Good News is Bad News

The Washington Post reported today:

Goldman Sachs announced first quarter earnings this afternoon that were far better than analysts expected and said it would raise $5 billion through a stock offering in order to repay taxpayer funds.

Goldman, which received $10 billion in federal rescue funds, said it would use the money from the stock sale "plus additional resources" to return the full amount of the government investment "after the completion of the stress assessment, if permitted by our supervisors and if supported by the results of the stress assessment."

The stress testing of 19 large banks by the government is to be completed later this month. Goldman is widely expected to pass.

Good news?

Not according to the Washington Post:

While six smaller banks have returned federal funds, analysts say Goldman's move to exit from the Troubled Assets Relief Program will put pressure on other large banks to follow suit, threatening to diminish the government's efforts to stabilize the financial system and support new lending to consumers and businesses.

"What is the rational move of every other CEO? They're going to say, 'I have to pay back my TARP money too'," said Brad Hintz, of Bernstein Research. "What is in the interest of Goldman and its shareholders and the best interest of the broader financial services world may not be the same thing."

The concern is that healthy banks, by returning government money, could put pressure on less healthy firms to do the same when they should be focused on conserving resources. Federal officials, including banking regulators, also worry that the market may lose confidence in those banks that are unable to repay the money, damaging their prospects further.

So it would have been good news if Goldman Sachs had been unable to repay the loan and reported as such? It seems to me that--just maybe--its good news that a leading financial institution is able to raise money on the open market. After all, the freezing up of the credit markets and decline in market confidence are major parts of the problem.

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Foreclosure Roundup

The Baltimore Sun reports foreclosures are up 150% in Maryland this year:

Lenders were trying to foreclose on more than 13,000 homeowners at the end of last year, up about 150 percent from a year earlier, the Mortgage Bankers Association said yesterday. That's the biggest 12-month increase since the trade group began tracking the state numbers in 1979.

The Washington Post reports that the foreclosure rate is double that of last year around the nation with the Washington region well below the national foreclosure rate:

The crisis in home lending reached another milestone with the report from the Mortgage Bankers Association, which said that 2.04 percent of outstanding mortgages were in foreclosure in the fourth quarter of last year, an all-time high. A year earlier, 1.19 percent of loans were in foreclosure.

In the Washington region, foreclosure rates were below the national level: In the District, 1 percent of loans were in foreclosure; in Virginia, 1.01 percent; and in Maryland, 1.22 percent.

Over 30% of the nation's foreclosures in just California and Florida alone.

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On the Conservative Mortgage Crisis Meme

The standard conservative response to the mortgage crisis is about the same as Herbert Hoover's initial response to the Great Depression: do nothing. As George F. Will more or less said on "This Week" last Sunday and wrote in his regular column, the government should not reward people who bet on the upward housing price spiral and lost. In short, they took a risk and they should face the consequences. We're only encouraging more defaults if we do anything to help the dolts who got themselves into trouble.

If only it were so simple.

The housing price rise was stimulated by strong demand for new housing. While a number of factors undoubtedly drove housing prices upward, easier access to credit was surely one of the more important ones. More people had easy access to money so more people had money to spend on buying houses and prices rose.

Credit was made much cheaper--artificially stimulating demand and jacking up housing prices--through several factors, including:

(1) Loans requiring no down payment. People who "buy" homes with these loans start with no equity in their home. If prices decline, it becomes hard to refinance since they already owe more money than the value of their home. Moreover, portions of these loans usually have extra-high rates because of the extra risk.

(2) Lending too much. When I bought a home, I was amazed at how much money lenders were willing give me. Indeed, brokers offered around twice as much debt as I could reasonably expect to service without radical life changes. Since many loans are sold within days of closing, brokers generate income by lending money but feel no long-term responsibility for the ability of the borrowers to service the loan.

(3) Interest-only mortgages. The hot lending instrument of the decades, interest-only loans are tempting because the payments are lower. However, the buyer doesn't acquire an asset as with more traditional mortgages.

(4) Adjustable-rate mortgages (ARMs). Once upon a time, Americans used to almost always buy homes with fixed-rate mortgages. While not as new as interest-only loans, higher prices led a lot more borrowers to turn toward these mortgages because the lower interest rates are more affordable--in the short term. The payments can become much more expensive if interest rates rise, even as modestly as they have recently by historic standards.

(5) The combo platter. Of course, many of the above options were often wrapped into a single loan. As housing prices soared, more Americans sought more complex loans which have turned out to be unaffordable just to get into the game.

I am not sure how government should respond to this crisis in terms of either how to help people in danger of losing their homes or to prevent it in the future. The one measure which strikes me as immediately sensible is eliminating the mortgage-home-interest tax break for new interest-only loans taken out to buy properties of greater value than currently owned by the homeowner since the point of the tax credit is to help people acquire a home.

As we do figure out how to handle this problem, it is important to remember that most people borrowed money to have a place to live--not as a means of cashing in on the country's housing price boom. And the boom made the American dream of owning your home that much riskier. While this doesn't mean that the federal government, or the Federal Reserve, should rush to bail out borrowers or lenders with bad loans, it does mean that the question deserves a far closer look than implied by conservative pundits.

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