OPINION:
If a comprehensive housing bill emerges from Congress similar to the legislation passed by the House on Thursday, President Bush should exercise the veto threat he issued Wednesday.
To its credit, the House legislation includes the long-delayed measure to tighten regulation of Freddie Mac and Fannie Mae, the scandal-tainted government-sponsored enterprises that hold or guarantee more than $5 trillion in home mortgages. Unfortunately, the taxpayer-funded bailout provisions for housing speculators and irresponsible borrowers (in many cases, contrary to Democratic assertions, they are one and the same) make the bill unacceptable. Representative Marsha Blackburn, a Republican from Tennessee, said it best when she declared that the legislation would “reward recklessness and provide a safety net for irresponsibility.”
The House bill is purportedly designed to contain the nationwide decline in housing prices. But the White House rightly fears that the legislation would effectively place a government-subsidized floor under home prices and prevent the housing market from more quickly reaching its equilibrium. Prolonging the necessary U.S. housing correction risks repeating the mistake that Japan made during the early 1990s. At the time, the Japanese government spent countless billions of dollars to prevent the stock and housing markets from correcting themselves in a timely manner after bubbles in both markets burst. The result was years of economic stagnation that, to this day, has yet to be followed by robust economic activity remotely comparable to the pre-bubble years.
To understand how steep the cumulative housing correction will probably be, it is necessary not only to grasp how large the bubble grew. We must also realize how unaffordable, relative to income, housing prices became. Measured by the Standard & Poor’s/Case-Shiller national housing index, nominal housing prices increased by 76 percent from the beginning of 2001 until they peaked in mid-2006. Adjusted for inflation, the increase was 60 percent. Meanwhile, inflation-adjusted median family income was actually 2 percent lower in 2006 than it was in 2000. As incomes stagnated, or worse, for many households, housing prices soared to unaffordable levels. Nevertheless, the homeownership rate continued to rise throughout the 2001-2004 period as a deluge of foreign money flooded U.S. financial markets and forced long-term interest rates down to levels not experienced in many decades.
Following years of bubbly activity, a universal belief emerged that inexorably rising home prices would generate huge equity windfalls. These capital gains would enable initially overstretched homebuyers to afford their re-financed mortgages, which included the cumulative bonuses of trillions of dollars of equity withdrawals that were used to finance the nation’s consumption binge. Meanwhile, to enable millions of first-time homebuyers, many of whom had poor credit or were making no down payments, to afford the soaring prices of the houses they were purchasing, lending standards massively deteriorated in recent years.
Because so many homebuyers either put little or no “skin in the game” in the form of a down payment or used their homes as an ATM machine by withdrawing equity as fast as the bubble produced it, many now find themselves owing more money on their mortgages than their houses are worth. This has occurred after the S&P/Case-Shiller national housing index declined from its mid-2006 peak by only 10.2 percent through the end of last year. Given the size of the bubble, many economists, including Robert Shiller, who was a co-creator of the index bearing his name, believe housing prices must — and will — fall much further. Indeed, another Case-Shiller index, which is tied to 20 major metropolitan areas, declined at a 25 percent annual rate over the three-month period ending in February.
Democrats claim that their bill will not help speculators because taxpayer-guaranteed refinancing will apply only to owner-occupied houses. However, when homebuyers make little or no down payments and take out risky adjustable-rate mortgages bearing initial, low “teaser” rates in order to finance nearly the entire purchase price of the unaffordable, bubble-inflated homes they are buying, then they meet the definition of speculators. Housing prices need to return to affordable levels based on prevailing incomes. Bailing out irresponsible homebuyers with taxpayer dollars will only delay the housing market’s return to a sustainable equilibrium.
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