Perhaps the single biggest headwind the American economy faces, rivaled only by unemployment, is the dismal housing market. American’s biggest source of wealth has been decimated over the past six years, so it was no surprise that President Obama, in his state of the union speech, promised responsible homeowners the chance to refinance and “save more than $3,000 a year on their mortgage.”
Sounds great. But what is he actually talking about? If it were that easy to put $3,000 a year into the pockets of responsible homeowners, why hasn’t the President and Congress done so already? And will this plan be any different than the government’s other, mostly failed, attempts to prop up the housing market and stimulate the economy through lower rates?
The administration is keeping mum thus far on the exact details of the plan — but recent anonymously sourced reports in The New York Times and Washington Post are painting a picture of what such a plan might look like.
Until now, the administration’s main attempt at tackling the housing market problem has been the Home Affordable Refinance Program, or HARP, first established in 2009. HARP allows borrowers whose mortgages are backed by Fannie Mae or Freddie Mac — so-called government-sponsored entities, or GSEs — and who are current on their payments to refinance even if they don’t qualify under traditional lending standards.
The logic behind the plan was that by refinancing, many homeowners would lower their monthly payment and avoid default and foreclosure. Fewer foreclosures is desirable in and of itself, but it would also prop up housing prices overall. And the measure would put more money in consumer pockets.
The program, however, has successfully refinanced only 925,000 mortgages while the administration hoped it would benefit nearly 5 million homeowners. Meanwhile, the Federal Reserve estimates that nearly 12 million homeowners, or 20% of all mortgage borrowers, owe more on their homes than they are worth.
A recent Federal Reserve report attributes this failure to a couple factors. First, commercial lenders, who would facilitate this refinancing for a fee, are wary of doing so because of what is called “putback risk.” Federal Reserve Governor Elizabeth Duke defined putback risk in a September speech as “the possibility that a loan originator will have to repurchase a loan from the government-sponsored enterprises because the underwriting violated GSE guidelines.” That is, Fannie and Freddie — still hurting from the lax pre-crisis lending standards — have been quick to protect taxpayers by “putting back” loans that should have never been made in the first place.
The second reason HARP hasn’t fulfilled expectations is that fees associated with would-be HARP refinancings, needed to compensate Fannie Mae and Freddie Mac for the the increased risk they’ll bear, are prohibitively expensive. The basic problem is that Fannie Mae and Freddie Mac are prohibited from costing taxpayers any more money than the recent federal takeover already has. But, as the Fed report states, “some actions that cause greater losses… in the near term might be in the interest of taxpayers… if those actions result in a quicker and more vigorous economic recovery.” In other words, Fannie and Freddie would probably lose some battles if they lowered the refi fees, but doing so just may win us the bigger war.
So how will Obama’s new plan fix these issues and get more mortgages refinanced? Here’s what he said in his speech:
I’m sending this Congress a plan that gives every responsible homeowner the chance to save about $3,000 a year on their mortgage, by refinancing at historically low interest rates. No more red tape. No more runaround from the banks. A small fee on the largest financial institutions will ensure that it won’t add to the deficit, and will give banks that were rescued by taxpayers a chance to repay a deficit of trust.
Not much in the way of detail there, but the New York Times has reported that the administration is planning to introduce legislation that would enable homeowners whose mortgages are not owned by GSEs to refinance into mortgages backed by the Federal Housing Administration. The problem: Getting the required congressional support for such a measure, let alone one that imposes a “fee” (read: a new tax) on financial institutions, is unlikely.
Another strategy, originally proposed by former Bush economic advisor Glenn Hubbard, would have Fannie Mae and Freddie Mac streamline the approval process for refinancing loans already backed by the government. This is more in line with suggestions by the Federal Reserve, and would require only the backing of acting Federal Housing Finance Administration (the body that oversees Fannie and Freddie) chief Edward DeMarco — not Congress. The problem this time? DeMarco is reportedly opposed to using the GSEs as instruments for propping up the housing market. And appointing a new head of the FHFA would, again, require congressional approval.
In the end, without the backing of Congress all these proposals will more than likely end up being nothing more than a campaign tool for Obama, allowing him to claim that he’s at least trying to alleviate some of the economic hurt brought on by the collapse of the real estate market.