The new $75 billion foreclosure avoidance plan to be unveiled today by President Obama, from initial reports, continues the misguided efforts of the Bush administration and Congress to “keep people in their homes” at all costs. Such policies only end up disserving taxpayers, the economy, and frequently troubled borrowers themselves.
There are many reasons for foreclosures, from borrowers getting into a house than they couldn’t afford to a job loss or other factors that cause loss of a family’s income. Whatever the cause of the homeowners’ troubles, the focus should not be primarily on keeping people in their homes, but on opportunities to improve their economic situation. If the government wants to spend $75 billion to help troubled homeowners, it would be better off giving a tax holiday to families subject to foreclosure, rather than attempts to stop the foreclosure from occurring that often have unintended consequences.
While all foreclosures are difficult, they are sometimes the least bad option for an individual borrower. They allow borrowers to walk away from both the home and the loan, at a cost to their credit rating, but not nearly as big a hit as they would take if they declared a personal bankruptcy.
Having borrowers continue to pay into a bad loan, even with reduced payments, takes away money they could be using to start over. Redefault rates from existing government-backed loan modification programs indicate that they are often ineffective. And in the case of borrowers facing job losses, staying in one’s home while being saddled with a mortgage can delay the necessary step of moving to an area with more job opportunities.
It would also be unfortunate if, as reports indicate, President Obama endorses legislation in Congress creating a bankruptcy “cramdown” or other efforts to abrogate mortgage contracts. Mortgage-backed securities frequently aren’t owned by banks, but by investors, and those investors include pensions and mutual funds that belong to middle-class families. The government’s forcing or encouraging the abrogation of mortgage contracts could cause a hit to middle-class retirement savings. And it could also further tighten credit and drive up borrowing costs for American businesses and consumers due to the possibility of contract abrogation in the future.
Democrats and Republicans should focus on the truly “progressive” goal of helping victims of the financial crisis improve their economic situation, rather than ambitious efforts to keep people in their homes that can often lead to negative consequences for taxpayers, mobility in the economy, and borrowers themselves.