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Saturday, November 24, 2007

Shiller: A Time for Bold Thinking on Housing

Robert Shiller has a list of options for regulating mortgage markets and for helping homeowners who are having difficulty keeping up with their mortgages:

A Time for Bold Thinking on Housing, by Robert Shiller, Economic View, NY Times: We have to consider the possibility that the housing price downturn will eventually be as big as that of ... 1925 to 1933, when prices fell by a total of 30 percent.

As of this August, domestic home prices were already down 5 percent from their peak 14 months earlier..., and prices were falling at a faster rate in the months leading up to August. ...

This crisis should be an occasion for some inspired thinking about fundamental changes in our real estate institutions. The actions that have already been taken are not impressive. The housing market is worsening, and more and more home owners are getting into trouble...

The public response to the housing downturn of 1925-33 provides an important lesson in what government and private institutions can accomplish.

Back then, ... revolutionary changes were made in real estate institutions. Without those fundamental changes, the Great Depression would have been much worse..., and we would be in a more vulnerable situation today.

In 1932, ... Congress created the Federal Home Loan Bank System, modeled after the Federal Reserve System. Twelve regional banks were created, and a Federal Home Loan Bank Board, like the Federal Reserve board, was set up to oversee them. This was an ambitious plan: these banks were to be a special lender of last resort for real estate, discounting mortgages so that troubled banks and loan associations could keep issuing mortgages.

Also that year, the real estate appraisal industry pulled itself together to become a truly professional organization, founding the Appraisal Institute, which established national standards.

In 1933, in the last days of the Hoover administration, Congress modified bankruptcy law to allow insolvent wage earners to file to protect themselves from eviction from their homes. ...

Later in 1933, after Franklin D. Roosevelt became president, Congress created the Home Owners Loan Corporation to sponsor loans for those having trouble making payments, replacing short-term mortgages — then typically five years with a final balloon payment that was often hard for homeowners to afford — with much more sensible 15-year ones that were fixed-rate and self-amortizing. In 1934, Congress created the Federal Housing Administration; it insured mortgages and insisted they be 20-year fixed-rate and self-amortizing.

The Federal Deposit Insurance Corporation ... was also created in 1934. And in 1938, Congress created Fannie Mae, which eventually led to the huge securitization of mortgages.

Seven decades later, our reaction to the current crisis is anemic in comparison. The “Super S.I.V.” rescue plan ... will be less than a tenth the size of the Federal Home Loan Bank System...

The FHASecure bailouts announced by President Bush in August ... will likely amount to only roughly 2 percent of the amount of mortgages guaranteed by Fannie Mae.

Congress is already on track to eliminate the provision ... of the bankruptcy law ... that prohibits courts from adjusting terms of first mortgages. But there could be more fundamental changes to bankruptcy law than that. ... For example, Andrew Caplin ... has proposed that in personal bankruptcy proceedings, the courts should be allowed the latitude to substitute real estate equity ... for first mortgage debt. This could let troubled borrowers stay in their homes, and might be better in terms of efficient risk sharing...

In light of modern financial theory, this would also be a good time to think about the nature of the implicit subsidies given to government-sponsored enterprises like Fannie Mae and Freddie Mac and whether they provide enough incentives for them to properly manage their own risks as guarantors of mortgages. We should think about whether the F.H.A. should be encouraged to take on a bigger role... We might create a new consumer-oriented regulatory authority, like the Financial Products Safety Commission that Elizabeth Warren, a professor at Harvard Law School, has been advocating. ...

The real estate appraisal industry needs to rethink its methods. How did it happen that appraisers acquiesced in valuations that were more and more discordant with economic fundamentals? Basic concepts and procedures need change.

Beyond that, we should think creatively about how to use vastly improved tools for risk management and apply them to mortgages. For example, ... home equity insurance ... would have gone a long way toward ameliorating the current crisis and reducing the need for personal bankruptcies. ...

Innovation ... tends to come in troubled times. We should take full advantage of the innovation opportunities stimulated by our current troubles. We would emerge much stronger and better for it.

    Posted by on Saturday, November 24, 2007 at 08:01 PM in Economics, Housing, Regulation, Social Insurance | Permalink  TrackBack (0)  Comments (18)

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