The Foreclosure Settlement: A Leaky Refuge
March 2, 2012 § 2 Comments
Last week, an agreement emerged between state attorneys general, major mortgage brokers, and the federal government, and everyone who has watched the US housing market since its collapse in 2007 suddenly had some good news.
Or maybe not.
Housing is an important bellwether for gauging an economy’s health. How do you know the US economy’s health sucks right now? Sure, you hear that borrowing has fallen and investment is down. Worse, you haven’t heard back from that non-profit marketing company where you sent a resume –nor from any of those restaurants where you applied as a back-up plan–and the jobless numbers, though decreasing, are still pitifully high. But check the pulse of the housing market. A house is more than a home; it’s also a way of protecting your money against inflation.
More than a home
As prices rise over time, the dollar loses its value. That’s inflation. But if you put that dollar towards a house, you’ve made a wise move: you’ve turned your money, whose value falls over time, into something–a house–whose price will rise over time.
We’ve gotten really creative in how to take advantage of this situation, too. With a mortgage, you might borrow money to buy a home from a bank. Here’s why it can be useful: once again, with inflation, the dollar sheds value, meaning it gets easier–over a long period of time–to pay back the money you borrowed, e.g., $75,000 now is worth a lot less than $75,000 was worth in 1985, or even 1995. Meanwhile, as prices rise, the value of your home rises, too. So your investment pays off, and your net worth has grown over time. When home values are healthy, homeowners are in good shape. Taken together, the economy is performing well.
In theory, anyway.
For this whole thing to work, the value of housing needs to continue to rise. The value or price of something is always driven by one thing: demand. If demand for housing evaporates, then home values will follow suit. This puts homeowners with mortgages in a terribly awkward position. Suddenly, your one possession that was supposed to be a safe haven for your money–your house–has failed you. You might owe the bank more on your mortgage than your home is even now worth. And that debt isn’t just going to pack up and disappear any time soon. If you can’t pay, the bank will foreclose.
Bedeviled by debt
This brings us back to the original point: why the housing market can reveal so much about the economy’s health. The larger the size of homeowner debt, the greater the burden of debt is on the economy as a whole. Owing somebody money is the near opposite of having money on hand to spend. Consumption and private investment suffocate under the dead weight of debt. This is why the Obama administration must do more to assist struggling homeowners: the burden of privately-held debt is so large, it’s one of the last remaining obstacles to the US economy’s full recovery.
The faulty foreclosure settlement in the Midwest
Five years after the housing bust, how has the Midwest fared? While foreclosure rates here are not nearly as high as in Nevada, by far the worst-off state, or even California, the next hardest-hit, the Midwest is perhaps struggling the most as a region. Here are January’s foreclosure numbers, courtesy of RealtyTrac. These are only the latest rates, so they don’t give an exact picture of the overall health of each state’s housing markets over the past five years, but suffice it to say that most of the Midwest was hit hard.
- Michigan currently has the highest foreclosure rate, with 1 in every 354 homes foreclosed.
- Illinois follows, with 1 in every 369.
- Indiana, with 1 in every 555.
- Ohio, with 1 in 616, and Wisconsin, with 1 in 620, are in a dead heat.
- Missouri is one of the country’s better-off states, with a foreclosure rate of 1 in 1074.
You’ve likely heard of the evidence that, in the past few years, banks have abused their power to foreclose on homeowners. Many banks illegally moved ahead with foreclosures without yet having filed the proper paperwork. California Attorney General Kamala Harris and New York Attorney General Eric Schneidermann have fought and sued for restitution from the mortgage industry’s biggest players–including JPMorgan Chase & Co., Bank of America, and Wells Fargo. To avoid facing 50 such lawsuits at once, the industry has settled with state attorneys general offering $26 billion in relief to homeowners who are underwater on their mortgages–which describes half of all mortgage-holders–owing more in mortgage payments than their homes are worth.
Here’s how the Midwest fared in the settlement:
- Michigan will get $500 million in relief.
- Illinois, although its foreclosure rate is slightly less than Michigan’s, will receive $1 billion.
- Indiana will get $145 million.
- Ohio will get $335 million.
- Wisconsin is to receive $140 million, but Gov. Scott Walker wants to use this to balance the state’s budget.
- Missouri wants to do something similar with the $200 million it will receive.
It obviously raises concerns that, in Missouri and Wisconsin at least, money meant to help homeowners will instead go toward closing budget gaps left by tax cuts for businesses. But this is a small problem compared to the larger question: why only $26 billion?
Representative John Conyers (D) of Michigan, in an open letter, demanded that states reject the “paltry sum” banks were offering in exchange for being let off the hook in the foreclosure crisis. $26 billion is indeed paltry compared to the estimated $841 billion in outstanding mortgage debt that continues to suffocate homeowners. As Conyers points out, for Michigan alone, it would take $19 billion to relieve underwater homeowners of their debt burden. It seems for the banking industry, a little goes a long way: for $26 billion, banks have potentially saved themselves from ponying up the hundreds of billions of dollars for which they are likely liable, amounting to a second bailout.
Serious economic thinkers across the spectrum, from Democrat Alan Blinder to Republican Martin Feldstein to New York Fed President William Dudley, believe that there is only one solution — writing down the enormous creaking mound of debt. This solution is currently off the table, because writing down these unsustainable debts could cost our fragile banks enormous sums of money and possibly lead to a restructuring of one or more of our major banks.
For us, this suggests two things: the housing crisis in the Midwest is going to continue for a long time to come, and to do something about it, we’ll need a creative bottom-up response where the top-down solution has fallen far too short.
Mark Jacobs edits the MSCS blog.