The recession has caused real estate prices to plummet. There have been only a few pauses. The government at all levels (federal and state) doesn’t know what to do so they resort to expensive and ineffective rescue programs. Several economists and “experts” in real estate have repeatedly called the bottom of this market, only to be proven wrong again.
WHAT GET US TO THIS SITUATION?
1. The federal level was where politicians decided that everyone should have a home. This was started by the 1977 Community Reinvestment Act, which was launched under Carter. Clinton then took it up again, and it has remained a goal for Bush and Obama.
2. Wall Street bankers and mortgage brokers all over the country promoted bogus financing schemes such as option ARMs. These are only viable in an environment of stable employment and escalating prices. Many of these loans were securitized by banks without regard for loan quality.
3. The government entities were in too much trouble and did not act in the best interest of their management. Fannie and Freddie require more than $100 billion in taxpayer bailout money, and they’re not done yet. The FHA continues to support loans with only 3.5% down payments, which only adds to the problem.
4. Rating agencies became too caught up in the excitement and forgot to do their job. The highest ratings were given to groups (tranches), of garbage mortgages by these agencies.
5. A lot of people took out mortgages they couldn’t repay, either out of ignorance or fraud.
I believe we are now at a stage where prices will continue to fall in most areas for the next few years. You can see the income to price ratios in many major markets, including California, to prove this doubtful. These areas are not worth the current valuations because of the low household incomes.
IDEAS TO FIX THE PROBLEM
1. Politicians must stop believing that everyone should have a home. Renting is fine. People who don’t have the means to purchase a home should rent.
2. Banks (and rating agencies) must be tightly regulated and financial instruments used by them. Option ARMs should be eliminated and interest-only loans restricted to professionals who are well versed in the subject. Before any bankers can implement new ideas, they must be thoroughly reviewed by the government. Banks should mark to sell the properties they have, so that they can recognize the true value and extent of their inventories. This will make some banks insolvent but it is better than nothing.
3. Fannie and Freddie should be gotten rid of, although they might need to be gradually wound down over the course of five years. FHA should not insure loans where the down payment exceeds 10% of the purchase price.
The government must get out of the picture, and banks need to behave like responsible adults. The real property note is created by an owner financing arrangement between a buyer and seller. This model allows for transparency and helps to make good decisions. In order to encourage good lending practices, banks need to keep large amounts of their loans.
The short-term solution to the real estate market’s problems is not possible. It needs to continue its course and learn from past mistakes. The above suggestions will help us get rid of the current “extend-and-pretend” scenarios and bring us back to stability in a few years.