Helping the Housing Recovery in Three Steps - Part Two

Today I present part two in my colleague Tamara Lemmon's series on helping the Housing Recovery as published first on foreclosure.com:

"The second point of progress needed for recovery involves an influx of available capital. If the result of a moratorium on foreclosures is to stimulate the traditional real estate market by stabilizing prices, then we would expect to see new home buyers entering the market. What is occurring, in fact, is exactly the opposite. 80% of all property closings in Las Vegas this year were sold to investors, with 60% being cash deals. A better solution for stimulating property sales would involve providing incentives to lending institutions who agree to allocate a certain mandatory amount of cash to home loans.

This should not be confused with a suggestion to incentivize new homebuyers. Many government incentive programs initiated since the real estate bubble burst have focused on providing down payment assistance, and other subsidies, to potential new homeowners. This seems counter-intuitive to protecting the housing market against another decline. One of the factors contributing to the housing market collapse in 2007 was the large number of zero down payment loans granted to individuals with questionable credit worthiness. Providing down payment assistance to potential home buyers, who could not otherwise provide their own down payment, could effectively short circuit this important qualification measure that ensures the stability of those entering into mortgage contracts.

Instead, it would be helpful to provide incentives to banks who are willing to loan money to potential home buyers with reasonable credit. Basic laws of supply and demand dictate that an increase in demand will raise prices in any market. An artificial lack of demand in the housing market has been created by the inability of the majority of potential homebuyers to obtain a home loan. According to a survey released by the Federal Reserve, 43 out of 52 banks surveyed said they were less likely to provide a mortgage to a borrower with 620 credit score and 10% down then they were in 2006. Even when the borrower’s score was raised to 680, again with a 10% down payment, 36 banks were still less likely to make the loan. This credit crunch has hampered the housing recovery significantly, as many worthy, potential home buyers have been turned into renters by the lack of available funding. The Wall Street Journal noted that, “The tighter underwriting standards have helped to limit any price or transaction recovery in the housing market.” Rather than directing government stimulus money towards incentivizing lending institutions to negotiate loan modifications and short sales, the incentive money would be better spent encouraging banks to write new loans, thereby increasing demand, leading to sustainably higher home prices.

An interesting side note to this discussion is the fact that, as the availability of mortgage debt for the typical American has declined, the demand and ready supply of consumer debt has increased. The same survey of senior loan officers showed that as banks were tightening standards for mortgages they were loosening lending requirements for credit cards and other consumer loans. Since mortgage debt is one of the few debt items that can be considered a long term positive for borrowers, and the use of consumer debt is always negative for the individual, the increase in consumer debt at the expense of mortgage credit cannot be seen as a positive indicator for the health of the economy."