I have long argued that home prices are elevated, and until they normalize, the economy will be stuck in the doldrums. I even wrote a chapter of Bailout Nation, titled “The Virtue of Foreclosure.” I make a basic economic argument that the excess credit of the 2001-07 era is unwinding, and foreclosures are part of that process.
The simple premise is that the abdication of lending standards by both bank and nonbank lenders created an enormous credit bubble. Easy money drove home prices to unsustainable and unaffordable levels. People bought homes far more expensive than they could reasonably afford. Many assumed they would be able to refinance, paying for the excess costs by cashing out the price appreciation everyone knew was sure to follow.
Of course, we know what happened next. Prices rose unsustainably, credit tightened up, and the supply of greater fools abated. So much for the real estate perpetual motion machine.
What we were left with was an oversupply of new homes, and 4-8 million people in homes they couldn’t really afford. When measure by traditional metrics like median price to median income, costs of ownership relative to renting, or Homes as a % of GDP, houses were extremely expensive.
Running 300,000 monthly foreclosures — on pace to do 3 million foreclosures this year — the prior boom process is now unwinding. Excess prices are normalizing — but they still remain somewhat elevated compared to historical ratios. Perverse though it may be, the mass Foreclosures are helping to drive prices back to normalized historic levels.
Although this process is a necessary evil, Politicians of all stripes hate it. Between the NAR and NAHB, they have ready lobby fighting market forces. The lobbyists shamelessly ignore the role their members played in blowing up the bubble, and how they encouraged irresponsible and in many cases illegal behavior. The NAR and the NAHB have yet to offer up their mea culpas for their contributions to the mess, but their roles were substantial.
All of the home mortgage modification programs and foreclosure abatements are attempts by politicos to “ease the pain.” These programs have proven themselves to be ineffective in preventing defaulting mortgages from going into foreclosure. More than 50% of all mods slip into foreclosure again, and in some instances, we see 70-80% delinquency rates.
But the real question is “Why are we trying?” Except for those instances where there has been fraud or predatory lending, we really should not intervene. The foreclosure process is restoring prices to where they should be. (Note I suggested a voluntary program last year that helped banks forestall writedowns, and allowed viable homeowners to keep their houses, but also lowered prices).
Now comes the latest attempt by politicians to intervene in the housing market: Expanding the about to expire, $8,000, first time home buyers tax credit to a $15,000 credit for everyone. This is counter productive. (Won’t that just make prices more expensive?) The lobbyists want to goose the housing market by any means possible — even if it is an expensive and unhealthy method.
A recent Brookings Institute analysis (found via Barrons) demonstrates persuasively that the $8,000 subsidy actually costs $43,000 per extra house sold; worse yet, the new $15k tax credit will ultimately cost $292,000 per home.
How does that math work? :
“[The] refundable tax credit, which was part of the February stimulus bill, gives $8,000 to first-time homebuyers (but is phased out at higher incomes). It is scheduled to expire on December 1, 2009, although the sponsor of the initial proposal, Senator Johnny Isakson, now wants to extend the credit for another year, and expand it to $15,000. This extension would be a mistake.
Approximately 1.9 million buyers are expected to receive the credit, but more than 85 percent of these would have bought a home without the credit. This suggests a price tax of about $15 billion – which is twice what Congress intended – for approximately 350,000 additional home sales. At $43,000 per new home sale, this is a very expensive subsidy . . .
An extension and expansion of the tax credit will cost far more than the $15 billion of the current credit, likely in excess of an additional $30 billion. And the cost per new house sale will likely be much higher going forward, as a greater proportion of the sales will be for those who would have bought anyway, without the credit. (emphasis added)
In a latter posting, Gayer does the math on the new tax credit: A one-year, $15,000 tax credit apply to all home buyers, would cost the Treasury ~$73.9 billion. Gayer estimates that beyond the people who would have purchased homes anyway, the increase in house sales would be about 253,000. Each extra home sales costs the Treasury $292,000 ($73.9 billion divided by 253,000.)
Randall Forsyth points out a lower (but still absurd) figures calculated by the NAHB:
The National Association of Home Builders, not exactly a disinterested bunch, figures the subsidy would boost house sales considerably more, by 700,000 homes. That implies each of those additional sales would cost American taxpayers only $133,000 — still “a very expensive and poorly targeted subsidy,” writes Gayer.
Its one thing to argue as to whether the government should be so brazenly intervening into the housing market, and I can understand reasonable people disagreeing. But the subsidy — whether its $133,000 or $292,000 — is absurd.
Extending and Expanding the Homebuyer Tax Credit Is a Bad Idea
The Brookings Institution, October 9, 2009
Homebuyers’ Handout — Worse Than Cash for Clunkers
Randall W. Forsyth
Barron’s OCTOBER 21, 2009
More on the Homebuyer Tax Credit
The Brookings Institution, October 14, 2009