Opinion

The Great Debate

First 100 days: A fix for the housing crisis

February 26, 2009

Elena Panaritis – Elena Panaritis is an institutional economist. She spearheaded property rights reform while working at the World Bank, and lectures at Insead, The Wharton School and Johns Hopkins University-SAIS. A social entrepreneur, she now heads the investment advisory firm Panel Group. Her recent book is “Prosperity Unbound: Building Property Markets with Trust”. The views expressed are her own. —

In his speech to Congress, President Obama spoke of how the proper response to the economic crisis is not just a matter of immediate fixes, but also an opportunity to make investments that will serve the nation’s long-term interests. The same idea should govern the housing recovery plan. Otherwise, we get nothing more than a crutch when we need a cure.homesales

As much as short-term help is needed to keep more people from foreclosure, there is a big opportunity to get to the end of the crisis by starting at the beginning of the problem. The conventional wisdom is that subprime mortgages represent the beginning. In fact, the beginning goes back much further. The current crisis stems from the absence of a system that provides stability to the value of properties in the United States.

Instead, real estate “value” in the United States continues to be set through speculation, and that undermines the security – that is, the underlying asset – when mortgages are traded as part of complex financial instruments. We cannot ignore a simple truth of economics: if we are going to treat mortgages as securities, then they must be secured by the tangible asset: namely, land and buildings. To do otherwise has proven to be a recipe for disaster.

The opportunity before the U.S. government with a housing recovery plan is to set up a new system that will keep us from ever getting to this crisis point again. How? The devil is in the details.

It’s no accident that other countries, even those that trade mortgages as financial instruments (such as Australia and Canada) have avoided the levels of off-the-cuff valuation of property we’ve seen in the United States. The reason is that other countries have standardized the information needed to determine the genuine value of real estate and hence mortgage valuation.

This information – actual boundaries, property transfers, claims, liens, and so on – is made available to everyone. The system is sound and transparent. And where do they keep this information? In national property registries, which maintain all the data, in a standardized format, that buyers and sellers need to undertake transactions related to real property.

The United States has a broken registry system, and instead of ever fixing it allowed a title insurance industry to arise as a substitute. Title insurance is non-transparent and (at best) inconsistently regulated, yet it is the main system through which information about property valuation flows. Plus, you have to pay for the information. This leads to all sorts of problems, and fuels speculation.

The Obama Administration’s housing recovery plan ought to look forward. Help people facing foreclosure today, yes, but also establish a national, standardized property registry responsible for the collection of all titles and all information about characteristics of property. Even statewide registries would be a tremendous improvement.

The first step is to mandate an agency to gather whatever exists in state and local registries and title insurance companies around the country, no matter how inadequate, and centralize and standardize that information. Then, establish a mechanism for making this information available to all. Further, figure out how to fill in the missing information. Finally, create a system for the registry to provide remediation in the case of errors.

It is critical that we correct how the value of real estate is established. By finally securing the asset, we can guarantee long-term price stability and rid the system of the speculation that has put us in this crisis. Let’s look at the current housing crisis as an opportunity to make this long-term fix.

This isn’t about setting property prices now and letting them remain static. Rather, it’s about letting a dynamic property market flourish in a way that protects Americans from having to bail out banks or themselves in the future.

Comments
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Her assessment of the title insurance industry and oversimplification of land registry makes about as much sense as writing a book called “How to Live Like a Millionaire” and then having the first line of the book read “First, get a million dollars…”. The absolutely staggering cost of retroactively obtaining all the information that she references is prohibitive. Who would pay for this? Currently, many local county governments are evolving and are incorporating new technology to make real property information available to anyone with a computer and an internet connection. Unfortunately, it takes a great deal of time and money to obtain the necessary software and to digitize public records, and many smaller counties simply cannot foot the bill. Providing smaller counties with grants to implement these systems would help to pave the way for this information to be freely available. The author further fails to inform the reader that property information, tax information, and property appraisal information is already available to anyone with the expertise to obtain it. Title insurance companies provide a service: they have the expertise to amass all of the necessary information about a particular property from an array of different sources, and then they compile that information into a format that is more easily understandable for the average lay person. The free market decides how much a property is worth: does the author propose governmental controls on the valuation of property? Is that her “magic bullet” to fix the housing mess? Governmental programs that purport to make housing “affordable” to all are at the root of this mess. Loans made to people who didn’t have the ability to repay further exacerbated the problem. Allowing unrestricted leveraging of assets by financial institutions added fuel to the fire. Tying compensation for mortgage company employees to the dollar volume of loans further ignited the greed in these institutions, driving loan officers and their managers to push for the highest loans they could, regardless of the need of the borrower. They encouraged borrower’s to “stretch”, that is, to take on loans that they might not be able to afford today, but hey, in a couple of years you plan on making more money, right? The higher the loan, the higher the commission. Stack other incentives on top of this, like a “tiered” commission structure, whereby loan officers and their managers garnered a higher commission after clearing certain dollar levels, and you’ve created and environment which invites people to employ virtually any methodology they can think of in order to maximize their commissions, including but not limited to: falsification of records, high pressure sales tactics, pressuring property appraisers to “adjust” the value of properties or face the threat of lost future appraisal business–the list goes on and on. The root of the problem is not property valuations–these are only symptoms of the underlying problems. Property valuations, more particularly artificially inflated property valuations, greed, fraud, mismanagement–these are some of the root issues for the current crisis. Allowing Wall Street to basically “short sell” mortgage backed securities and CDFs–taking the profit upfront seemed like a good idea–as long as we could rely on property values increasing. When the trend reversed, we ended up in this mess. Ask anyone who sells commodities to define a “margin call”: what we are facing right now is a “margin call”, but we’ve allowed the perpetrators to get off scott free–they’ve already absconded with the money, leaving the American taxpayer holding the bag. (Isn’t this exactly what sank New Century, arguably to first domino to fall? They package their loans, then sold them off. When the investors determined they hadn’t gotten what they paid for, they invoked a buy back of the loans, and New Century could afford the “margin call”). The beauty of the scam? How do you hold the individuals responsible for this mess personally accountable, when so many of them are no longer even in the real estate industry. They got in, originated a bunch of loans, pocketed the commissions, and then got out. The knee jerk reaction would be to go after those who are currently managing these institutions, but they too, in many instances, have been left holding the bag. I don’t have the answers, but I do believe I have a vastly greater understanding of the underlying problems than the author of this “piece”. Her indictment of the title insurance industry is an indication of her abject ignorance on the subject.

Posted by Sonny Livesay | Report as abusive
 

Gina, UScitizen,
naive protectionism is not the cure for the problems plaguing the job market and economy. If you don’t believe this then maybe you should listen to the words of Dallas Federal Reserve President – “Let me just be blunt. Protectionism is the crack cocaine of economics. It may provide a high. It’s addictive and it leads to economic death” (http://money.cnn.com/2009/02/02/news/ec onomy/fisher_protectionism.reut/index.ht m)

Companies should always have the opportunity to fill any role with the best and brightest available and I’m sorry if it offends you if sometimes this is not a US citizen. Perhaps you would prefer the US to stifle innovation and live like a hermit in the middle of the world, blocking all immigration. Also, what about all the foreign students attending US universities and spending much more than any citizen does. I suppose we should just boot them back from where they came from? Do you really think they would come and spend their money if this was what was waiting for them – an ass kicking and no job? Get real.

Posted by Dave | Report as abusive
 

Its worth considering the psychology of the average home owner verses the property investor. The average home owner is an emotional buyer, and usually spends as much money as they can get their hands on to, to buy their ‘dream home’. When banks offer more money to them (like no-deposit loans in US, UK, Australia), they compete with each other and offer more money to buy a given property, pushing the price up. If the amount all personal use buyers could borrow was limited, the price the properties would be sold for to this group would be reduced, and the loan more affordable to repay.

The property investor, on the other hand, looks cold and hard at:
a) Rent returns; will they get a good return on the money they’ve invested.
b) Increase in property prices.

Not being an emotional buyer, they walk away from sales were emotional buyers are pushing prices beyond what give them a return on ivestment.

As property prices are falling, the investor will be looking for rental returns, so a good gauge of a properties true worth at the moment is to look at its probable rent return, less running costs. As the property prices in UK, US & Australia had increased by 300%-500% from 2000-2007, I’d suspect that the investor looking for rental returns to justify their investment is yet to re-enter the market.

Posted by web_monkey | Report as abusive
 

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