Despite having read extensively and listened to numerous elderly experts opine, I have little understanding of what happened to Fannie Mae and Freddie Mac, or why, or what it means to me that the government has taken control. Beyond the need for security of liquidity in mortgage-backed securities to stabilize the world market in the face of our housing crisis, it’s all very vague.
But there are a few things that seem crystal clear.
First, those who have conducted their financial affairs in a prudent and responsible way will pay for those who have not. While there are people who, aside from the shake-out in the housing market, have suffered personal disasters beyond their control, these are the anomalies in the monumental rise in defaults and foreclosures.
The norm is fairly straight forward. People bought houses they couldn’t afford, agreed to mortgages they couldn’t repay, and did so under the assumption that the housing market would continue to increase, allowing them to refinance when their adjustable rates increased to a more acceptable mortgage rate, or sell and enjoy the windfall profits. In a housing boom, you can’t lose.
This is not, as so many urge, a terrible tragedy, like contracting a terminal disease. It is nothing more than a bad investment decision. We all make bad decisions on occasion. Some of us just suffer the consequences of a bad investment and move on. We don’t like it, and we would love the government to step in and give us a hand, but we know it’s not going to happen. So we move on.
I realize that this seems heartless, but for most of the people who find themselves in default or foreclosure, they haven’t actually lost much, if anything. They put little or no money down on their homes, paid the sucker rate while enjoying the benefit of a roof over their heads as they would had the rented the house for a term, and are now no worse off then they were when they started. They have neither home nor equity, but they didn’t have that when they started. The loss of theoretical equity, like the loss of theoretical profit, isn’t a loss at all. It’s simply not a gain.
Second, the people who packaged, bought and sold these mortgages and mortgage-backed securities did nothing to earn the monies they were paid. Having represented more than a few of these individuals, allow me to state that they made a boatload of money doing this. Stupid money. Crazy money.
Had these individuals not been paid crazy money, they still would have performed the work because they had no other alternative. They possessed no actual skills, so they couldn’t land a job as a carpenter, a teacher or even a lawyer. It’s not as if they had other opportunities available to them. Trust me, if their salaries and bonuses were quartered, they would still come to work the next day. They have nowhere else to go.
This goes for the lot of Wall Streeters, who are desperately enamored with themselves and their brilliance, but for the fact that their skillset spans the ability to have three or more alcoholic beverages and remain relatively coherent. They pretend to understand financial markets. If they did, of course, it wouldn’t swing wildly day to day. And they wouldn’t have bankrupted their employers.
Third, our politicians realize that there is more to be gained by “helping those in need” than by providing an incentive to be responsible, both on a corporate and personal level. This allows them to appear to fix the problem rather than sound like Herbert Hoover. The difference is that no one suggests that they allow the irresponsible to starve for their mistakes, but they shouldn’t be rewarded for bad judgment either. No one is entitled to a guaranteed “win” on every investment decision.
But the people who are “suffering” aren’t just the poor homeowners. If that was the entirety of the problem, the government would possibly provide some pretense of concern and a few pseudo-palliative measures, like the ones already passed by Congress which have done absolutely nothing to help, but sounded good for the moment.
Our politicians may make sounds as if they are protecting the poor, but Fannie and Freddie aren’t really people. They are institutions. The government of the United States of America does not bail out people. It does bail out institutions, because the failure of an institution will undermine confidence in markets. Suddenly, the rest of the world matters to people who disdain anyplace other than America. They’ve never really changed much from the attitude that what’s good for GM is good for America. They have learned not to say it out loud, however.
There will be money to be made on Wall Street today. But responsible people won’t be the ones to make it. We’re too busy working to pay our mortgage and keep it from being in default.
Simple Justice
Some people did not understand the type of mortgage they were agreeing to. Others were mislead by their mortgage broker. Not all the homeowners caught up in the foreclosure crisis made irresponsible decisions. Some were flat out lied to and tricked.
I do agree though that those that took the time to be responsible and understand the agreement they were entering into are paying for those that did not.
But, the primary people that are at fault here are the underwriters. They were the last gate keeper in this process. But, they did not hold themselves accountable and reduced their criteria because fo the housing boom. During the boom many mortgage brokers were writng loans hoping the buyers would default, so they could realize a windfall profit.
Fannie and Freddie are victims of deregulation and arrogance of the financial industry.
I’ve heard many complain that they didn’t understand what they were doing. Where was their lawyer? They purchased houses, signed about 100 pieces of paper, committed to hundred of thousands of dollars of debt, and did so on the word of the guy making a commission off their deal.
They had it in their power to understand. They chose to proceed without counsel to save a few bucks. This too is irresponsible. There is no right to into debt blind and stupid to save some pocket change, then complain later that you didn’t get it.
I’ve heard that in NY having a lawyer on a real estate transaction is the norm, but that is definitely not the case in other parts of the country. A matter of culture, I suspect. The sale documents are done through the realtor and the mortgage is done directly with the bank. All of that is then reviewed by the limited practice officer at the title company. Is it a good way? Maybe not, but it’s reality in much if not most of the country outside NY.
Out here in the west, there’s a couple of things to be aware of. First of all, there are no (zero) lawyers who specialize in residential real estate out here. It just isn’t done. If you want your interests protected, you hire a buyer’s broker on a flat commission (so that he has no incentive to push you into a house more expensive than you can afford). Second, there are no (zero) mortgages issued out here for residential properties (i.e., setups where liens are placed upon titles), and no judicial foreclosures. Rather, there is a setup called “deed-in-trust” and “non-judicial foreclosure” where title is held by a title company on behalf of the mortgage company which can turn over the title for sheriff’s sale with as little as 30 days’ notice of default by the mortgage owner depending upon the state upon notification by the bank (reality is that this generally results in the bank being the “high bidder” getting title to the property, since if the home had been worth more than was owed it would have already been sold via a short sale).
Regarding the Fannie/Freddie bailout, I’ll point you to the repercussions of the home mortgage industry crawling to a halt. Then you have a *95%* plummet in property values, because basically you can only buy properties for cash then (the 5% average down payment on new homes). Aside from gutting the budgets of school districts and cities nationwide, anybody who currently has a mortgage will look at the fact that they’re holding a $200K mortgage on a house now only worth $20K, and notice that they can buy an equal home for $20K cash that they happen to have handy, and… well, you know. The end result is that banks will lose 95 cents on the dollar for every mortgage they hold. Now, thanks to the reserve requirement and multiplier effect, that means you’re going to lose *trillions* of dollars from the economy, causing galloping deflation on the scale of 1930-1932, with the same effects as 1930-1932 — massive transfers of wealth from the middle class to the upper classes as they call in debts that are no longer payable in the now-deflated currency, social unrest, hunger on a mass scale, homelessness on a mass scale, etc.
In short, you’re looking at an apocalyptic scenario similar to 1930-1932 if Fannie/Freddie are allowed to fail, regardless of whose “fault” it is. That is why a bailout *had* to happen. The actual nature of this bailout… well. I’ll have to do more research on that one to see who’s getting screwed and who’s getting unwarranted money from heaven.
I’m aware, as you and Greybear (above) have pointed out, that many parts of the country don’t typically use an attorney for real estate closings. I don’t find this to be a viable excuse.
When people say “I was lied to” when the story told by the broker differed from the content of their closing papers, I ask, “so why didn’t you read the papers?” Does the fact that some people just trust the broker excuse them from personal responsibility when signing papers that involve anywhere from a large percentage to a multiple of their net worth.
And if they did read the papers, but couldn’t understand them, then what were they doing signing them? The fact that lawyers aren’t typically used is not a reason to bask in ignorance. If you don’t know what you are signing, then find out. If it requires a lawyer, then get a lawyer. If you’re not sure, then be sure before hand and don’t expect a bail out from ignorance afterward.
I don’t absolve the brokers who lied from lying, but that doesn’t mean that the ignorant or foolish are absolved for their part. Each of us has to take some responsibility for what we do. Buying a home is a pretty big deal, and knowing what you’re doing is part of the bundle of obligations that goes with it.
As for the 95% plummet, I think that’s significantly overstated, and the drop in the housing market is entirely unrelated to the liquidity of Fannie and Freddie and happening regardless. The deflation happens because the market has fallen, and it’s fallen regardless of the banks role because there are far more houses available than buyers. The problems you cite are here, and getting worse, but bailing out these two institutions has nothing to do with it, or its subsequent consequences.
The fall in the housing market is not because of more houses available than there are buyers. It is because the prices of houses had risen beyond the ability of buyers to pay for them, a fact that was papered over by the loans that are currently going bad. There is no surplus of homes as such. There is a surplus of homes priced higher than what people can afford to pay.
Think of it as the case of the $10 loaf of bread. The fact that $10 loaves of bread do not sell well has nothing to do with any surplus of bread or any shortage of buyers for bread. Rather, its sole reason for not selling is that it costs more than people are willing to pay. Even if you have a monopoly on bread in your local market and thus all bread in your local market costs $10, it won’t sell well. Instead, people will choose alternatives. They will buy corn tortillas, they will bake their own bread, or if we’re talking about the housing market, they will rent.
A significant portion of current renters would purchase if it were a reasonable value to do so (I am one such renter). Right now, it is not — I would need to pay approximately 50% more in mortgage payments as compared to rental payments for the privilege of buying right now, even taking into account tax deductions. In other words, the reason people are not buying is not because there are more homes than potential buyers. It is because the price of homes is still out of whack compared to the price of alternatives to buying. Housing prices today are still that $10 loaf of bread. Until the price comes down to something reasonable, I’ll just continue buying the $2 bag of tortillas, thank you very much.
Now: back to Fannie and Freddie: I suggest that you look at the mortgage market before FNMA was created during the Great Depression to see what effect the GMA’s have upon the mortgage market. Basically, before FNMA you could not buy a home with less than 50% down. So even though there were “Hooverville” tent cities of homeless people on the outskirts of every major city and hundreds of thousands of empty homes inside the cities that they could live in, there was no mechanism for putting person A into home B for the majority of Americans. FNMA was implicitly concieved of as a mechanism to re-inflate the currency by reducing the down payment requirement, which in turn would create money via the fractional reserve effect. So while you’re correct that the “lose 95% of value” is probably an overstatement, loss of Fannie and Freddie, assuming they take us back to the pre-FNMA era, results in at least a 45% loss of housing values beyond that which will happen anyhow. Again, I’m talking about historic data here, not something pulled out of my %%%%, so take that as you will. I’ll just point out that those who ignore history tend to repeat it — and the era 1930-1932 was not a pleasant one in American history.
Perhaps I was unclear. Obviously, the price is the contingency, but existing housing stock comes with a built in problem in that it must be sold for enough to pay off the debt, or the sale is a loss to the seller. I assumed (wrongly) that this was understood to be part of the equation.
I think your basis for comparison of pre-Fannie to today mixes many issues, and in some respects, requiring homeowners to put a substantial sum down on a house may not be such a crazy thing.
May not be a crazy idea. Clearly a deflationary idea, however, since it reduces the volume of time deposits by the amount in question, which thanks to the fractional reserve multiplier effect reduces the money supply by a much larger value. Deflationary spirals are bad. Go look at 1930-1932 for an example why.
In short, you’re talking law and morality, I’m talking monetary policy and its effect upon the economy. The main issue we’re facing right now is how to deflate the price of housing so that it’s affordable again under reasonable mortgage lending practices as vs. the scam ones of the past, without having oodles of bank failures that torpedo the money supply and create a 1930-1932 economic disaster (see: fractional reserve multiplier effect, each bank failure causes a loss of money in the economy equal to 900% of its deposits given the current 10% reserve requirement). I’m not sure that the current bailout is the best way of accomplishing this (I haven’t looked closely at its details yet), but it’s clearly better than the alternative of a repeat of the Great Depression.
I think that some people are simply too trusting. They believe that the government has setup laws regulating these industries. They believe that because mortgage brokers and real estate agents are licensed and paid by them that there is an implicit trust relationship.
They do not know that this is blatantly false. This is why and how the are duped into buying houses that are over priced through a mortgage broker willing to skirt safe guards set in placed by banks and ignored by underwriters because they knew the loans would be securatized and off their books before the first house payment was due.
Many people are defaulting due to huge increases in their ARMs. They were told that the rate would only go up by XX amoumt. They were blatantly lied to.
Yes, in the end it is their responsibility to verify. But, to many people there was an implicit “fiduciary” like relationship between themselves their mortgage brokers and their real estate brokers. They were under the impression that their mortgage and real estate brokers were working for them. So, in essence many of these people were conned into buying homes that were over priced and they would not be able to afford in the future.
The mechanics of stupid people being duped are well known. They trusted someone they had no business trusting. Between the person who made the mistake and all the people who didn’t, who entered into transactions with full awareness and the ability to fulfill their obligations, and the people who have struggled to maintain the obligations, who pays? We feel very badly for the people who were stupid, but do we want to pay for them to be stupid as well?
The laundering of bad loans by banks and mortgage brokers into what appears to be sound loans is an evil, but a separate evil.