(An earlier version of this piece appeared on Forbes.com.)
Did you know that last year the Federal Reserve owned $1.8 trillion of mortgage-backed securities (MBS)? Twenty years ago, you’d have been laughed out of town if you suggested the Fed might ever own a trillion dollars of MBS. Now, it’s their standard operating procedure.
Buying all those MBS from Fannie Mae, Freddie Mac and Ginnie Mae after house prices crashed may have helped Wall Street but it didn’t help homeowners.
For the same amount of money, the Fed could have bought every house foreclosed on during the real estate bust. That is, the Fed could have bought, directly from the banks, all 7 million completed foreclosures from 2006 to 2013 for that $1.8 trillion.
And that number assumes they paid peak 2006 prices (about $250,000 per house) but in reality, foreclosures sell for far less than the original house sale price so the Fed could have bought all 7 million foreclosures for far less than the $1.8 trillion they paid for the MBS.
Those millions of foreclosures tanked house values.
- House prices fell by one-quarter,
- Home equity was cut in half,
- Consumer spending fell, and
- We had the worst recession since the Great Depression.
Financial Stability for Less
If the Fed had bought deeds instead of mortgage-backed securities, house prices wouldn’t have fallen as much, distressed sales would have been far fewer, and the actual cost to the Fed would have been far less than $1.8 trillion. Slowing the downward spiral in house prices would have also done wonders for the value of those bank-owned MBS the Fed was so worried about.
Converting all those foreclosed houses into rentals for a few years wouldn’t have caused an oversupply of rentals because for every foreclosure there’s a new family looking to rent. As the economy rebounded, the Fed could have sold their rental houses to families, stabilizing house prices during the recovery as well.
The whole thing would be a huge amount of work for the Fed but it’s not impossible. For example, during the Great Depression — long before computers and the internet — one federal agency refinanced 17% of all U.S. mortgages in three years.
Last decade, if the Fed had bought foreclosures instead of MBS, they would have cut the house price decline drastically and we would be calling it the 2008 Recession instead of the Great Recession. By now, the Fed would have likely sold off all the houses they bought during the bust, whereas today, they still own more than $1.5 trillion of MBS and it looks like they always will.
Update Fed Mandate
Or maybe to simplify things, we should just make sure the Fed’s “stable prices” mandate includes “stable house prices” and let the Fed figure out how to do it. Just give the Fed the authority it needs over mortgages to prevent bubbles. They’re good at stabilizing prices when they want to.
No Financial Dumping
Or maybe we should take an entirely different approach and hold the mortgage industry responsible for their own mistakes and don’t let them dump their mistakes on neighborhoods.
Maybe we should say interstate mortgage lenders, including FHA and Fannie Mae, can’t sell foreclosed houses for less than their original, lender approved, sales prices.
2 Options for Mortgage Lenders
If a mortgage lender made a mistake and after foreclosing on a house they find it’s worth less than the original (lender approved) sales price, they would have two options.
First, the lender could put some money into improving the house to bring up the price before selling it. The lender would often net more money on a fix and flip, anyway. Neighborhood house values and family wealth would definitely be hurt less.
Second, the lender could rent the place out for a few years until they can sell it for the original sale price. Due to inflation, the real price would be slowly falling every year but it wouldn’t be crashing.
What’s Good for the Goose
How do we know lenders would have enough cash during a down market to fix their mistakes? Maybe we require interstate mortgage lenders to buy insurance that would pay for improvements to foreclosed houses when the houses have to be upgraded in order to sell for their original (lender approved) purchase prices.
Of course, to protect themselves, mortgage lenders require house buyers who put less than 20% down to buy mortgage insurance. To protect our neighborhoods, especially our economically fragile neighborhoods, we could require mortgage lenders to buy “antidumping insurance” on their riskier mortgages so they won’t dump foreclosures on neighborhoods and, in downturns, tank house prices, family wealth and the U.S. economy.
Make Homeownership Stabilize Families Again
Decades ago, owning a house was an anchor for family stability. Now, if you happen to buy your first house in the wrong year, it can set your family back 10 years financially. You might never fully recover.
It doesn’t have to be that way. The Fed could step in and stop, or better yet, prevent real estate busts. Or we could stop the mortgage industry from dumping their financial pollution on neighborhoods and save the Fed a trillion or two. It’s a far better crazy idea than having the Fed buy $1.8 trillion in mortgage-backed securities.
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