I started by explaining in Everybody put your heads down on your desk… how we got to this ugly spot in the road where we see the paths of:
- Government intervention in loans
or
- A rush of foreclosures
In this installment, I’m going to outline the case for why it is the wrong thing for the government to do. There are reasons that range from moral to financial to precedents. Remember, that this isn’t an easy decision, and regardless of the path, people are going to be hurt. However, as my father was fond of saying, doing the right thing can hurt, but that doesn’t mean it should be abandoned.
Let’s start with the precedent.
While I know that the plan is voluntary, keep in mind that Congress is sitting behind the President, boiling over at the thought of making it look to their constituents that they “feel” their pain, and that they want to help… So, the lenders involved knew that they could volunteer to go along, or they could do it the hard way. I think it would be fair to say that most will see that they can’t beat the system, so it is better for PR to go along. In fact, I think that a lot of these same lenders would have done the same thing eventually… but on a case by case basis… and for fewer borrowers. But, I would bet that it would have been the borrowers that weren’t as likely gaming the system.
But there is still this precedent of the federal government telling these business entities that they better play ball. The fact is that all of these loans represent contracts that were entered into voluntarily, and largely without fraud, but that the terms are being changed for less than voluntary reasons. Doing something will hurt people. Don’t forget that the damage won’t be just to banks. It will be to pension funds (read that as teachers and firefighters and police and secretaries and anyone else in the country), individuals, and other holders of these MBSs.
If the situation were reversed, and the rates collapsed further, and banks were dropping like flies, leading to a possible failure in the economy, would it be ok for the government to strongarm the borrowers to raise their rates and save the banks?
Now for some financial controversy.
There are a lot of economists and people that are smarter than me arguing on both sides of the financial implications of this bailout for failing borrowers. On the one side, the proponents argue that not doing something will lead to a collapse in the value of properties in hard hit areas. All of the foreclosure properties flooding the market will drive down the prices of other homes.
Countering this is the argument that many of the hardest hit markets are still drastically overpriced, and that the people that live in those areas can’t afford to buy properties… and the prices need to drop in order to be inline with reality.
Caught in the middle are people that own houses in those hard hit areas. If they bought in the last few years, they could face a situation where they end up in a negative equity situation… that means that their home isn’t worth what they owe. Not doing something will hurt people. The question is whether the pain will be over quicker with a market solution, allowing the equity to return, or if the bailout will truly save this pain.
Personally, I think the pain will be just as severe, but it will take longer for the process to run its course with the government plan.
Finally, the legal and moral implications.
Is this really the role of the government? There are a few people in blogland that I have challenged on this subject. What constitutional justification is there for this type of plan? I can’t find it… I know what the answer is to the question, but I don’t think it is a justifiable answer. Of course, I am perfectly willing to admit that if the federal government actually used the Constitution as the framework it purports to be, there are a lot of things they couldn’t do… and anyone in Washington with a “D” behind their name would be pulling their hair out… and most of the people running around with a “R” behind their name would be doing the same thing… for different programs. But, what we are seeing right now is the birth of an entitlement system. It is scheduled to go five years. Income tax withholding was supposed to expire at the end of World War II… we see how that worked out.
And then we get to Mr. and Mrs. Responsible. I brought them up in the last post.
- Instead of getting the teaser of 4.25% for a few years, and then uncertainty about where the rate was going, they picked up a 5.875% loan, fixed at that rate for 30 years. (actual percentages and prices varied, these were used for illustrative purposes only). That meant that they could only buy at $300k house instead of a $375k house. They were responsible. They didn’t make noise, because they made solid decisions.
What do we say to them? “I know… you did the right thing… so, we are going to let the folks that made a bad decision go ahead and reap the reward and let them keep the lower teaser rate for five years. I know… they get to save tens of thousands of dollars in interest payments, while you don’t… but they aren’t smart and responsible like you. You don’t need the government to be your Mommy, but they do.”
Obviously, I don’t think it is the right thing to do. I understand that there are tens of thousands of people out there that would be damaged if I got my way… but there are tens of thousands that will be damaged with this plan. What is worse is that people are being rewarded for poor decisions. instead of being held responsible for what they agreed to, Mommy is fixing it. It isn’t right.
If you want to tell me that it is wrong for a little kid to get kicked into the street with their parents because of a bad lender, feel free. But, I will tell you now that my response is that there are families that could put their kids through college with the extra money they will spend because they made the responsible decision. That is what isn’t fair.