The housing clearance sale and market’s role

Bank of America on Wednesday announced an $8.5 billion settlement for investors who bought its toxic mortgage bonds before the housing crash.

For the homeowners who took out those toxic mortgages, the settlement delivers … nothing.

It’s only natural for Americans to feel disgusted in the aftermath of the real-estate bust. People want more sanctions against those who profited during the boom, more relief from a badly distressed market and, yes, a perp walk, or two, or three.

In recent weeks, on a number of fronts, big banks have been held accountable for mortgage-related misdeeds, and we’re pleased about that. The Bank of America settlement is the biggest reckoning yet from the 2008 crisis.

But it’s unrealistic to expect government and the courts to solve the larger problem: During the housing boom, Americans borrowed more than they ever could afford. Bad loans exceed property values by at least $700 billion, a staggering figure. Some borrowers were conned into those mortgages, some lied and cheated to get them. Many acted in good faith but got caught in a historic collapse.

Another lawsuit won’t solve this massive problem, nor will another government program. Only the market can do that, and we have to allow it to function. In effect, America is witnessing a huge clearance sale on houses and condos. Prices are falling, and that hurts the sellers. Foreclosures are picking up, forcing people to give up their homes. The pain is real and, sadly, unavoidable.

From President Barack Obama on down, though, policymakers feel the urge to intervene. Another costly plan to bail out underwater mortgages or prop up real-estate prices would only delay the inevitable outcome. That’s not conjecture. That’s what we’re learning from experience.

Consider the Home Affordable Modification Program ― HAMP ― the government’s signature effort to keep people in their homes by cutting the cost of their mortgages. Banks typically offer to stretch out the loan term to 40 years and defer part of the loan amount, thereby lowering interest charges. But for borrowers to qualify, the reduced monthly payment can be no more than 31 percent of total income. At that level, the homeowner has a good chance of making the payments.

Far fewer homeowners have qualified than the government anticipated when it rolled out HAMP in 2009. The No. 1 reason: they have insufficient income.

Many big banks have launched separate programs to modify mortgages for those whose payments would consume closer to 40 percent of their incomes. A larger number of people qualify for those efforts, but still far fewer than the number who don’t.

Forgiving all or a large part of the loan balances would save the day, from the borrower’s point of view.

But who would absorb the cost? The banks, putting them on shakier financial ground? The government, which already is $14 trillion in debt and facing a showdown in Congress over deficit spending?

Individual circumstances vary so widely. Some homeowners have no job, and little prospect of meeting even a reduced mortgage payment. Some are current on their mortgage payments but living in a home that’s worth far less than the loan amount, blocking the prospect of moving up. Some just made a bad bet on a vacation cottage.

The government and courts can’t sort this out as efficiently as the marketplace. In the end, most of the properties whose owners can’t afford them will have to be sold at whatever price they can fetch.

The housing debacle has put a drag on the overall economy. Some of the same analysts who thought prices would start to bounce back in 2010 now say 2012 or beyond. No doubt a jobs recovery would be the best antidote, both to revive housing prices and give homeowners a fighting chance to keep up on payments. A jobs recovery rests on the confidence of business leaders in the future of the U.S. economy. The sooner the real-estate market gets back on track, the faster the economy will grow. But we’re not going to be able to avoid this inevitable clearance sale.

(The Chicago Tribune, June 29)