Federal Reserve Chairman Ben Bernanke, urged lenders “to forgive portions of mortgages held by homeowners at risk of defaulting” this morning in Orlando.
“Lenders tell us that they are reluctant to write down principal,” Bernanke said. “They say that if they were to write down the principal and house prices were to fall further, they could feel pressured to write down principal again.”
The Fed chairman countered that by reducing the amount of the loan, this “may increase the expected payoff by reducing the risk of default and foreclosure.”
Bernanke also urged investors in mortgage bonds to accept “short payoffs” of loans by allowing borrowers to refinance at a lower principal.
For investors, a reduction in principal that’s “sufficient to make borrowers eligible for a new loan would remove the downside risk” of further writedowns or defaults, Bernanke said. Investors may be able to share in future gains in home prices under some plans, he said, citing a proposal by the Office of Thrift Supervision.
Wall Street reacted accordingly this morning in New York. There’s nothing like talk of a federally orchestrated, yet privately funded, bailout in the morning.
∙ Bernanke Urges Banks to Forgive Portion of Mortgages [Bloomberg]
∙ U.S. Stocks Fall on Bernanke Plan; Citigroup, Oil Shares Drop [Bloomberg]
I bought some 10 piece set of Louis Vuitton luggage for Christmas and put it on my Amex Platinum card even though I am teacher making 50k, can Bernanke talk to Amex about reducing my principle?
Seems like your principles may already be near rock bottom. Your principal, however, may be another matter entirely. 😉
why would the banks do this, when they KNOW that they merely have to wait and eventually the TAXPAYER will take the hit?
once a “too big to fail” bank fails, then the taxpayers will really be on the hook. (countrywide, citigroup, bear stearns, JP Morgan, Fannie mae or freddie mac, etc)
all this other stuff is just window dressing.
The Fed just tipped it’s hand: nothing it has done is working and it’s out of options.
This was a bubble and someone has to take the fall. Who was at “fault”? The homeowner who knew full well he couldn’t afford it, but was told by all parties who stood to gain from the transaction to ignore his finances and that he could just refinance later? Or the investors who were (through their agents) fawning over anyone with a pulse, telling the future homeowner to go ahead?
It doesn’t matter what the correct answer is. The investors have money and the homeowners don’t. So the investors pay. Plain and simple.
And everyone gets to learn some lessons. The homeowners learn from here on out they will be better off not paying their bills. Investors learn that they shouldn’t loan money to people who buy homes with it, without getting much larger risk premiums, now that people have learned that not paying their bills is the way to go. That makes people even less likely to pay their bills which makes the fair risk premiums charged by lenders go even higher.
And everyone lives happily ever after until the whole thing spirals completely out of control. Remember the spiraling inflation of the late 70’s as rising prices taught workers to expect rising prices and then demand even faster rising wages? Spiraling lending rates will be the analog of 2009.
It doesn’t matter what the correct answer is. The investors have money and the homeowners don’t. So the investors pay. Plain and simple.
tipster tipster…
I’ll take door #3:
taxpayer bailout.
Anyone see Paulson’s recent remarks? Totally opposed to any kind of bailout, and thinks bitter homedebtors need to keep paying their mortgages even if they’re underwater:
http://www.treas.gov/press/releases/hp856.htm
I think that some people genuineley believed that they would own a home and did not forsee this situation. After all, most mortgage lenders reassured many people that they would be willing to refinance, or that equity would save them. I’m sure many people put in most of what they are worth into buying and keeping these homes only to find out that they are not able to. The lessons learned will not be about “not having to make payments” but rather more like: what the hell happened? I wonder what the banks have learned?
Many parties brought this situation to where it is now and pain will spread all around, unfortunately.
This is what? Program #3? Program #4? #5? Super SIV-MLEC, rate cuts, Hope Now, Project Lifeline, FHA reform, lifting caps on Fannie/Freddie, increasing conforming limits, Homesaver Advantage, FHA Secure, AMBAC/MBIA “bailout”, FHLB “bailout” of Countrywide, BoA “bailout” of Countrywide,…, and the list goes on…
…meanwhile, the Fed continues to shrink base money. Slowly, but surely, the Fed is deflating the money supply, which is WHOLLY under its control. All the while talking about “liquidity” and “doing what is necessary”. It’s all a show. And it’s shocking that almost nobody seems to understand this. Bernanke was put in place to engineer just this. His job is to deflate the US economy without tipping us into a 1930s-style depression. We’ll see if he is successful. A decades-long Japan-style malaise would be perfectly acceptable to TPTB.
About “principal” reductions – the banks would be doing this anyway. The point of this show – just like all the others – has been to “keep hope alive”. Keep people paying on depreciating assets for as long as possible, shifting losses as much as humanly possible onto homeowners rather than lending institutions.
Satchel–
M2, M3 etc are growing pretty rapdily. Why do you think money supply is shrinking now. I agree about a year ago it was shrinking but it appears to be growing now.
cooper,
The Fed only really has control over the near money aggregates (M1 + reserves). Really, they just control the Adjusted Monetary Base through their repo and POMO operations. I think that the larger aggregates are growing largely because people are “cashing out” equities and other risk assets (in addition to investors getting out of things like asset-backed commercial paper) and “parking” the “money” in things like large CD-type instruments. I’ll try to find a link to John Hussman’s long piece about this and post it later. Basically, the gist is that the larger money aggregates are reflecting the collapse of credit instruments (like ABCP) that were formerly not included in the aggregates, as ABCP and other instruments are “converted” into safer securities that do get picked up in M2, M3 (even though they don’t publish this anymore) and in the larger far money aggregates.
It gets sort of philosophical regarding what is the “money supply”, but I would argue that it makes much more sense to look at M1 and the Adjusted Monetary Base to the exclusion of the other aggregates, because they reflect what the Fed is ACTUALLY doing. I mean, in a very broad sense, I guess that the US residential housing stock over the past few years has consituted a large “shadow” money supply – people “cashed in” their equity and used the house as an ATM. That is now shutting down. So, that part of the “money supply” is shrinking furiously now, even while M3 is growing at 15 or 16% annualized. Of course, the increase in this “shadow” money supply from 2002-2006/7 was never picked up in any of the aggregates at the time. See? – it gets really tricky to try to pin down what the money supply is. That’s one of the reasons I focus only on aggregate debt/GDP (to get a sense at where on the pendulum between credit inflation and credit deflation we are likely to be) and the aggregates directly controlled by the Fed (M1 and AMB) – in order to figure out how the Fed is trying to influence that swinging pendulum. So far, they are sticking to their guns and deflating us. I do expect them to change course eventually, but a lot of pain lies between now and then!
Maybe someone should start a website chronicling failed government housing bailout schemes. Make a little table of “how it works” “who supports it” and “what happened in reality …”
then link to news articles and throw up some adwords.
Anyone?
I think the prevailing thesis here is that the government does not have the ability to make the problem go away. There’s no deus ex machina to return the financial and real estate markets to normalcy overnight. It took years to get into this mess, and it’ll take years to get out. And for once, I think Paulson is right on the money when he says the bailout ideas being tossed around would do more harm than good.
But nobody wants to yell, “Fire!” in a crowded theater. So they engage in damage control to stretch this out in an orderly fashion. But the end result will be the same: a material decrease in home prices across the country, and many parts of the world (except for Noe Valley, of course).
hey satchel, question for ya…
do you think the FED is actually decreasing m1, or, perhaps, moving m1 funds (treasuries) to banks more directly via the discount window and TAF?
if so, this may be less about the FED deflating and more about it shifting dollars to where they are needed (bank liquidity), esp via the anonymous (ie, not reported on like the discount window) TAF.
Wasn’t this “frothiness” a while back?
tony,
I don’t want to get too far off-topic (I always do that!), but what the Fed is doing is really relevant, and I guess Bernanke is the subject of this thread!
If I gave the impression that the Fed fully controls M1, I’m sorry – that’s not right. M1 includes things like demand and checkable deposits at banks, and the fed only influences things like that. BUT, the Fed can inject currency into circulation by buying treasuries on the open market (which increases its balance sheet). It hasn’t done this since March 2007.
The Fed does control the monteary base MUCH more closely, as that is basically reserves + currency in circulation. As the Fed directly controls required reserves, and indirectly currency in circulation through pruchases of treasuries, this base figure is almost wholly under control of the Fed (notice that even if the Fed injects a lot of currency, people could just stick it in their mattress, and so the base might rise and M1 fall – this is exactly what happened in Japan in the late 1990s/early 2000s).
You’re right that the Fed is using the TAF to “steer” reserves into the system. We see the results of this in the H.3 figures available from the St Louis Fed that have been kicked around on the web and show “negative” nonborrowed reserves (because the banks are borrowing ALL their reserves through the TAF). BUT, the deflation (or, at least “disinflation”) in the base and in M1 has been going on for a while, ever since Bernanke was installed. So, while they are shifting assets around to help the banks, there has been no shift in overall policy of trying to deflate the credit bubble and tip the US into recession. The Fed wants a recession and has wanted one for some time. Now, they are going to get it! They want the recession (and have actually engineered it now – at this time) because they fear a total collapse of the credit bubble. Better to try to deflate it.
I hope that’s helpful!
@cooper and anyone else who cares about this topic-
I could’t find the Hussman article about the monetary aggregates, but here is a good discussion by the guy who runs Shadow Stats (which now recontructs M3 after the Fed stopped tracking it – at least “officially”):
http://www.financialsense.com/editorials/williams_j/2008/0114.html
He does a good job describing the mechanics of what is going on. But I would caution that his conclusion that M3 growth is a precursor to rampant price inflation is flawed IMO, mostly because he runs his correlations only from 1970. The bulk of his data then are taken from a period of either high monetary inflation (1970-1982ish) or extreme credit inflation/price disinflation (1982-2006ish). I think he misses what is going on here, namely a credit deflation for the first time in the US economy since the early 1930s.
This guy does a reasonably good job IMO of laying out the argument that the Fed is deflating purposely, especially the article in the second link:
http://www.lewrockwell.com/north/north568.html
http://www.garynorth.com/public/3118.cfm
All three of these articles are well worth reading IMO, but there are literally hundreds of people out there arguing all sides of this, so we all get so confused we just sit tight with our houses and equities (in recessions, the average fall of equities is 30% in the modern era, and we’re probably half way through that now). Which is probably exactly what the Fed is counting on…..
The emotional responses to this make no sense. Buyers bought properties and bogus inflated prices. Now the loans used for that are falling apart. One option for lenders would be to reduce the principle to a more reasonable level since everyone now knows the properties are not worth the loans taken out against them. If banks short sell instead, then the result is about the same. To make a short sale they would have to find a buyer. Foreclosure puts properties in a risky situation, and again buyers would have to be found. Keeping a paying borrower in place makes a lot of sense for banks in a mess like this. How is it a problem for lenders and borrowers to negotiate like this? This was only ever conjured funny money to begin with.
As for applying this to cars or luggage, that won’t work. Everyone knows consumer purchases are nearly worthless for resale. This is about real estate which is different and also just went through a boom. How much equity lending was there using luggage or cars as collateral?
The taxpayer will eventually take the hit? How exactly is the US Government going to come up with trillions of dollars for that? Show your work, because there isn’t any way to do that. It simply isn’t possible mathematically. Paying for the war and social programs is already having to be reconsidered because the money isn’t there.
This is rescue attempt one or two or three or what? Please get real! There were liquidity problems so liquidity was made available. There are other problems so other steps were taken. It took dozens of moves from various parties to get things this messed up, so there is every reason to believe that the way out will involve all kinds of stuff. Note the new rules for appraisals? Where does that go in your counting list, or can you see that it just makes sense to try to fix regulations?
Wasn’t this frothiness a while back? That was Greenspan. When he left Ben Bernanke raised rates until the bubble burst and then took them back down when things started to melt down.
Satchel,
You are a huge part of the reason I read socketsite so please keep wandering “off topic” because I find your comments very educational.