Brookings Institute is an economic policy think tank in Washington DC. Brennan Hoban of Brookings has a proposal to redesign the mortgage market.
But it is hard to take this proposal seriously since … Ginnie Mae INSURES mortgages, they do not purchase them from lenders.
True, non-bank lenders like Quicken Loans (and now Amazon is jumping into the mortgage lending arena) are originating more loans than traditional bank lenders.
The author points out that 1) non-bank lenders like Quicken Loans are more vulnerable to liquidity problems if problems arise and 2) analysis should be performed at a local level, not just the national level.
Liquidity is only a problem if the non-bank lenders retain the loans on their balance sheet. Generally, they are sold to Fannie and Freddie or receive a Ginnie guarantee and bundled for securitization. True, Countrywide (an S&L) was originating and securitizing but still was caught with declining liquidity when the private label market died. But that is a manageable problem, even for non-bank lenders like Quicken Loans.
I pointed out this same argument about understanding local markets in my paper “The subprime crisis and its role in the financial crisis” in Journal of Housing Economics where I showed that individual housing markets are can be relatively uncorrelated, then suddenly be highly correlated.
Third, one of the proposals they consider would automatically index mortgage payments to local economic conditions. Under this proposal, mortgages wouldn’t operate under a rigid contract that sets a fixed or variable rate. Instead, payments would automatically adjust as local economic conditions change. Because such a system would circumvent financial intermediaries, homeowners could see much faster debt relief during economic downturns.
Sound good? This is a variation of the idea that mortgage principal owed could be scaled to home value, preventing the phenomenon of so-called “negative equity.” It would provide debt relief as conditions worsen, but are financial institutions ready to lend and underwrite such loans? It doesn’t solve the problem of lenders using excessively low down payments or low credit standards which result in default when there is a recession. The solution is not with a complex mortgage that reduces amount owed when conditions worsen, but for lenders to originate high quality mortgages.
Relying on ex-post gimmicks like the Obama Administration’s Home Affordable Refinancing Program (HARP) and the Home Affordable Modification Program (HAMP) to reduce loan defaults are a great political solution, but they were relatively ineffective in preventing default (loads of RE-defaults since the problem was really job loss).
I am sure some lenders will try tying mortgage balance to local property prices, but generally any adjustable payment or rate product is met with skepticism from borrowers. Will the amount owed and mortgage payment rise when property values rise, as in San Francisco?
Past attempts like the Price Level Adjusted Mortgage (PLAM) were disastrous. We should probably stick to PLUMS (Price Level UNadjusted Mortgages).
Sticking to well-known underwriting standards that have proven to have low default rates is the way to go. And PLUMS, not PLAMS.