Why Seek a Recovery of Housing Prices?

Joan McCarter wrote at Daily Kos about Sen. Merkley’s new plan to boost the housing market, and suggests that it’s time to reconsider our approach to stopping the foreclosure crisis, keeping people in their homes, and keeping banks profitable.  Ms. McCarter is just one of a chorus of analysts who believe action is needed to save the housing market, but doesn’t that really just mean that they want to re-inflate a housing market that is trying to find its post-bubble equilibrium?

There are only three ways people who are upside down on their mortgages will get…downside up (?):  to re-inflate prices and bridge the gap between home value and the debt owed, or for buyers to pay on the notes until they aren’t upside down, or for the banks and government to work out of system of debt forgiveness.

Banks have a fiduciary responsibility to their investors to collect on the debts the bank is owed, not to help maintain the financial comfort of borrowers who made bad bets on over-priced homes.  The government has a legal responsibility to see that contracts mean something; simply forcing losses on banks (and bank investors) sets a negative precedent that casts doubt on the safety of investing in the U. S. financial system.  The law already for the declaration of bankruptcy for consumers and businesses who cannot meet their financial responsibilities, and the system of bankruptcy creates a cost for walking away from one’s financial commitments that is necessary for the stability and integrity of the  financial system.

Re-inflation of the housing market by offering subsidies for home purchases, or manipulation of monetary policy to push down interest rates, only works to re-create the conditions that caused the housing bubble in the first place.

In the end, the housing market will recover when prices fall to a point at which buyers are attracted.  Trying to save borrowers from the consequences of over-paying accomplishes nothing more than a shifting of their loss to the public, and investors.  The value represented by the decline in home prices can’t be recreated by any policy or program — the loss has to be felt either by the individuals that overpaid, or by the public and investors; there’s no clear benefit to shifting the loss, so no shift should be undertaken.

Some would argue that by relieving buyers of their losses, the money they would have spent on payments for overvalued homes could be redirected toward more economically productive spending.  However, any reduction in payment to the home buyers is also a reduction in revenue to investors; again, the loss can only be shifted, not erased, and there is no reason to believe that the buyers who made such bad bets in the first place are better qualified to make economically productive use of any increased purchasing power than investors would.  Even if we accept that both buyers and investors made bad bets on overpriced homes, and that neither party is better suited for making the best economic decisions, a shift in losses can’t create positive economic activity.