We can fix housing. There, someone finally said it.
It will not be easy or obvious, but there are solutions to every problem. We all know the various problems with housing — over-supply of homes, underwater mortgages, strategic defaults and rampant foreclosures. We get it already. Every pundit in the Western world has spent the last three years identifying and dissecting everything wrong in the world of housing. But has anyone offered a solution?
Initially, economists said to simply build fewer new homes and let the market find its equilibrium. Three years later, new home starts have been reduced to all-time lows, and remain 75% below peak levels. However, home prices continue to deteriorate due to the ever-mounting tide of foreclosures and short sales. According to CoreLogic, about 10.8 million homes were underwater as of Sept. 30. This represents 22.5% of all mortgages. As homeowners find themselves deeper underwater, they eventually can no longer justify paying a mortgage based on a principal balance that does not reflect the value of the home, and they consider a strategic default.
I am not sure if the traditional supply-and-demand formula works in housing. True, we could continue to allow supply to work off until the equilibrium is reached. However, as this supply works off, and my neighbors allow their homes to fall into foreclosure, the value of my own home is diminished. And as more homes in my neighborhood default, the value of my home falls even lower. This cumulative effect only occurs in real estate. If my neighbor allows his car to be repossessed, the value of my car is not directly affected. If I have a neighbor who defaults on their Visa, the balance on my Visa is not affected.
Yet if my neighbor allows his house to go into foreclosure, the value of my home is directly affected. According to a Morgan Stanley report last week, home prices may drop as much as 11% through the first quarter of 2011. That is the danger of this contagious downward spiral. As prices continue to decline, more people are forced to walk away, causing home values to decline further.
One statistic that I often hear is that we have 6 million or 7 million homes in the foreclosure pipeline. Where did all these households go? Did they move in with family or friends? I am sure that some small percentage did find this as a temporary solution. Did they move into an apartment?
Occupancy rates in the multifamily sector remain below historic averages. I believe that many households simply walked away from their home (voluntarily or otherwise) and rented or purchased another one. Oftentimes, the houses that are being rented are homes that previously went through a short sale or foreclosure. This may be a great opportunity for the investor and family in question, but this is the devastating part of the formula.
The Federal Housing Administration insures these mortgages from the banks and further facilitates the decline. As home prices decline, more people default and move into this infinite supply of affordable housing. The banks get paid from Freddie or Fannie and take a charge off on their books. The former homeowners rent another house in the same city, same school district and the same neighborhood. It is all too easy.
Develop a Residential RTC
We need to stop the downward spiral by bringing back the Resolution Trust Corp. The RTC was created in 1989 with the intent to manage and resolve all formerly FSLIC-insured institutions placed in receivership. The creation of a newly formed Residential Resolution Trust Corp. could do just that. Instead of managing and resolving institutions, it would manage and resolve mortgages as held or insured by Fannie Mae or Freddie Mac. As it stands now, Fannie and Freddie own or insure a staggering portion of all residential mortgages. Both institutions have been placed into the conservatorship of the U.S government, and both institutions are hemorrhaging cash.
The government already owns these lenders of last resort. The question is what to do with them.
We are embarking on a quantitative easing program to purchase $600 billion in mortgage-backed securities, and we continue to force-feed Fannie and Freddie hundreds of billions of dollars. Why? We have been trying these solutions for three years, and the market continues to decline.
An RRTC could instantly stabilize the industry and could do it with little additional funding. This entity could be organized under the FHA with an oversight board to limit fraud and corruption.
Key aspects of this new RRTC would include:
- Limited life of the new entity RRTC (five years)
- All homeowners with mortgages owned or insured by the FHA would have the option to refinance their homes at the current appraised value
- This option would be extended depending on whether or not the borrower was current on his or her mortgage. *Interest rates would be predetermined for all borrowers at a fixed rate of prime plus 5.5%
- Borrowers that refinance under this new program would be precluded from selling the house for three years
- Borrowers that refinance under this new program would agree to split the gains evenly on any future sale of the home
- Borrowers that refinance under this new program would be precluded from obtaining a home equity loan on the property * The new mortgage would be equal to the new appraised value
- Existing second mortgages or equity loans would be first in line to take a haircut due to the new adjusted principal balance of the home
- These mortgages are already federally insured.
We would not need to drag out the process by prequalifying the homeowners. We are all already on the hook and it is in all of our best interest to keep people in their homes. I believe that this program could instantly stabilize the housing market and the U.S. economy. It would stop a huge percentage of the short sales and looming foreclosures. Most people love their homes.
That is why they bought them in the first place. They want to stay in their homes and live the American dream. They just want it to make sense. We overextended ourselves as a nation, and it is time to rebalance. We would not just be saving these homeowners; we would be saving the American economy.
PJ Tyler is president of Diversified Builder Supply in Gilbert, Ariz.