It’s time for principal reductions
It’s been over two years since my last flurry of enthusiasm for the Baker-Samwick own-to-rent proposal, and over four years since the op-ed from Dean Baker and Andrew Samwick first published in August 2007. It’s been so long, in fact, that it seems to have disappeared from the Providence-Journal website; fortunately, Dean Baker has mirrored it here.
The idea is very simple, and is based on the idea that there’s a difference between foreclosure and eviction. A bank can foreclose on a house, and seize it and/or sell it to settle the mortgage. But once that has happened, there’s no need to kick the homeowner out of the house. Instead, rent the house back to the homeowner at market rates. This keeps people in their homes, reduces foreclosure sales, stops houses being trashed when they’re foreclosed upon, and even maximizes the income stream from homes in default on their mortgages.
Since then, a couple of interesting things have happened.
For one thing, despite the fact that legislation along such lines has gone nowhere, independent actors have started putting it into practice on a case-by-case basis anyway. Elyse Cherry of Boston Community Capital has an op-ed explaining her scheme, called Stabilizing Urban Neighborhoods, which seems to be going very well. And Jorge Newbery, of American Homeowner Preservation, tried his own version of the plan, which involved negotiating short-sales with individual banks and giving homeowners the option to rebuy their homes. When banks refused to cooperate, he moved on to Plan B, which involves buying up pools of distressed mortgages himself, and then working them out with himself as the mortgage holder. That has been so successful and profitable that he’s setting up a socially-responsible hedge fund designed to do these workouts at scale.
Now comes word that Greg Lippmann, of all people — one of the big winners of the subprime bust, and a man who became extraordinarily wealthy playing in the mortgage CDS market — is thinking along similar lines himself.
“Principal reductions are necessary to help ameliorate the housing crisis,” Lippmann, chief investment officer for New York-based hedge fund LibreMax Capital LLC, said in an Oct. 31 letter to investors obtained by Bloomberg News. The step will also lower losses on loans underlying mortgage bonds, he said.
In other words, Lippmann sees what’s pretty obvious — principal reductions are not only helpful but necessary if the housing mess is going to clear. The question isn’t whether they’re going to happen, it’s how they’re going to happen.
After all, every foreclosure or short sale is, in its own way, a principal reduction. And FHFA chief Ed DeMarco, a steadfast opponent of principal reductions, is pushing instead plans where foreclosed homes are turned into rentals.
So it’s really not much of a stretch to put the two together, and just add the minor twist that the person who ends up renting the home should be the same person who used to own it.
Yes, there is a little moral hazard here — it is possible that people who would otherwise remain current on their mortgage will now happily default on it instead, safe in the knowledge that they can simply rent their home after they default, with lower monthly payments.
It’s possible. But the fact is that foreclosures and evictions themselves are much more hazardous to the housing market than an entirely hypothetical moral-hazard problem on the part of homeowners who have diligently been paying their mortgages for the past three years. Mass foreclosures, along with the subsequent fire-sales of distressed property, devastate real-estate values; anything which can bring those numbers down is going to be good for the housing market.
So let’s try this one more time, shall we? If red-in-tooth-and-claw capitalists like Greg Lippmann think that principal reduction is a good idea whose time has come, maybe even Ed DeMarco — who acts, after all, on behalf of all Americans — might come round to the idea, one day.