Category Archives: 2008 Bailout

Foreclosure Mop Up Operation

How are we going to absorb the excess housing inventory being thrown off by foreclosures and new home construction (spec homes)? And how are we going to get American buying homes again?

Is it going to be enough just to lower interest rates? Will that get people buying homes again — enough homes to actually absorb all of the excess inventory or at least enough to reduce for sale inventory down to about a 90 day supply? I doubt it. I say it’s going to take something more and I’m proposing what it will take to get things accomplished.

The Way to Mop Up Excess Housing

Here’s  what I propose.

Let’s take two main categories – First Time Buyers and Second Home Buyers.

Why these two categories? Because they are the only ones that count in the home buying business.

New household formations by the children of baby boomers are the driving force in housing demand in the U.S. As they graduate from college, get jobs, gain earning and spending power, many can soon afford to buy a home. Especially those who marry and become two earner households.

Second home buyers are the “heavy users” of residential real estate “products.” They are like housing addicts and we need them.

What About Foreclosed Owners?

Well, what about them? I say no matter what you do to keep the foreclosed owner in their home, very few will succeed. The problem is not with any particuluar owner for any particular home. The home does not care who owns it. What the home needs is an owner who is financially able to pay the mortgage and maintain the home – and that’s what our economy and our credit markets need. If by some miracle of god or fate or government the foreclosed owner can somehow suddenly afford their home, more power to them. But they will be few and far between. Foreclosed homes owned by the others should be sold to owners who can afford them. Which brings us back to the two main categories of owners – first time buyers and second home owners.

For first time buyers who purchase a foreclosed home, I propose something along the line of a 200% interest deduction for the first three years of ownership and then a phase down to 100% interest deduction over the next 3 years. You should have to be otherwise qualified to purchase with at least a 10% down payment. If you stay in the home, stay current in your mortgage payments and real estate taxes and do so for 5 years, you may sell the home without recapture of any deductions. However, if you sell before 5 years, then your deductions would be recaptured in the year of the sale.

For anyone who already owns a home, I propose something similar for those who can afford to purchase an additional home provided it is a foreclosed home and provided they purchase in 2009, a 200% interest deduction for 3 years. Then, in addition, if the home is a rental property and the annual rental income is equal to or greater than 90% of the mortgage payments, you should be able to claim accelerated depreciation based on say 15 years instead of 29 years. The excess deduction and accelerated depreciation should be recapture if you sell the home sooner than, say, 5 years.

I have no idea what the revenue impact on the government would be from these ideas.  I suspect it would be positive or at worst neutral. But quite frankly I don’t care. Tax revneues will take care of themselves when homes are owned by those who can afford them and the economy and credit markets return to some form of sanity.

We might also consider creating a new type of investment company that receives favorable treatment for investing in large numbers of foreclosed homes, say 100 or more, provided they put occupants in the homes.

There are many ways to solve this problem, but I don’t observe much discussion of anything except interest rates and bank bailouts. What are your ideas?

Credit Market Meltdown – Will It Finally Bring About The DotCommers New Economy?

Are we seeing the credit markets and trust itself melting down, putting the entire global economy at risk?

 If banks won’t make loans, if they won’t issue letters of credit, how will the economy function? How will commerce take place without these fundamental components and tools of the trade that have enabled trade between parties who are generally unfamiliar with each other?

If the economy breaks down due to lack of trust, and the credit instruments in wide use cease to exist, does that mean we will have to rebuild the world economy and in doing so indeed finally have the “New Economy” as proclaimed, but never materialized, during the Dot Com era?

Is it possible that electronic transactions and the Internet play vital roles in actually solving the problem? Do we really need letters of credit to facilitate cross border transactions and shipment of goods or could the same type of third party escrow service Ebay buyers use come to the rescue?

The $700 Billion Gorilla – When the Fed sets the price, liquidity and confidence will be restored.

Prices are a funny thing. When there are no buyers, there can be no price. But the minute there is a price that can be identified, a price can be set. It’s all psychological. When you have a price that some buyer is willing to pay, and you have a transaction in which that buyer actually did pay that price, then you have established a reference price.

All the Fed has to do is buy a few tranches of bad loans and presto! the prices they pay become the reference price. At that point, speculation becomes moot and due to draconian mark to market rules, all identical assets immediately are compelled to be revalued at the reference price. That is, all assets IN ALL PORTFOLIOS world wide. Bang! Asset values are reset and liquidity returns.

And all the Fed has to do is buy a few tranches of a carefully calibrated selection of bad loans (e.g. 30/60/90 days past due, 3/6/12 months in foreclosure, etc.) and all like assets in the market are priced accordingly. The prices the Fed paid become in effect a pricing guide to bad loans that will be referred to by all buyers and all asset appraisers.

It might cost the Fed $1 or $2 billion at most to achieve this. If the market balks, then the Fed goes back to the well and buys another $1 or $2 billion. With $700 billion at its disposal, even the shorts will capitulate even if the Fed never spends another dime more than a few billion. The mere fact that the Fed, the $700 billion gorilla, can if it wants to will be sufficient.

Henry Paulson’s Regulatory Blueprint for Wall Street

 Henry Paulson appeared on all four major Sunday news shows yesterday and repeatedly mentioned his regulatory blueprint.

Well, here is the recommendation section excerpted from the  212 page document:

VI. The Optimal Regulatory Structure

 

 

This chapter presents a conceptual model for an optimal regulatory structure. This model is intended to begin a discussion about rethinking the current regulatory structure and its goals. It is not intended to be viewed as altering regulatory authorities within the current regulatory framework.

 

 

Recommendation Overview
Treasury recommends a regulatory structure that recognizes the differences between business models centered on transactions with consumers (i.e., retail transactions) and those focused on transactions with other businesses (i.e., wholesale transactions). Strong arguments exist for distinguishing the regulation of businesses (or the portions of businesses) with explicit guarantees from the federal government (e.g., deposit insurance) from the regulation of those entities with no explicit guarantee from the federal government.

Treasury proposes a modernized regulatory structure that recognizes the convergence of the financial services industry. The proposed structure will be more efficient and strengthen our capital markets.

Treasury proposes the creation of three regulators focused exclusively on financial institutions and two other key authorities, a federal insurance guarantee corporation and a corporate finance regulator.

Each of these authorities is described below.

The market stability regulator should be  responsible for overall conditions of financial market stability that could impact the real economy. Given its traditional central bank role of promoting overall macroeconomic stability, the Federal Reserve should assume this role. A primary function of the Federal Reserve’s  market stability role should continue through traditional channels of implementing monetary policy and providing liquidity to the financial system. In addition, the Federal Reserve should be provided with a different, yet critically important regulatory role and broad powers focusing on the overall financial system. In terms of its recast regulatory role, the Federal Reserve should have specific authority regarding the collection of appropriate information from financial institutions, disclosing information, collaborating with other regulators on rulemaking, and taking corrective actions when necessary in the interest of overall financial market stability.

The prudential financial regulator should focus on financial institutions with some type of explicit government guarantees

 

associated with their business operations. Although protecting consumers and helping to maintain confidence in the financial system, explicit government guarantees often erode market discipline, creating the potential for moral hazard and a clear need for prudential regulation. Prudential regulation in this context should be applied to individual firms, and should operate like the current regulation of insured depository institutions, with capital adequacy requirements, investment limits, activity limits, and direct on-site risk management supervision. To perform this function, a new regulator, the Prudential Financial Regulatory Agency, should be established.

The business conduct regulator should be responsible for business conduct regulation across all types of financial firms. Business conduct regulation in this context includes key aspects of consumer protection such as disclosures, business practices, and chartering or licensing of certain types of financial firms. One agency responsible for all financial products should bring greater consistency to areas of business conduct regulation where overlapping requirements currently exist. The business conduct regulator’s chartering and licensing function focuses on providing standards for firms to be able to enter the financial services industry and market and sell their products and services to customers. To perform this function, a new regulator, the Conduct of Business Regulatory Agency, should be established.

The Federal Insurance Guarantee Corporation should function as an insurer for institutions regulated by the prudential financial regulator. The Federal Insurance Guarantee Corporation should possess the authority to set risk-based premiums, charge ex-post assessments, and act as a receiver for failed prudentially regulated institutions.

The corporate finance regulator should be responsible for general issues related to corporate oversight in public securities markets.

These responsibilities should include corporate disclosures, corporate governance, accounting and auditing oversight, and other similar issues. These responsibilities are not unique to financial institutions, but are broadly applicable across all publicly traded companies and publicly traded securities. The Securities and Exchange Commission would continue to perform this function in the optimal structure.