November 03, 2008
Stop the Home Wrecking and Protect America's Future
Perhaps “the great crash,” to borrow the title from John Kenneth Galbraith’s study of the onset of the Great Depression, has been avoided. The seemingly irresistible fall in the American, European, and Japanese stock markets slowed a bit over the last week, and bits of commercial paper passed hands. The panic has spread to banks and stock markets in East Asia, Eastern Europe, and Latin America, and the damage to be done is not yet known. Whether their panics will redound upon the core countries where the troubles began is not clear.
Very uncertain still is how bad the world-wide economic recession will be.
Today, though, let us make a preliminary damage assessment. Supposing for the moment that the worst of the immediate panic has passed, how much damage has it done to the household economies of ordinary Americans? How has the panic affected the little economies of work, savings, and spending upon which each of us relies for our livelihoods and those of our familiars?
Because the panic began in the housing market, the damage is particularly immediate and widespread. Suppose instead that the massive financial speculation had occurred in commodities like gold, silver, oil, or even as in the crisis 1636, tulips. Or that it resulted from mis-allocating monies into new industries such as railroads in the 19th Century or into “dot.com” businesses 20 ago. These crises hit ordinary people as money becomes scarce and expensive, and banks fail. Demand shrinks, unemployment rises, and the misery thus spreads.
Our present crisis, surely the worst since the Great Crash, hits ordinary Americans this time much closer to home, or rather in their homes. It attacks their one key asset, their one great store of wealth -- their life-long piggy bank that is their home.
Consider one very important fact: Homes represent one third of the combined net worth of all American households. Seventy percent of American households own homes, and it is thus the most widely distributed asset among households aside from cars and checking accounts. In contrast, though many American watch on in chagrin as their pension fund assets have been washed away in the panic, their financial commitments to retirement funds is only a quarter of the value of their homes. For low-income families, their homes are their only assets. (Brian Bucks et.al., Federal Reserve Bulletin, February, 2006)
The panic has exposed how vulnerable American households are to any economic crisis, but particularly how prolonged financial speculation in the housing markets now threatens their immediate well being as well as their future standard of living. As I have discussed two times before a year or more ago, foreclosure rates, now charted like the price of corn in daily newspapers, have skyrocketed. Today, according to David Leonhardt in The New York Times (October 22, 2008), one and a half million households are in immediate peril of losing their homes. Up to another 5 million could soon find themselves caught up in the same ruinous financial whirlpool. Though the yellow press looks hard for new kinds of “welfare queens” among those who are dispossessed of or walk away from their homes, few housing analysts see much more than financial ruin for those who do.
The panic has put governments around the world at the service of their banks. Even as the banks are saved from insolvency, or sold off quickly when they fail under the good offices of governments, the underlying problem – the housing crisis and the damage it is doing to American households – is receiving less attention.
Perhaps this is because the problem is mountainous – far greater than anything the banks or other financial agents face. As home prices continue to sink, more homeowners find themselves in peril. Leonhardt of The Times makes a back-of-the-envelope calculation that if the government intervenes decisively to help homeowners in trouble, it could find itself with $4 trillion in home mortgaged-related obligations. The sum would be roughly five and a half times what the government has currently allocated to spend on propping up banks.
Last week, the Treasury was reported to be working on a mortgage assistance plan, and J.P. Morgan Chase had committed $70 billion to support its plans for renegotiating mortgages with their customers in trouble.
So, attention is being paid, albeit somewhat belatedly.
At the same time, though, a kind of “just so” story is being concocted about those households that find themselves in peril. Put plainly, the line is: “It serves them right. They speculated with their homes and thus deserve the trouble that comes their way.”
Homeowners are pictured as folk who, if they were not house-flippers, were mortgage-flippers. They refinanced frequently, borrowed on equity, or simply bought houses they shouldn’t have.
People did both borrow and refinance a great deal, as the Federal Reserve report cited above notes. Forty-five percent had refinanced their mortgages between 2001 and 2004, and a third of these households had borrowed more than the then-current value of the house. The median amount of money borrowed in addition to the house value was $20,000; half of those who borrowed extra spent it on renovations, and another third on debt consolidation. Given the advantages of refinancing earlier in the decade, and given the heavy marketing applied to get people to do it, neither the refinancing rate, nor the extra amount of value extracted seems extreme.
From my vantage point, as American households faced stagnant or declining personal incomes, as their savings rates plummeted to compensate for income losses in the slow but steady creep of inflation, reaching into the mortgage “piggy bank” looks pretty rational. Not only were homes the one real asset in their possession, but they were the only things that had gained tremendously in value over the past 20 years. Once again, taking a bit of money off the table when refinancing must have seemed rational at the time, given that funds were needed to cover increased medical and educational expenses whose costs have out-paced inflation now for several decades.
The collapse of housing prices depreciates the single most important asset of America’s households. We cannot know now how much this wealth loss has been lost long-term, and how much of the loss is temporary. We do know that our homes are central to our standard of living and to any savings we might accrue for bad times, old age, or inheritance.
Our homes, thus, are our piggy banks, and in many cases like the big banks, they have been cracked or broken too.
Making banks whole will not make America whole again. If Americans are not fairly protected in their homes, the damage to our way of life, perhaps calculable in trillions of dollars now, will become incalculable in the future.
Given the crash in housing prices, supporting the debt of mortgage holders is less likely to spur new housing inflation. It should foster price recovery instead.
A guarantee of this magnitude, I believe, is more intrinsically valuable over the long run than other bail-outs currently underway. It should also trigger a national commitment to see what can be done to make home ownership a universal condition in America.
Posted by Michael Blim at 08:00 AM | Permalink