“The free market for all intents and purposes is dead in America.”
- Senator Jim Bunning, September 19, 2008
House Prices Go Vertical
The epic housing bubble and bust in the mid-to-late-2000s was dreadfully disruptive for many Americans. Some never recovered. Now the central planners have done it again…
On Tuesday, the Federal Housing Finance Agency (FHFA) released its U.S. House Price Index (HPI) for September. According to the FHFA HPI, U.S. house prices rose 18.5 percent from the third quarter of 2020 to the third quarter of 2021.
By comparison, consumer prices have increased 6.2 from a year ago. That’s running hot! But 6.2 percent consumer price inflation is nothing. House prices have inflated nearly 3 times as much over this same period.
Here in the Los Angeles Basin, for example, things are so out of whack you have to be rich to afford a 1,200 square foot fixer upper in a modest area. Yet the clever fellows in Washington have just the solution.
Massive house price inflation has prompted the FHFA, and the government sponsored enterprises (GSEs) it regulates, Fannie Mae and Freddie Mac, to jack up the limits of government backed loans to nearly a million bucks in some areas.
Specifically, the baseline conforming loan limit for 2022 will be $647,000, up nearly $100,000 from last year. In higher cost areas, conforming loans are 150 percent of baseline – or $970,800. What gives?
If you recall, ultra-low interest rates courtesy of the Federal Reserve following the dot com bubble and bust provided the initial gas for the 2000s housing bubble. However, the housing bubble was really inflated by Fannie Mae and Freddie Mac. The GSEs relaxed lending standards and, thus, funneled a seemingly endless supply of credit to the mortgage market.
The stated objective of these GSEs was to make housing affordable for Americans. But their efforts did the exact opposite.
The GSEs puffed up the housing bubble to a place where average Americans had no hope of ever being able to afford a place of their own. Then, when the pool of suckers dried up, about the time rampant fraud and abuse cracked the credit market, people got destroyed.
If you also recall, it wasn’t until credit markets froze over like the Alaskan tundra in late 2008 that the Fed first executed the radical monetary policies of quantitative easing (QE). To be clear, QE had nothing to do with the last housing bubble; ultra-low interest rates and GSE intervention did the trick on their own. QE came after.
But now, in the current housing bubble incarnation, the Fed’s been buying $40 billion in mortgage backed securities per month since June 2020. Is there any question why house prices have gone vertical over this time?
The Fed is now tapering back its mortgage and treasury purchases. This comes too little too late. And with Fannie Mae and Freddie Mac now jacking up their conforming loan limits, house prices could really jump off the charts.
We’ll have more on the current intervention efforts of these GSEs in just a moment. But first, to fully appreciate what they are up to, we must revisit the not too distant past…
A moral hazard is the idea that a person or party shielded from risk will behave differently than if they were fully exposed to the risk. A person who has automobile theft insurance, for instance, may be less careful about securing their car because the financial consequence of a stolen car would be endured by the insurance company.
Financial bail-outs, of both lenders and borrowers, by governments, central bankers, or other institutions, produce moral hazards; they encourage risky lending and risky speculation in the future because borrowers and lenders believe they will not carry the full burden of losses.
Do you remember the Savings and Loan crisis of the 1980s?
The U.S. Government picked up the tab – about $125 billion (a hefty amount at the time) – when over 1,000 savings and loan institutions failed. What you may not know is the seeds of crisis were propagated by Franklin Delano Roosevelt during the Great Depression when he established the Federal Deposit Insurance Company (FDIC) and the Federal Saving and Loan Insurance Company (FSLIC).
From then on, borrowers and bank lenders no longer had concern for losses – for they would be covered by the government. The Savings and Loan crisis confirmed this, and further propagated the moral hazard culminating in the subprime lending meltdown.
Obama’s big bank bailout of 2008-09 socialized the losses. Then the Fed’s QE and ultra-low interest rates furthered the moral hazard. These are now the origins of the current housing and mortgage market bubble…and future bust.
By guaranteeing mortgage securities up to nearly $1 million in some areas the government encourages risky lending by banks and speculation by investors. Banks are less prudent about who they loan money to because the loans will be securitized and sold to investors. Similarly, investors speculate on these securities because they are guaranteed by the government.
Once again, the government is promoting a “heads, I win…tails, you lose” milieu where banks and investors reap big profits taking on big risks and where the losses are socialized by tax payers. It also sets the stage for massive grift…
The Anatomy of a Swindler
FDR – the thirty-second U.S. President – was responsible for setting up Fannie Mae. But another FDR – Franklin Delano Raines – was responsible for running it into the ground.
The son of a Seattle janitor, FDR grew up knowing what it was like to have not. He concluded at a young age it was better to have.
Yet it was while mixing with Ivy Leaguers at Harvard University and Harvard Law School where he really refined his thinking. He came to believe the government should be responsible for supplying the have nots with tax payer sponsored philanthropy.
FDR came out of school with the wide eyed ambition of a lab rat. He was determined to sniff out his way to wealth…and once and for all, find that ever illusive cheese at the end of the maze.
The first corner he peered around smelled remarkably prospective. But he came up empty. Three years in the Carter Administration didn’t offer the compensation he’d dreamed of.
To have was better, remember. The next corner FDR peered around was much more lucrative. He did an 11 year stint at an investment bank.
But it was in 1991 when FDR got his big break. For it was then that he became Fannie Mae’s Vice Chairman. And it was then that he garnered hands on access to muck with the lives of millions. Still, he wasn’t quite sure how to go about it.
To learn such tips and tricks, FDR studied one of the true masters of our time…Bill Clinton. From 1996 to 1998, he was the Clinton Administration’s Director of the U.S. Office of Management and Budget. There he discovered you must have a vision…a mission…a delusion that is so grand and so absurd, the world will love you for it.
One evening, in the autumn of 1997, it came to him in a flash. Staring deep into the pot of his chicken soup, just as it approached boil, he hallucinated an image of a house. Suddenly a small part of the grey matter of his brain opened up…
For where Hoover had foreseen a chicken in every pot and a car in every garage, FDR now foresaw much, much more. A chicken and a car were not good enough. In FDR’s world, everyone should also get a house with a pot to cook the chicken in and a garage to park the car in. And he knew just how to give it to them.
Yet best of all, FDR also knew he could become remarkably rich pawning houses to the downtrodden. So in 1999, he returned to Fannie Mae as CEO and got to work on his master plan…
Fraudulent Earnings Statements
It was a pretty simple four point plan…
If low interest rates make housing more affordable, then even lower interest rates make housing even more affordable.
So, too, if 20 percent down put housing out of reach for some, then 10 percent down was better. And zero percent down was optimal.
Similarly, if a borrower’s credit score doesn’t meet the requisite credit standard, just relax the standard.
And lastly, if a borrower’s income is too low to qualify for a loan, just let them state what ever income it is that they must have to get the loan.
With the ground rules in place by 1999, FDR began the pilot program that would ultimately ruin the finances of the western world. It involved issuing bank loans to low to moderate income earners, and to ease credit requirements on loans that Fannie Mae purchased from banks.
FDR promoted the program stating that it would allow consumers who were, “A notch below what our current underwriting has required,” get a home.
Here’s how it worked…
Banks made loans to people to buy houses they really couldn’t afford. Fannie Mae bought the bad loans and bundled them together with good ones as mortgage backed securities. Wall Street then bought these mortgage backed securities, rated them AAA, and then sold them the world over…taking a nice cut for their services.
FDR had a heavy hand in the action too. By overstating earnings, and shifting losses, he pocketed the large bonuses a janitor’s son could only dream of. According to a September 19, 2008 article by Jonah Goldberg, titled, Washington Brewed the Poison, FDR “…made $52 million of his $90 million compensation package thanks in part to fraudulent earnings statements.”
Efforts to reform the scheme were stopped by the Democrats in Congress, who weren’t ready to give up the gravy train of money that flowed from Fannie Mae to their campaigns.
“Barack Obama, the Senate’s second-greatest recipient of donations from Fannie and Freddie after [Christopher] Dodd, did nothing.”
Now, just 13 years later, Fannie Mae and Freddie Mac are at it again…
Here We Go Again
On June 23, 2021, in Collins v. Yellen, the Supreme Court decided the President could remove the FHFA director without cause. The next day, President Biden replaced Trump’s director of the FHFA, Mark Calabria, with a temporary appointment.
FHFA, as noted above, regulates government-backed housing lenders Fannie Mae and Freddie Mac. Prior to getting his pink slip, Calabria had been working to reduce the harm these GSEs could do to the economy.
Biden’s replacement immediately reversed course, reinstituting the social engineering policies that brought down the housing market in 2008. Acting Director Sandra Thomas:
“There is a widespread lack of affordable housing and access to credit, especially in communities of color. It is FHFA’s duty through our regulated entities to ensure that all Americans have equal access to safe, decent, and affordable housing.”
One could mistake these words for those of Franklin Delano Raines. Certainly, the madness it fosters will be Raines like. The Wall Street Journal reports:
“The problem the [Biden] administration sees is that housing and rental prices are too high. The fact that the administration’s own policies have caused an inflationary trend in housing along with food, energy and gasoline, among others, is no deterrent.
“[…] the administration wants people who would otherwise rent to become homeowners. These young families would take on the risk and the burden of a mortgage, which the government—through Fannie Mae and Freddie Mac—will make much cheaper. Investors, of course, will buy these risky mortgages from Fannie and Freddie because they are backed by the government.
“Here we go again. The only difference between what the administration is proposing, and what brought about the 2008 financial crisis is that the economy is already in an inflationary period, induced by the administration’s other policies. This will make homeownership even riskier. In addition, Fannie and Freddie will be buying mortgages of up to $1 million, instead of $450,000.
“But the government’s lower underwriting standards drive down standards for private lenders, too. Banks and other mortgage lenders—if they want to stay in the business—have to offer their mortgages on similar terms. People who own homes then dive into the market to take advantage of the low down payments, and housing prices rise even faster. This encourages cash-out mortgages, in which homeowners reduce the equity in their homes, sometimes to buy a boat.
“The process goes on for years until prices are so high that sales growth falls and homeowners can’t sell their homes to pay off their mortgages. Housing prices then collapse, mortgages go unpaid. Banks, other lenders, and even Fannie and Freddie incur losses and another financial crisis begins.”
But wait, there’s more…
The Upshots of the New Housing Bubble Fiasco
House prices are already in bubble territory in many places across the county. At these prices, who’s buying?
Wall Street. Pension funds. BlackRock Inc. And many, many others…
Institutional investors have securitized the residential real estate market. Hundreds of firms are competing with regular house buyers. They’re also bidding up house prices.
Invitation Homes, for example, is a publicly traded company that was spun off from BlackRock in 2017. Invitation Homes gets billion dollar loans at interest rates around 1.4 percent – about half the rate of what regular house buyers get. Often times they just pay in cash.
According to a recent SEC disclosure, Invitation Homes’ portfolio of houses is worth $16 billion. The company collects about $1.9 billion in rent per year. Thus it takes only about eight years of rental payments to pay back a typical house that Invitation Homes has bought.
Invitation Homes now owns over 80,000 rental houses and has a market capitalization of $24.6 billion. The company has deep pockets. Regular house buyers cannot compete.
No doubt, this is an ugly situation. The ugliness hasn’t been created by institutional investors. They’re merely scratching for yield in a world where capital markets have been destroyed by the Fed. Of course, there’s no situation that’s too ugly for Washington to not make even uglier.
According to a recent White House fact sheet:
“As supply constraints have intensified, large investors have stepped up their real-estate purchases, including of single-family homes in urban and suburban areas. […]. Large investor purchases of single-family homes and conversion into rental properties speeds the transition of neighborhoods from homeownership to rental and drives up home prices for lower cost homes, making it harder for aspiring first-time and first-generation home buyers, among others, to buy a home. […]
“President Biden is committed to using every tool available in government to produce more affordable housing supply as quickly as possible, and to make supply available to families in need of affordable, quality housing – rather than to large investors.”
This logic validates FHFA jacking up the limits for conforming loans. Indeed, the clever fellows in Washington want to make housing more affordable by allowing more and more people to take on massive subsidized mortgages. The logic makes perfect sense…so long as you have the intelligence of a box of rocks.
We all know where this goes. We all know where this leads.
First time house buyers, competing with institutional investors, will use the government’s relaxed lending standards to chase prices higher and higher. Then, once the mortgage market is sufficiently riddled with fraud and corruption and tens of millions of Americans are tied into loans they cannot repay, the impossible will happen…
House prices will go down!
…along with the hopes and dreams of those that got sucked into this wickedness.
Sandra Thomas will be flummoxed. Congress will socialize the losses once again. And populace rage will be channeled into some new Occupy Wall Street movement. Then things will really get ugly.
These – and many more – are the upshots of the new housing bubble fiasco.