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January 25, 2015

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The cost of letting the housing market ‘hit bottom’

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When large, important parts of a modern economy fail, like the banks or the housing market, policy makers have a choice. They can do nothing and hope that the problems will fix themselves, or they can limit the damage to vulnerable families by looking for responsible ways to help get the sector back up-and-running.

Intervening is not, of course, always the right path. Policy makers need to weigh the costs of intervention against the costs of waiting it out. As economists who worked on federal housing policy over the last several years, we were part of a team whose job it was to evaluate such questions after the housing market bubble burst in 2007 and 2008. It was clear to us – and many others – that there would be no quick fixes. Housing prices had risen to unsustainable levels, and tens of millions of American families needed to adjust to having far less equity in their homes. But it was equally clear that targeted, responsible policy measures could help some homeowners modify their mortgages and avoid foreclosure, while stabilizing the housing market sooner than would otherwise have occurred. President Obama actively pursued these policies.

The approach taken by President Obama stands in sharp contrast to the one advocated by Governor Romney, who argued here in Nevada that we should have simply let the housing market “hit bottom”.

Who was right?

We now have enough data from housing markets across the country to begin to answer this question. These data show that the policies pursued by the Obama Administration helped check a vicious cycle by which foreclosures lead to lower housing prices, which trigger yet more foreclosures. Had the housing market been allowed to “hit bottom” over the last three years, without public and private mortgage modification efforts or refinancing opportunities, housing prices would ultimately have fallen by 7-9 percent more. That would have hurt everyone who owns a home, not just for those who ran into trouble paying their mortgages. Letting the housing market hit bottom would have led to a deeper bottom than we actually experienced.

That additional 7-9 percent decline translates into $14,000 in additional lost housing wealth for the typical homeowner and $1 trillion in lost housing wealth in our economy as a whole. In Nevada, the impact would be even more acute. Beyond the severe damage this state’s homeowners have already endured, letting the housing market hit bottom would have caused the typical Nevada homeowner to lose an additional $25,000 in housing wealth.

Several programs introduced by the Obama administration, together with important actions taken by the private sector and the Federal Reserve, helped check the vicious cycle of foreclosures and declining housing prices.

First, about 2.4 million American families received permanent mortgage modifications through either the Home Affordable Mortgage Program (HAMP) or the Federal Housing Administration (FHA). Second, building off of the procedures and standards set by HAMP, the private sector has

offered mortgage modifications to an additional 2.9 million families. Third, about 1.7 million families have been able to refinance their mortgages and lower their monthly payments due to government-supported programs through Fannie Mae, Freddie Mac and the FHA. Fourth, Treasury and Federal Reserve interventions to keep interest rates low, and to make mortgage credit more easily available, have allowed an additional 11 million families to refinance.

In sum, out of the 50 million American families with a mortgage, there have been 18 million mortgage modifications and refinancings since President Obama’s housing programs went into effect. All together, these homeowners are saving well over $30 billion per year in mortgage payments.

Critically, more affordable mortgage payments not only allow families cover other bills – they also help families avoid foreclosure. Recent data suggests that around a third of modifications eventually prevent foreclosures, implying that housing assistance programs have already prevented about 1.4 million foreclosures. Without these programs, foreclosures would likely have been 50 percent higher, with devastating effects on many neighborhoods.

As we write this, home prices are finally beginning to rise again, even in some of the hardest hit markets. Most analysts now agree that the national housing market, while far from healthy, is on the mend. Had policymakers punted on the crisis and “let the market hit bottom,” not only might home prices still be falling, but millions more families would have lost their homes, and tens of millions of others would have experienced further collateral damage.

We know these policies can help. So why not continue to implement and expand these programs? Earlier this year, President Obama proposed a broad-based refinancing program that would give every responsible borrower a chance to benefit from lower interest rates. Economists Glenn Hubbard, Chris Mayer and Alan Boyce estimate that such an effort could benefit more than 11 million families. Based on the research we’ve described above, it could also prevent almost half a million foreclosures, boost housing prices by about 1.5 percent, and increase the typical family’s housing wealth by almost $2,700.

Millions of American families are still struggling, through no fault of their own, to deal with the bursting of the housing bubble in 2007 and 2008. Those who oppose the President’s refinancing program need to come forward with something better than an ideological preference to let the market “hit bottom” if they are going to continue to block this kind of common-sense benefit for homeowners in Nevada and across the country.

Carl Shapiro, a professor at the Haas School of Business at the University of California at Berkeley, served as a member of the President’s Council of Economic Advisers from 2011-2012. Pascal Noel is a former staffer on the White House National Economic Council.

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  1. Authors make a good point to a point. Government interference and regulations caused the real estate bubble in the first place. In fact, Washington DC and its politicians lulled Americans into believing they could all own homes even if they couldn't afford them. And then proceeded to allow them through the laws they enacted, or didn't enact, to buy them. So let's agree to compromise. Limit government intervention always especially in ways that prevent the very problems from occurring that they have to then fix. I believe Romney-Ryan get that point. Not sure Obama-Biden do even after 4 years on the job training.


  2. Romney has told us that we should let the free market correct the mortgage crises. The big problem is that this legendary free market created the housing bubble in the first place by mking it more profitable to write and then sell a bad mortgage than to write one that actually could be paid back by the lender.

    And, contrary to some propoganda I've seen, Wall Street greed created the housing bubble, not government regulation.

  3. Mr. Weber:

    With all due respect, you're wrong. Government regulations, perpetrated and passed during President Clinton's administration, and sustained by all the administrations after, removed restrictions on loan requirements to make home buying easier for Americans who otherwise could not afford to do. And the government, not Wall Street, put quotas on banks and mortgages to meet to force them to do so, else lose government funds. Wall Street capitalized on the easing and the inflated home prices and mortgages to spawn an industry in selling and buying worthless mortgage paper. All backed by Fannie Mae and Freddie Mac, which taxpayers ultimately had to bail out and are still.