is also no question that many banks and other loan originators were thoroughly and consciously unscrupulous, signing up people for loans they couldn’t possibly afford, especially when balloon payments kicked in a couple of years later.
Are a lot of bankers scoundrels? Absolutely. A lot of the delinquent home owners as well? Ditto. So are the ratings agencies which over-valued the bundled mortgages, and the legions of public officials who championed owning a home as a “right.” Thus, any deal which resolves the problem is very likely going to let a lot of really bad actors get away with some really bad acts. Many actors who, in a far better world than this one, would end up in jail on the government/banker/Wall Street side of the equation, or out on the street on homeowner/real estate speculator side. Moreover, the idea that any deal, regardless of the final parameters, isn’t going to outrage substantial portion of the American public, is an utter pipe dream.
Letting the government officials off the hook for pursuing ridiculous housing schemes that had no basis in fiscal reality? Outrageous. Letting bankers off the hook after years of making improper loans, providing false documentation in order to foreclose, and having them pay a relatively miniscule fine as a settlement? Outrageous. Allowing homeowners who’ve stopped paying mortgages to go on living in their homes while millions of other American struggle make their own payments, often for no other reason than maintaining their integrity? Outrageous. Government-sponsored bailouts with money we don’t have for either, or both, sides?
Absolutely, mind-numbingly outrageous.
So what’s more outrageous? How about letting the housing market continue to sink below Great Depression levels, possibly leading to a double-dip recession (if we’re not there already) or worse? How about, in the perfectly understandable urge to achieve justice, which could take years, making almost certain that the entire economy of the United States remains stagnant for years as well? And that may be the best case scenario. Is American ready for a full-fledged depression, also for years, as the price for justice?
In other words, is America ready to punish those who richly deserve it–if everyone else gets punished in the process?
This column is not advocating specific choices to solve the housing mess. It is written with the intention of telling Americans that such choices must be made within the larger economic context. Gut-churning, infuriating choices, made with a full understanding that genuine justice is likely to be the first casualty in sorting out this unholy mess. Choices that involve a kind of reverse triage: allowing some of the guilty to get away with really bad behavior, in order to save the far larger number of innocent Americans who have also been dragged down by this sordid process.
For most Americans, a house is the single largest investment they will ever make. The longer millions of Americans remain in limbo regarding that investment, the longer the entire economy will remain in that same limbo, or worse. As is often the case, life comes down to a series of tradeoffs between the lesser of two evils.
How America gets itself out from under the housing crisis is probably one of them.
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