Ed DeMarco, the acting director of the Federal Housing Finance Agency (FHFA), got it right by putting taxpayers’ interests ahead of the Obama Administration’s wishes.
DeMarco, whose agency controls Fannie Mae and Freddie Mac, says that the anticipated benefits of reducing loan amounts of underwater mortgages “do not outweigh the costs and risks” of allowing the housing finance giants to participate in the Home Affordable Modification Program Principal Reduction Alternative (HAMP PRA), which uses leftover bank bailout money to pay mortgage owners who agree to reduce loan balances.
Because the FHFA has the “multiple responsibilities to conserve the assets of Fannie Mae and Freddie Mac, maximize assistance to homeowners to avoid foreclosures, and minimize the expense of such assistance to taxpayers, FHFA concluded that HAMP PRA did not clearly improve foreclosure avoidance while reducing costs to taxpayers relative to the approaches in place today. [Emphasis added.]”
As he has been in the past on this issue, DeMarco is right. The FHFA’s analysis clearly shows that when all the costs to the taxpayer are considered, HAMP PRA would end up costing them significantly more. Most of the savings the Administration claims would come from refinancing homes that are a year or more behind in payments and where the borrower owes more than 40 percent more than the house is currently worth. These mortgages are almost certain to be foreclosed no matter what is offered.
FHFA’s analysis shows that at best, taxpayer’s might save a total of $100 million to $500 million, but that is before considering the incentive that homeowners who are currently up to date in the payments (and thus are ineligible for the Obama program) would have to stop paying so that they could also participate.
This moral hazard sends exactly the wrong signal to troubled borrowers, and if only 3,000 to 19,000 of those homeowners (between 0.2 percent and 1.3 percent of the eligible borrowers) stopped paying their mortgages, even those savings disappear. As the agency notes, many consumer groups and analysts have already urged homeowners to strategically default so that they could be eligible to have their loan amounts reduced.
In response, Treasury Secretary Tim Geithner wrote a letter to DeMarco declaring that he does not believe DeMarco’s position “is the best decision for the country” and “I urge you to reconsider this decision.” Geithner also sent yet another Treasury analysis backing up the Administration’s position.
However, the FHFA report also shows that reducing the loan amount of underwater mortgages may very well not be necessary. An equally important factor for borrowers is the reduction in the amount of the monthly payment, which can come if a borrower can refinance to take advantage of today’s low interest rates.
The assumption behind reductions in the amount of the loan is that the underwater borrower will assume that the house will never recover its value, and therefore the best way to avoid losses is to walk away from the loan. However, the U.S. housing market is gradually recovering in most areas, so homeowners now can hope with some reason that many of their homes will eventually recover their lost value.
As the FHFA report shows that over half of all underwater loans are located in just five states, and almost three-quarters are located in just 10 states, a better course for the Administration would be to shelve its unsuccessful and expensive refinancing programs that reduce the amount owed and replace them with smaller, more targeted regional programs that focus on reducing payment amounts by using today’s low interest rates.
DeMarco has done taxpayers a major favor by refusing to buckle to political pressure. It is time for the Obama Administration to drop their efforts to reduce the loan amounts of underwater mortgages and focus on better ways to enable housing to recover.
