Mortgaged Home, Sweet Mortgaged Home

Obama announced more details on his bailout plan that was focused more on borrowers instead of the lenders.  He released a four page fact sheet here.  There are three portions and The Economist does a pretty good job of summarizing them here.

First, the administration will increase the number of homeowners able to refinance at current, low mortgage rates. Borrowers whose mortgages are owned or guaranteed by Fannie Mae or Freddie Mac will be able to refinance a loan up to 105% of the home’s value (up from 80%, previously). This is expected to help about 4 to 5 million households who owe nearly as much or more than the value of their homes. This seems like a reasonable step to take, though as Calculated Risk notes, it’s a bit of a lottery. Those whose mortgages haven’t been purchased by Fannie or Freddie are basically out of luck.

The second part is the one that’s grabbed headlines; the president has dedicated $75 billion toward efforts to prevent foreclosures. Chief among these efforts is a plan to reduce monthly payments for troubled borrowers. For those spending greater than 38% of their income on mortgage payments, up to 43%, the government will ask lenders to reduce interest rates to bring payments down to the 38% level. The government will then match lender dollars, one-for-one, in bringing down interest payments until the borrower is only spending 31% of income. Both borrower and lender will be eligible for $1000 payments when payments are reworked, and if the planned payments are made. If it’s necessary to reduce principle, then Treasury will provide assistance with this, as well.

This portion of the plan has drawn criticism, since many homeowners with too-large payments are those who took on irresponsible loan structures or who simply purchased too much house—who behaved irresponsibly, in other words. Ideally, officials would no doubt prefer not to help such borrowers (just as they’d no doubt prefer to let bankers who’d made bad decisions go under). But frankly, that’s not a top concern of mine. Rather, I’m interested in whether or not this is the best way to use $75 billion to halt foreclosures.

The Economist has two concerns.  The first is that it may just delay foreclosure rather than solve it because:

… interest payments are being reduced first, and principle written down only as a last resort (such that many who take advantage of the programme will nonetheless remain underwater). Perhaps, but by trying to leave principle alone, the government is avoiding excessive transfers of wealth to borrowers. A shared-equity plan might have been better, but this will halt some foreclosures and incent homeowners to stay in their homes longer.

The second issue there are enough incentives in the bill to rework the payments.  On this point, they say:

Presumably, it’s already in the interest of lenders to reduce payments rather than foreclose, so it’s unclear whether $1000 is going to alter the balance. This, I think, is a more serious point. The housing plan passed last year to help rework problem mortgages seriously underperformed—where some 400,000 borrowers were deemed to be eligible, actual applications numbered in the tens.

The third portion of the plan seeks to “strengthen” Fannie and Freddie and to keep mortgage credit available and loan terms to ensure housing affordability.   The amount  scheduled for this is $200 billion.

David Leonhardt of the New York Times had this to say. His  blog thread concentrates on who is most likely to benefit from the plan.  If you watched Obama’s speech, supposedly  the plan won’t help the ‘irresponsible’ speculator.  Leonhardt questions if the plan can successfully separate the homeowner is trouble by purchase motives.

But the lines aren’t quite as clear as Mr. Obama suggested. In fact, his plan will end up helping a fair number of people who bought homes that they should have known they would never be able to afford. The core of the plan gives banks a financial incentive to reduce many mortgage payments to no more than 31 percent of a borrower’s income.

Which homeowners will benefit from this reduction?

Certainly, some who took out a reasonable mortgage and later lost their job will be helped. But people who bought too much house — and banks that allowed people to do so, or even encouraged them to do so — will also benefit. As distasteful as this may be, it’s the only way to make a serious dent in foreclosures and, in the process, to help the financial system.

These same political calculations help explain the public emphasis that the White House is giving to the relatively modest steps it is taking to help underwater homeowners — those with a mortgage worth more than the value of their house — who can afford their monthly payments.

The actual details of the plan aren’t due out until March 4th when it goes into effect.  Market Watch had some interesting statistics for the plan today.  Here are the number of homeowners the plan itself says it will help.

The bill is supposed to help s many as 9 million households in fending off foreclosures:

• Allows 4 million–5 million homeowners to refinance via government-sponsored mortgage giants Fannie Mae and Freddie Mac.
• Establishes $75 billion fund to reduce homeowners’ monthly payments.
• Develops uniform rules for loan modifications across the mortgage industry.
• Bolsters Fannie and Freddie by buying more of their shares.
• Allows Fannie and Freddie to hold $900 billion in mortgage-backed securities — a $50 billion increase