❄ Keeping Householders in Their Homes
The full force of the Great Recession struck in September 2008, but a ‘perfect storm’ had been brewing from the onset of GW Bush’s second term. The main force of White House responses, in the last year of the GW Bush administration and first year of Barack Obama’s, was to secure those financial institutions which were so large and so unsound that their failure could have crippled the US and global economies. Only in small ways, and tardily, did Government directly address the human consequences of the Great Banks’s hubris and disregard. The Great Recession’s effects on the people were harshest in job losses and, in turn, home foreclosures. This note is focused on one aspect of the Great Recession only: foreclosures.
The Question
Imagine ‘home security’, an assurance akin to familiar ‘social security’ or ‘unemployment insurance’. How could home security be designed to meet four compelling criteria: that it be [a] practical, [b] politically acceptable, [c] fair to homeowners, acknowledging their equity in their homes, and [d] fair to those citizens who would benefit only indirectly from the assurance, not as actual mortgagees in trouble?
Approaches
As a starting-point for discussion, I’ll put on the table a design I’ll call ‘Home Security’.
The central idea of Home Security is that every person have a right to reside in a house or condo he or she is buying but that is subject to a mortgage. If for any reason he or she becomes unable to meet mortgage payments, payments will be met by the Home Security Assurance. In turn, automatically, the HSA will become co-owner of the house. If the householder's circumstances improve, she or he may buy back the HSA’s share, or any part of it. If the householder elects to sell the house, the HSA’s share must be paid to HSA and the original mortgage discharged. Any remaining value goes to the seller.
In one sense, this is a simple scheme. It institutes an intermediary between the mortgagee and the original lender. The HSB insulates the original lender from the buyer’s unexpected inability to pay on the mortgage; but in return the HSB’s share of the house becomes a superior lien on the proceeds at time of sale. The original lender also gives up the right of foreclosure.
There must be some conditions, to ensure this is a home security program, not a giveaway. These are:
[a] the HSA must appraise the house at time of purchase and may decline to guarantee if price ‘significantly exceeds’ value;
[b] buyer must make a ‘significant; down payment’, so that buyer has equity at risk;
[c] the lending bank must retain ownership, and risk, of the mortgage;
[d] at time of sale, if the sale price will not fully reimburse HSA and fully discharge the mortgage, HSA shall have the authority to prevent the sale.
It’s easy to imagine doubts, groans, and eyes rolling at this proposal. Who will fund the Home Security Assurance? Won’t householders scam the system? Won’t even sober homeowners be tempted to withhold their mortgage payment in a ‘difficult’ month and use the money instead for—say—a child’s college costs? Doesn’t this prevent ordinary banks from doing what banks ordinarily do? And what about that very hard case, which so many houses being ‘underwater’ today makes clear, in which the market value of a house has declined so that even selling it will not meet obligations? What, then, of the householder who must move to another city? What are their options?
If your assignment were to design Home Security Assurance, you might imagine an institution that was government-owned or government-guaranteed, a non-profit entity. It’s income would come from government, fees from lenders when HSA paid the mortgage, householder repurchase of ownership shares, and net increases in value of its partial ownerships paid at time of sale. It would come into existence gradually, avoiding a massive start-up cost. [Any state or city which chose to accelerate start-up could do so by contributing to the initial pool.]
Just as an exercise, imagine that 1,000,000 householders were unable to meet their mortgage in a given month, and that their monthly payments averaged $1800. HSA would need to pay banks $1,800,000,000 in that month, if the facility were universal, or $21,600,000,000 in a year. But in return HSA would become owner of housing stock of approximately equal value. In a stable market an equilibrium would be reached at which HSA’s layout to lenders equalled its income from other sources. It would be a revolving fund.
How would we calculate HSA’s ownership share? For simplicity, just take payment divided by original sale price. If the original price was $200,000, and the payment is $2000, for making the payment in one month HSA acquires 1% of the house. But if the householder contributes $1000, HSA pays only $1000 and acquires only 0.5% of the house, or 6% in a year. The householder’s incentive to protect equity ownership remains.
[For comparison to actual experience, consider that in the second quarter 2007 the number of US mortgages in default was “just over” one million.] [Note 1]
As another exercise, work out what would happen when the householder had ceded his or her entire equity to HSA, not having had a job for two or three years and having had little equity in the house to begin with. How could homelessness be prevented?
My first thought is that as equity dwindled householder would have an increased incentive to sell, conserving some portion of realized equity for rent in new quarters. The problem of rent relief in extremis is for another day.
NOTES
[Note 1] http://www.gao.gov/products/GAO-08-78R
[Political Design 2010.05.02. Post A21. http://www.learnworld.com/blog/design.html or http://design.learnworld.com/]
The Question
Imagine ‘home security’, an assurance akin to familiar ‘social security’ or ‘unemployment insurance’. How could home security be designed to meet four compelling criteria: that it be [a] practical, [b] politically acceptable, [c] fair to homeowners, acknowledging their equity in their homes, and [d] fair to those citizens who would benefit only indirectly from the assurance, not as actual mortgagees in trouble?
Approaches
As a starting-point for discussion, I’ll put on the table a design I’ll call ‘Home Security’.
The central idea of Home Security is that every person have a right to reside in a house or condo he or she is buying but that is subject to a mortgage. If for any reason he or she becomes unable to meet mortgage payments, payments will be met by the Home Security Assurance. In turn, automatically, the HSA will become co-owner of the house. If the householder's circumstances improve, she or he may buy back the HSA’s share, or any part of it. If the householder elects to sell the house, the HSA’s share must be paid to HSA and the original mortgage discharged. Any remaining value goes to the seller.
In one sense, this is a simple scheme. It institutes an intermediary between the mortgagee and the original lender. The HSB insulates the original lender from the buyer’s unexpected inability to pay on the mortgage; but in return the HSB’s share of the house becomes a superior lien on the proceeds at time of sale. The original lender also gives up the right of foreclosure.
There must be some conditions, to ensure this is a home security program, not a giveaway. These are:
[a] the HSA must appraise the house at time of purchase and may decline to guarantee if price ‘significantly exceeds’ value;
[b] buyer must make a ‘significant; down payment’, so that buyer has equity at risk;
[c] the lending bank must retain ownership, and risk, of the mortgage;
[d] at time of sale, if the sale price will not fully reimburse HSA and fully discharge the mortgage, HSA shall have the authority to prevent the sale.
It’s easy to imagine doubts, groans, and eyes rolling at this proposal. Who will fund the Home Security Assurance? Won’t householders scam the system? Won’t even sober homeowners be tempted to withhold their mortgage payment in a ‘difficult’ month and use the money instead for—say—a child’s college costs? Doesn’t this prevent ordinary banks from doing what banks ordinarily do? And what about that very hard case, which so many houses being ‘underwater’ today makes clear, in which the market value of a house has declined so that even selling it will not meet obligations? What, then, of the householder who must move to another city? What are their options?
If your assignment were to design Home Security Assurance, you might imagine an institution that was government-owned or government-guaranteed, a non-profit entity. It’s income would come from government, fees from lenders when HSA paid the mortgage, householder repurchase of ownership shares, and net increases in value of its partial ownerships paid at time of sale. It would come into existence gradually, avoiding a massive start-up cost. [Any state or city which chose to accelerate start-up could do so by contributing to the initial pool.]
Just as an exercise, imagine that 1,000,000 householders were unable to meet their mortgage in a given month, and that their monthly payments averaged $1800. HSA would need to pay banks $1,800,000,000 in that month, if the facility were universal, or $21,600,000,000 in a year. But in return HSA would become owner of housing stock of approximately equal value. In a stable market an equilibrium would be reached at which HSA’s layout to lenders equalled its income from other sources. It would be a revolving fund.
How would we calculate HSA’s ownership share? For simplicity, just take payment divided by original sale price. If the original price was $200,000, and the payment is $2000, for making the payment in one month HSA acquires 1% of the house. But if the householder contributes $1000, HSA pays only $1000 and acquires only 0.5% of the house, or 6% in a year. The householder’s incentive to protect equity ownership remains.
[For comparison to actual experience, consider that in the second quarter 2007 the number of US mortgages in default was “just over” one million.] [Note 1]
As another exercise, work out what would happen when the householder had ceded his or her entire equity to HSA, not having had a job for two or three years and having had little equity in the house to begin with. How could homelessness be prevented?
My first thought is that as equity dwindled householder would have an increased incentive to sell, conserving some portion of realized equity for rent in new quarters. The problem of rent relief in extremis is for another day.
NOTES
[Note 1] http://www.gao.gov/products/GAO-08-78R
[Political Design 2010.05.02. Post A21. http://www.learnworld.com/blog/design.html or http://design.learnworld.com/]
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