by Bill McBride on 1/31/2010 11:01:00 AM
Sunday, January 31, 2010
To the extent that the crisis was fueled by a “bubble” in the housing market, the Federal Government’s concerted efforts to support home prices risk re-inflating that bubble in light of the Government’s effective takeover of the housing market through purchases and guarantees, either direct or implicit, of nearly all of the residential mortgage market.From Office of the Special Inspector General for the Troubled Asset Relief Program: Quarterly Report to Congress, January 30, 2010 (ht Ronald Orol, MarketWatch)
The following SIGTARP table shows the government support of the residential market (note: a few smaller program are not included for simplicity). This is from Section 3 of the report that discusses these programs:
Section 3 concludes:
Mechanisms for Supporting Home PricesThis flow chart from the report shows the possible mechanisms for supporting house prices.
Supporting home prices is an explicit policy goal of the Government. As the White House stated in the announcement of HAMP for example, “President Obama’s programs to prevent foreclosures will help bolster home prices.”384
In general, housing obeys the laws of supply and demand: higher demand leads to higher prices. Because increasing access to credit increases the pool of potential home buyers, increasing access to credit boosts home prices. The Federal Reserve can thus boost home prices by either lowering general interest rates or purchasing mortgages and MBS. Both actions, which the Federal Reserve is pursuing, have the effect of lowering interest rates, which increases demand by permitting borrowers to afford a higher home price on a given income. Similarly, the Administration is boosting home prices by encouraging bank lending (such as through TARP) and by instituting purchase incentives such as the First-Time Homebuyer Tax Credit. All of these actions increase the demand for homes, which increases home prices. In addition to direct Government activity, home prices can be lifted by general expectations among homebuyers of future price increases. Figure 3.7 provides a graphic representation of the relationship between possible Government actions and their impact on home prices.
We've been discussing this for some time, and there is a good chance that house prices will fall further as the government support is withdrawn since house prices appear too high based on price-to-income and price-to-rent ratios.
Other key points:
• To the extent that huge, interconnected, “too big to fail” institutions contributed to the crisis, those institutions are now even larger, in part because of the substantial subsidies provided by TARP and other bailout programs.
• To the extent that institutions were previously incentivized to take reckless risks through a “heads, I win; tails, the Government will bail me out” mentality, the market is more convinced than ever that the Government will step in as necessary to save systemically significant institutions. This perception was reinforced when TARP was extended until October 3, 2010, thus permitting Treasury to maintain a war chest of potential rescue funding at the same time that banks that have shown questionable ability to return to profitability (and in some cases are posting multi-billion-dollar losses) are exiting TARP programs.
• To the extent that large institutions’ risky behavior resulted from the desire to justify ever-greater bonuses — and indeed, the race appears to be on for TARP recipients to exit the program in order to avoid its pay restrictions — the current bonus season demonstrates that although there have been some improvements in the form that bonus compensation takes for some executives, there has been little fundamental change in the excessive compensation culture on Wall Street.
Posted by Bill McBride on 1/31/2010 11:01:00 AM