Glenn Hubbard, President Bush’s Chairman of Economic Advisors, and now Dean of the Columbia Business School has an idea! Having failed to avoid steering us into a global economic panic, he now has a painless solution to all those “under water” mortgages that won’t cost anyone anything – in fact it will create wealth!
He creates a hypothetical mortgage – the house was bought for $225k, is now worth $175k, and has a $189k fixed rate mortgage. His painless “plan”? Order Freddie Mac and Fannie Mae to refinance that mortgage to a variable rate mortgage without any premium above prevailing rates due to high credit risk.
Problems with his “plan”:
– It’s hypothetical – many (most?) of the upside down mortgages are already floating rate
– many of those mortgages have second mortgages The terms of a mortgage cannot be renegotiated unless the seconds are paid off first or agree to the modification
– Who would buy these under-priced high-risk mortgages? (other than the Federal Reserve)
– his example has a 23% drop. The parts of the country with the biggest under water problems have declined 40%, and are still dropping
– after you refinance, the mortgage is still “under water”. If the house burns down, the homeowners need to move or otherwise move on with their lives, they still have to make up the difference between what they owe and what the house will bring (don’t forget the 6-7% real estate commission), or try to do a short sale
– by “freeing up” income, the homeowner is more likely to incur even more debt on other types of credit and make the problem worse
– If LIBOR starts to go up, in a few years, the mortgage will cost more than the fixed rate does now – LIBOR spiking up is what started this panic in the first place
– the entities holding those fixed rate mortgages will have a premature repayment of the mortgage, and won’t receive the interest income they had planned on. A lot of those are probably now hidden within the vaults of the Federal Reserve, which is where we are currently hiding all our catastrophic problems with no solutions. Depend on who holds the mortgages (which are possibly protected by credit default swaps) and where the replacement money comes from, some enormous windfalls are possible due to this government intervention.
