New Evidence on the Foreclosure Crisis
07/03/09 09:32 AM
From this mornings WSJ comes an interesting analysis of the mortgage mess from Mr. Liebowitz a professor of economics and director of the Center for the Analysis of Property Rights and Innovation in the management school at the University of Texas, Dallas. What is really behind the mushrooming rate of mortgage foreclosures since 2007? The evidence from a huge national database containing millions of individual loans strongly suggests that the single most important factor is whether the homeowner has negative equity in a house -- that is, the balance of the mortgage is greater than the value of the house. This means that most government policies being discussed to remedy woes in the housing market are misdirected.
Many policy makers and ordinary people blame the rise of foreclosures squarely on subprime mortgage lenders who presumably misled borrowers into taking out complex loans at low initial interest rates. Those hapless individuals were then supposedly unable to make the higher monthly payments when their mortgage rates reset upwards.
But the focus on subprimes ignores the widely available industry facts (reported by the Mortgage Bankers Association) that 51% of all foreclosed homes had prime loans, not subprime, and that the foreclosure rate for prime loans grew by 488% compared to a growth rate of 200% for subprime foreclosures.
Sharing the blame in the popular imagination are other loans where lenders were largely at fault -- such as "liar loans," where lenders never attempted to validate a borrower's income or assets.This common narrative also appears to be wrong, a conclusion that is based on analysis of loan-level data from McDash Analytics, a component of Lender Processing Services Inc. It is the largest loan-level data source available, covering more than 30 million mortgages.
The analysis indicates that, by far, the most important factor related to foreclosures is the extent to which the homeowner now has or ever had positive equity in a home.
A simple statistic can help make the point: although only 12% of homes had negative equity, they comprised 47% of all foreclosures. What about upward resets in mortgage interest rates? I found that ;
• Interest rate resets did not measurably increase foreclosures until the reset was greater than four percentage points.
• Only 8% of foreclosures had an interest rate increase of that much.
• Thus the overall impact of upward interest rate resets is much smaller than the impact from equity. The important factor is whether or not the homeowner currently has or ever had an important financial stake in the house. Yet merely because an individual has a home with negative equity does not imply that he or she cannot make mortgage payments so much as it implies that the borrower is more willing to walk away from the loan.
The difference in policy implications is enormous:
• A significant reduction in foreclosures will happen when and only when housing prices stop falling and unemployment stops rising .
• Although the government is throwing money -- almost $2 trillion and counting -- at the mortgage markets with the intent of stabilizing house prices, its methods are poorly targeted.
• To be sure, refinancings may put money in peoples' pockets, but it is home purchases that directly impact house prices.
This recession started with the collapse in the housing market and will not reset until home prices stabilize and people start buying homes again. That’s kind of hard to do when consumers are fearful of taking on any new debt, especially a mortgage. Across the country people cannot move to new jobs because employers are not offering to replace lost home equity while candidates are not willing to walk away from thousands, or hundreds of thousands, dollars in lost home equity.
Consumers are also getting angry that while banks and financial institutions are getting billions of dollars they are sticking to the same consumers with higher interest rates, fees and tougher loan standards, whose tax money bailed them out. Mr Obama is continuing to say that “it took years to get us into this mess and will take time to get us out”. The problem with that is that American consumers patience is running out. They are sick and tired of being fearful of spending, they are sick and tired of the same old same old in Washington and until the jobs come back the negative spiral of this recession will continue and consumers will not spend.
