New 4.5% Mortgage Plan: Might Help, But Won’t Fix


The Treasury’s new plan to save the economy by lowering mortgage rates to 4.5% will probably help a bit. Specifically, it should:

  • ease the pressure on the housing market by luring more buyers into the game by making houses temporarily more “affordable”
  • free up some consumer cash to be spent on consumption (or savings) again by reducing the portion of spending that goes to debt service.
  • buy the economy more time to successfully transition away from a “build and sell each other houses for a living” economy to some other kind of economy (any guesses?) without putting half the country out of work.

The plan is not, however, likely to stop house prices from falling, stem foreclosures, or turn the economy around. As currently described, it also won’t help consumers shrink their debt loads (because it only applies to new purchases, not refinancings–though this could easily be changed). If implemented before Obama takes over, it will also likely force the new Administration to continue it.

The key issues:

  • The announcement of the plan (via planted leaks to the WSJ) will now freeze what’s left of the housing market completely, while buyers wait for the new mortgage rates. So the Treasury had better cracking on implementing (or junking) it.
  • The plan must be expanded to include mortgage refinancings. Otherwise, it will shaft all those stupid and unlucky enough to have bought houses in the last couple of years, many of whom will now watch themselves go belly up while their luckier friends cash in on Bailout Nation.
  • The plan will only help those who aren’t already underwater on their houses, which is already more than 10% of homeowners. These folks are still in trouble, and the number of them is still rising fast.
  • The plan would likely result in a short burst of house purchasing, as those “on the sidelines” rush to take advantage of rates before the government lets them jump again.  This might temporarily slow or stall the decline in house prices.  In relatively short order, however, the folks on the sidelines would all be in the game again…at which point house prices would likely start falling again–in part because they still have yet to reach fair value, and in part because so much of the country is still struggling. Mass layoffs, for example, have only begun.
  • The plan could end up being mind-bogglingly expensive.  How much Fannie and Freddie debt will the government have to buy to keep mortgage rates anchored at 4.5% when consumer credit standards are still deteriorating? Anyone’s guess. Several hundred billion dollars worth, for starters.
  • The plan won’t suddenly spur a resurgence in consumer spending.  Don’t forget that a bit percentage of the economy’s growth in recent years has come from home-equity-withdrawals: consumers using their houses as ATM machines. To use your house as an ATM machine, the house has to keep increasing in price, otherwise it soon runs out. Unless the mortgage plan actually gets house prices increasing again (translation: reinflates the housing bubble), this source of spending money is gone for a good long while.
  • If the plan is implemented before Obama takes over, he will be forced to continue it–or risk disrupting all the house sales and mortgage issuances that have begun as a result of the new low rates (and screwing consumers in the process).  
  • If the plan does slow the fall of house prices but doesn’t stop them, the government will be forced to continue it indefinitely…or risk a sudden “catch-up” drop in house prices (and a collapse of the economy) as the country adjusts to unsubsidized rates. The support could therefore be required to last for years.

Best case scenario, in our opinion, the new plan will slow the rate at which house prices are falling and make the “adjustment” to the new reality less violent. It will probably also stretch out the time it takes the country to work through the crisis (by postponing the inevitable). Given the rate at which the economy is deteriorating, however, shallower-but-longer may just be better than deeper-and-shorter.

See Also: The Treasury’s Latest Plan To Save Housing and Economy