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Major Policy Shift -- or Politics as Usual?

Over the past few weeks, market's have been rather volatile, swinging wildly between triple digit gains and losses, closing at the highs and lows of the day. The sub-prime debacle, the credit crunch, the liquidity situation -- all turn out to be pressuring markets. The ongoing fear is that there are more bodies that will be floating up to the surface, and this will eventually crimp the economy.

This entire week has been a grand lead up to Federal Reserve Chairmen Ben Bernanke's major address on Housing woes at 10:00am.

Then, something rather intriguing occurred. Sometime last night, the White House announced that the President will deliver a speech -- at 11:00 am today.

I found that rather curious.

The WSJ reported that the key provision of the policy initiative as an "administrative change to allow the Federal Housing Administration, which insures mortgages for low- and middle-income borrowers, to guarantee loans for delinquent borrowers."

Schaeffers Research notes:

"Traders seem to have packed away concerns regarding a speech by Federal Reserve Chairman Ben Bernanke, focusing instead on aid for subprime lenders being hinted at by the Bush administration. According to The Wall Street Journal, about an hour after Bernanke's speech, Bush is expected to announce plans for a change in the Federal Housing Administration mortgage insurance program to allow more people to refinance with FHA insurance if they fall behind on adjustable-rate mortgages. The change would allow 80,000 more homeowners in 2008 to receive federally insured mortgages on top of the 160,000 projected to use the insurance, the Journal reported."
-Bush Trumps Bernanke, Futures Surge Higher.

80,000 homeowners? That's a drop in the bucket of the millions of resetting sub-prime ARM mortgages. Very very small impact, at least as far as housing is concerned.

Still, I find this whole thing terribly interesting. A very minor policy change at the margins, but one with timing that is utterly exquisite. The President's speech:

• Immediately diverts attention from Fed Chair Ben Bernanke's speech;

• Comes right before a 3 day weekend;

• Is on the last day of the month;

• Is on the last day of the fiscal year many financial firms.

It just strikes me as . . . peculiar. Remember, White House chief of staff Andrew Card famously stated: "From a marketing point of view, you don't introduce new products in August." That's as true about wars as it is about major economic rescue plans.

And, we have seen more and more commentary like yesterday's WSJ piece (Bernanke Breaks Greenspan Mold) suggesting that Ben Bernanke understands Moral Hazard, and won't rescue reckless speculators from themselves, at every other taxpayer's expense.

How have these speculators impacted both the Housing and Credit Markets? As the front page of today's WSJ notes, Investors Default On Outsize Share Of Home Loans:

"Investors played a big role in pumping up home prices during the housing boom. Now, they account for an outsize proportion of loan defaults, mortgage bankers and builders say.

A survey by the Mortgage Bankers Association found that mortgages on properties that aren't occupied by the owner -- mostly investment homes -- account for between 21% and 32% of the defaults on prime-quality home loans in Arizona, California, Florida and Nevada, states where overdue payments are mounting fast . . .

The four states were among the favorites of speculators during the housing boom. When the market was hot, many speculators bought homes hoping to flip them for a quick profit. But now that home prices have turned lower, that strategy is backfiring.

As a result, some investors have "simply walked away from their mortgages," said Doug Duncan, chief economist of the MBA, echoing recent comments from executives of Countrywide Financial Corp., the nation's largest mortgage lender."

Will we also be bailing out these speculators, too?

A hedge fund manager friend noted: "I don't see anything in Bush's plan that will change the insolvency of the home-buyer. The "system" is illiquid (and that "problem" was addressed by the central banks two weeks ago), but the "borrowers" are insolvent. Nothing I've seen yet changes that fact. Nothing. Besides, has this Administration, which doesn't believe in government programs, ever done anything bureaucratically well...?"

That's a point well taken.

Let's return to the timing: If you were introducing a major economic policy initiative that was going to address a major issue -- wouldn't you wait until Tuesday? Its only 4 days away. This is a huge vacation week, many people aren't around, and all they will hear is that the President did something.    

I normally stick to mathematical analysis, preferring numbers to instinct, data to politics. But todays "news" struck me as an exquisitely timed, very clever PR stunt. Not to be cycnical, but this appears to be much more politics than policy, and a lifeline to the big investment banks on the last day the month and (some  of their) fiscal years. I suspect hank Paulson had a major hand in the timing.

But a fix for what ails the system? Not even remotely close. That's a function of time and quite a bit of creative destruction. As we noted on Monday, "Capitalism without financial failure is not capitalism at all. . . .    

>

Sources:
Opening View: Bush Trumps Bernanke, Futures Surge Higher
Bush administration to bail out subprime;
Joseph Hargett
Schaeffers Research, 8/31/2007 7:58 AM ET    http://www.schaeffersresearch.com/commentary/observations.aspx?ID=20137

Bush Moves to Aid Homeowners
DEBORAH SOLOMON
WSJ, August 31, 2007; Page A4
http://online.wsj.com/article/SB118851742988914064.html

Bernanke Breaks Greenspan Mold
Managing Crisis, Fed Chief Dulls Notion That Turmoil In Market Leads to Rate Cut
GREG IP
WSJ, August 30, 2007; Page A3
http://online.wsj.com/article/SB118841384006012433.html

Investors Default On Outsize Share Of Home Loans
MICHAEL CORKERY and JAMES R. HAGERTY
WSJ, August 31, 2007; Page A1
http://online.wsj.com/article/SB118851838516214091.html

Friday, August 31, 2007 | 09:23 AM | Permalink | Comments (103) | TrackBack (1)
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Comments

As far as the market is concerned, i suspect this policy will matter far less than what the Fed does -- and even that is of limited impact . . .

Posted by: Barry Ritholtz | Aug 31, 2007 9:27:03 AM

It's all part of the p3nership society.

Posted by: Florida | Aug 31, 2007 9:37:41 AM

Bush's "Being There" Moment?
http://www.financialarmageddon.com/2007/08/bushs-being-the.html

Posted by: Michael Panzner | Aug 31, 2007 9:41:17 AM

Welcome to the Republican welfare state.

Posted by: Marcus Aurelius | Aug 31, 2007 9:41:25 AM

Gotta protect that election.......that is what this is all about....

Ciao
MS

Posted by: michael schumacher | Aug 31, 2007 9:56:26 AM

marcus...i am not surprised a bit. people with money has been running this country since a while in the name of capitalism and free market.

so once again they get bailed out.

but i think common man would prefer higher taxes rather than a recession, and since most of them are debtors, they are the majority, hence all policies will be in favor of them.

another thing: what will it take to really bailout all homeowners??

i mean if we say that prices of homes have declined by lets say 30%, and total bad mortgage loans are around 2 trillion, thats only 400 billion of writeoff. plus another 200 billion in interest subsidy to help the homeowners.....

so if we divide that 600 billion among say 150 million tax payers...thats around $4k per tax payer.

no big deal....are we not already paying SST and Medicare tax even though we may not get any benefit.

and i have heard that in canada and other places....taxes are as much as 40%, i guess i will just take this as cost of progress.

nobody said life is fair.

Posted by: techy2468 | Aug 31, 2007 9:57:50 AM

The first thing that crossed my mind after reading about all this at N.J. sunrise was that B.B. is going to let the B Gross & Crazy Cramer crowd stew in their mental cesspools at least a while longer (longer the better!), while GW plays the good guy with his own version of "we're here" hand holding.

Posted by: dukeb | Aug 31, 2007 9:58:04 AM

Everything these guys do is about politics and not policy. Why should this be any different? You'd think after 6 1/2 years, someone in the media would have gotten the memo.

Posted by: Observer | Aug 31, 2007 9:58:35 AM

Amen. Has there ever been a more blatent gaming of the market by a President. I can only imagine what Paulson told Bush to get him to come back from vacation, remember he didn't cut his vacation for Katrina until the whole city floated down the river. Not to mention Bush's intial comment that he wouldn't help individuals.

Posted by: john clark | Aug 31, 2007 10:03:30 AM

I agree Barry, another empty pr stunt. This subprime thing is akin the Titanic.

Posted by: bucky katt | Aug 31, 2007 10:04:56 AM

So, let me get this straight...

Certain irresponsible people bought houses they couldn't afford, with money they didn't have, from jobs they didn't work, speculating the value would go up.

Meanwhile most of us were responsible, saved a reasonable downpayment, bought only as much house as we could afford, got a fixed-rate mortgage, and have made each and every monthly payment.

The responsible (i.e., non-defaulting) home buyers who purchased during this same period have already been forced to pay higher prices (and likewise higher property taxes) due to the artificially high demand caused by the irresponsible speculators who are now defaulting and crying for help.

And now that the former class of speculators aren't able to make their payments because 'nobody told them the payments might go up on their adjustable rate mortgage', they want ME to bail them out???!!!

Well how about this Mr. President:

When I bought my house, nobody told me my property taxes would go up every year! WAAAAAAHHH!!! IT'S NOT FAIR!!! I WANT A BAILOUT!!!

We have a name for people who can't afford to make their house payments Mr. President; we call them renters.

I know, I was one for many years.

Posted by: Pool Shark | Aug 31, 2007 10:06:32 AM

Theory. Construction criticism welcome.

-Bush wants a smooth economy until he gets out of office. He doesn't care how it happens. If pain is postponed, that's the next president's problem.
-Paulson is Bush's "servant" as far as financial matters.
-Paulson has had meetings with Bernanke, most notably the meeting with Chris Dodd.
-Bernanke may have let know that he doesn't think the Fed can do much to solve the problem and will not "relace the Punch Bowl".
-Paulson told Bush this, and the administration decided to have a meeting one hour after Bernanke to "one-up" him, trying to wrest control to force the economy away from Fed actions and more toward the Treasury.

Posted by: rj | Aug 31, 2007 10:08:27 AM

Public housing for the new millenium? You buy a home and the government pays for it! It sure raises lots of questions. Which 80,000 homeowners get help? Will the gov pay the entire delinquency? Will they pay subsequent delinquencies?

Posted by: john clark | Aug 31, 2007 10:08:42 AM

Well-organised charity starts with the poorest, the administration is taking of its poorest and the Fed is begged to take care of its poorest in Wall Street.
The message is clear the administration can address the situation on a case-by-case basis, the Fed may not.

Posted by: Philippe | Aug 31, 2007 10:14:08 AM

rj-

Bush back from vacation tells me all I need to know. You're last point hits the nail on the head. This is all about usurping the fed via political means. ANd BR has it too.....the day before a long weekend??? shameful..

Ciao
MS

Posted by: michael schumacher | Aug 31, 2007 10:18:02 AM

He fucked the little guys by making it harder to declared bankruptcy just last year -- right?

Now he's friend of the little guy?

Oh wait, this bailout helps the corporations.

Nope, no hypocrisy here. Just business as usual.

Posted by: ari5000 | Aug 31, 2007 10:18:25 AM

Remember Bush's $200B promise to help NO? All they got was fields of empty trailers? Will this be any different? A photo op of Bush handing a check to a delinquent Detroit single mother who is getting retraining after being laid off by GM/Ford/Chrysler.

Posted by: john clark | Aug 31, 2007 10:21:34 AM

It is my dream to someday live in a capitalistic society.

Posted by: Mike M | Aug 31, 2007 10:24:15 AM

This is part of the "screw the shorts friday" masterplan that was put in place some weeks ago.
:-)
Good week-end to all!

Katie

Posted by: Katie | Aug 31, 2007 10:25:08 AM

nobody said life is fair.

Posted by: techy2468 | Aug 31, 2007 9:57:50 AM

______________________

In a system of rules, changing the rules for the benefit of the few, when their side looes, is unfair. You seem to think unlimited and endless credit - on the back of the taxpayer is a good thing. Only $4K of additional tax liability (id=s that what you said?)? That's more than a 10% increase. Oh well - la de dah!

Posted by: Marcus Aurelius | Aug 31, 2007 10:28:58 AM

I hope Bush takes questions to explain how his proposed program will work - like he did with his Social Security reform proposal. He hasn't had time for much coaching on this. "This is hard work"

Posted by: john clark | Aug 31, 2007 10:30:09 AM

This article makes plain that bailouts ain't gonna fix our problems, but what else can all hat and no cattle do for his subjects...I mean citizens, and being responsible is not an option.

THERE'S NO SUCH THING AS A FREE BAILOUT

by Paul L. Kasriel
Senior Vice President & Director of Economic Research
The Northern Trust Company
August 24, 2007

PIMCO’s William Gross is now calling for a fiscal policy bailout for the U.S. housing market debacle rather than a monetary policy bailout (see “Where’s Waldo? Where’s W?”). On the surface, Gross’s arguments seem to make sense – on the surface. Gross argues that even a cut in the federal funds rate of several hundred basis points might not lower reset rates on adjustable-rate mortgages enough to prevent the massive looming foreclosures. In addition, Gross argues that such an injection of Fed-created credit could be the catalyst for a run on the dollar, which, in turn, would probably prevent 15-year or 30-year fixed rate mortgage yields from falling enough, if at all, to prevent massive foreclosures. Moreover, Gross argues that a large cut in the federal funds rate would perpetuate Greenspan’s moral hazard policy and would encourage further leveraging in the global financial markets. So as an alternative, Gross recommends that some federal government agency, either an existing one such as the Federal Housing Administration (FHA) or a newly-created alphabet soup, bailout those current home“owners” who otherwise are soon-to-be renters.

I believe that Gross makes some valid points about the implications of a Greenspan-magnitude cut in the fed funds rate. But I do not believe that a fiscal policy bailout of prospective defaulting mortgagees would be “free,” economically speaking.

Let’s assume that the FHA guarantees the refinancing of the approximately $683 billion of subprime and Alt-A mortgages that are scheduled to reset in the six quarters ended 2008:Q4 (dollar amount according to Merrill Lynch). An FHA guarantee is a full-faith-and-credit guarantee of the federal government. So, the market for these new FHA-guaranteed mortgages would overlap with the one for U.S. Treasury securities. That is, FHA-guaranteed mortgages and U.S .Treasury securities are close substitutes. Thus, all else the same, U.S. Treasury security interest rates would rise as investors shift out of Treasuries into FHA-guaranteed mortgages. But because the FHA would be guaranteeing massive amounts of subprime and Alt-A mortgages, market participants would anticipate higher defaults on these mortgages going forward, which, in turn, would cause market participants to expect higher Treasury borrowing requirements going forward to make buyers of these FHA-guaranteed mortgages whole after defaults. So, interest rates on Treasury debt would rise not only because of the substitution effect, but because a greater future supply of Treasury debt would be anticipated. In fact, the interest rates on all other fixed-income securities would rise because FHA-guaranteed mortgages are, to varying degrees, substitutes for other fixed-income instruments.

So, the current federal deficit would rise because of higher interest costs on the public debt. In addition, expected future federal deficits would rise because of higher anticipated defaults on FHA-guaranteed mortgages. Private borrowers would cut back on their borrowing and spending because of the higher interest rates they now have to pay in order to obtain funding. Other private – and perhaps public – spending, then, would be “crowded out” by the increase in FHA guarantees on mortgages. The cost of funds to private equity syndicates would increase, so the dollar volume of “deals” would decline from what it otherwise would have been. This would reduce the amount of shares being bought from households, which, in turn, would reduce an important source of household deficit spending. (For a discussion of the impact on household spending of private equity buyouts and corporations’ stock buybacks, see "Wall Street and Main Street Are Joined at the Hip"). Again, other spending would be crowded out by the increase in FHA guarantees of mortgages.

It is not even clear that the U.S. dollar would not come under downward pressure with a fiscal policy bailout of subprime and Alt-A borrowers. As alluded to above, private spending on research and development and business capital equipment would be crowded out by the government guarantee of less-than-prime mortgages. Slower growth in these types of private spending implies slower future growth in the U.S. economy. Slower future real growth in the economy implies slower growth in our standard of living, especially if we have to devote part of our future production/income to servicing our foreign debt. With the U.S. already a gargantuan net debtor to the rest of the world and with the bulk of our debt denominated in U.S. dollars, foreign creditors might wonder if political pressure would be brought to bear on the Federal Reserve to crank up the currency “printing press” in order to help make principal and interest payments on the debt owed to these creditors. The anticipation of this, of course, would induce investors – both foreign and domestic – to reduce their exposure to U.S. dollar-denominated financial assets, thus causing the dollar to depreciate vs. other currencies.

For the FHA to guarantee the refinanced mortgages of subprime and Alt-A borrowers, a moral hazard policy still would be perpetuated, just not by the Fed. Subprime and Alt-A lenders would be bailed out by the federal government, thus reinforcing the notion that some form of government safety net would likely be there to mitigate the potential losses of investments in risky assets.

So, there is no free bailout to the predicament we have gotten into as a result of Greenspan’s cheap credit and moral hazard policies. For those that think there are free bailouts, I suggest that they read the writings of Frederic Bastiat, a 19th century French political economist, who preached that in economic analysis, one must take into account not only what is seen, but what is not seen. In other words, employ general equilibrium analysis, not just partial equilibrium analysis.

Posted by: SPECTRE of Deflation | Aug 31, 2007 10:30:45 AM

Mike M...

"It is my dream to someday live in a capitalistic society".

Didn't we used to? :)

Posted by: Strasser | Aug 31, 2007 10:35:13 AM

just for fun...

So, when the market was tanking on/around Aug. 14th-15th, there was seemingly no bottom... my question is, how many people petitioned to get their skrill back from the funds? the FED killed the shorts on Friday the 17th... and around and around we go.

Who, in their right mind, would bet this market right now... Burn me once, shame on you, burn me twice shame on you some more, burn me... you get the idea. This idiots are frantically trying to figure out how to pay the bill come end of September.

Push 'er up a few hundred, get some people feeling like their missing the boat, take it down a 100 and bait the short interest, take the profit off the "boat missers" and then pound it dry-like to the shorts...

If I were SEC, I'd be watching the Financial Guys closely right now, not because I'm a conspiratorialist (more of a realist crossed with some objectivism) but because there has been a huge increase in motive...

Bush and Bernanke cannot stop this train... at least not in the long run

Posted by: lauteus | Aug 31, 2007 10:39:08 AM

Please -- please tell me there's one politician out there that will stand up and say this plan is ridiculous.

Anyone want to bet there's one politician -- either party -- that will say no to helping the "poor". I still want to have hope.

Posted by: ari5000 | Aug 31, 2007 10:39:45 AM

December 2008

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