RePortersNoteBook.com: Will the Washington Crew Ever Notice the Housing Bubble?

Mar 31, 2010

Will the Washington Crew Ever Notice the Housing Bubble?

aletho | March 31, 2010 at 2:03 pm | Categories: Corruption, Deception, Economics | URL: http://wp.me/pIUmC-1Yp

By Dean Baker | The Guardian Unlimited | March 29, 2010

Alan Greenspan, Ben Bernanke and the rest of the crew running economic policy somehow could not see the housing bubble as it grew to more than $8 trillion. It really should have been hard to miss. Nationwide house prices had just tracked overall inflation for 100 years from 1895 to 1995. Suddenly in 1995, coinciding with the stock bubble, house prices began to hugely outpace the overall rate of inflation.

There was no explanation for this run-up in house prices on either the supply or demand side of the housing market. Furthermore, there was no unusual increase in rents, providing further confirmation that fundamentals were not behind the increase in house prices. Finally, in contrast to a story of housing shortages driving up house prices, vacancy rates were at record levels.

But the super-sleuths at the Fed, Treasury and other centers of decision-making just could not see the bubble. They couldn't even see the flood of bogus mortgages being spit out by the millions and packaged into mortgage-backed securities and more complex instruments.

As a result of this astounding incompetence, we are now living through the worst downturn since the Great Depression. Because Greenspan and Bernanke and the rest messed up, tens of millions of workers are out of work. Close to one in four mortgages are underwater and the baby boom cohort has seen much of its wealth destroyed as they reach the edge of retirement. In short, as Joe Biden would say, this was a f***ing big mistake.

Remarkably, the folks in charge seem to have learned zip. They still have no clue about the housing bubble. How else can anyone explain the Obama Administration's latest proposal for helping out underwater homeowners?

If the point is to help homeowners then there are two incredibly simple questions that must be asked:

Are homeowners paying less under the plan than they would to rent the same place?
Are homeowners going to end up with equity in their home?

These are the key questions, because if we can't answer "yes" to at least one of them, then we are not helping homeowners. If we can't answer "yes" to at least one of these questions, then taxpayer dollars being put into the program are helping banks, not homeowners.

Unfortunately, it seems no one in the Obama Administration has yet been told about the housing bubble. There is no evidence that they ever considered these questions in designing the latest policy to "help" homeowners.

The program will potentially pay banks and loan servicers up to $12 billion to write off principle on mortgages. In exchange, the government will guarantee new mortgages through the Federal Housing Authority (FHA). Those familiar with the housing market will note that house prices are still falling and must fall by close to 15 percent to get back to their long-term trend. If house prices continue to fall, then the vast majority of the homeowners that take part in this program are likely to never accrue any equity in their home.

Furthermore, the FHA is likely to incur substantial losses on these loan guarantees, as homeowners will again find themselves underwater and many will be unable to pay off their mortgages when they sell their home. Because the FHA hugely expanded its role in the housing market in the last two years, without paying attention to falling prices, it now is below its minimum capital requirement. It will suffer additional losses and fall further below its capital requirements as a result of this program. By the way, the losses to the FHA and the taxpayers are money in the pockets of the banks, but no reason to mention that detail.

For anyone who can see an $8 trillion housing bubble, this is all as clear as day. There is nothing complex about a story in which the government buys banks out of bad mortgages. But the Washington policymakers could not see an $8 trillion housing bubble before it wrecked the economy and apparently still haven't noticed it even after the fact.

It's great to know that there are good-paying jobs for people with no discernible skills. But do those jobs have to involve running the economy?

Dean Baker is the co-director of the Center for Economic and Policy Research (CEPR). He is the author of False Profits: Recovering from the Bubble Economy. See article on original website.

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