Housing markets are at a point where, as John Maynard Keynes said in 1936, people are willing to try a new initiative “if it should be even plausible.”
Working with Minnesota2020, a St. Paul-based policy advocacy organization, two Minnesotans, one with much experience in collapsing real estate prices, have produced a plausible proposal for governments to stabilize housing prices at local levels. It may not be a slam dunk, but the situation is dire enough in many neighborhoods that such ideas merit serious consideration.
The mortgage crisis that precipitated ongoing financial market turmoil is both global and local. Globally, financial firms that loaded up on mortgage-backed securities have huge losses. Many are going broke, as are banks that lent to them or companies like AIG that insured these securities. Such widespread insolvencies still could bring the world’s financial system to a halt. Related financial turmoil already has sparked a deep and broad recession.
At the local level, myriad foreclosures leave deteriorating houses that blight neighborhoods and drive down the prices of many other nearby homes.
Falling property values cast a pall over real estate markets as potential housing buyers hold back, not wanting to commit if prices will be even lower in a few months.
Many will argue that poor monetary and lending policies drove house prices way out of whack. For them, the only way to achieve stability is to let forces of supply and demand operate unfettered until markets achieve some new equilibrium.
Others fear that, at the national level, a collapsing housing bubble mirrors the self-reinforcing processes that functioned as the bubble expanded. Just as an expanding bubble can overshoot long-term sustainable levels, a collapsing one can vastly undershoot them. Yes, markets reach equilibrium eventually, but in the meanwhile the financial system and many people’s jobs and incomes will suffer grievous injury.
The Federal Reserve and Treasury have cobbled together an array of ad hoc efforts to keep the ship afloat at the national level with no great success. Their critics argue that unless something can be done to stabilize housing prices at local levels, such national efforts will fail. But there are few credible proposals for how the federal government could focus on housing prices rather than mortgage securities. State or local officials are loath to risk their limited resources on what is clearly a nationwide problem.
Larry Buegler, a veteran banking executive, and Lee Egerstrom, a former Pioneer Press reporter, argue that is a mistake. Small-scale efforts could stabilize housing prices on the local level, they say, and stop the snowballing collateral damage from abandoned housing even if prices continue to decline in other areas of the nation.
Their proposal draws on Buegler’s experience at the Farm Credit Bank of St. Paul (now AgriBank) during the farm financial crisis of the 1980s. An experienced commercial banker, he was brought in to save the bank as it faced bankruptcy because of defaults on the farm mortgages that made up most of its loan portfolio.
The bank had a dominant market share of farm mortgages in 14 of the most important agricultural states. By 1987 it had lost a billion dollars and had a million acres of foreclosed farmland on its books.
Buegler’s innovation was to restructure troubled loans more quickly and to stabilize land prices by offering a five-year land values guarantee to anyone who wished to buy a foreclosed farm from the bank. If, five years after buying land, purchasers regretted the deal, they could get all their principal back.
Farmland values did stabilize, although some skeptics argue it was because prices already were reaching a market equilibrium at the time the bank instituted its program. The bank never had to buy back any land and it successfully restructured thousands of mortgages.
Now, 22 years later, Agribank is financially healthy, with $50 billion in loans. (Full disclosure: My farm loan is from Agribank.) Despite land price spikes in 2007-08, farm finances are far sounder than they were in the 1980s.
The proposal calls for a pilot project in Ramsey and other Minnesota counties that would have two phases. The first would try to stabilize housing values with a five-year down payment guarantee. This would facilitate the second phase that would restructure existing delinquent mortgages.
One tool would be for new mortgages with a shared-appreciation feature that would split subsequent home value increases between owner and lender.
The rub right now is funding a credible guarantee program. The Minnesota2020 proposal suggests $25 million in state-backed bonding for the pilot program. Given state and local government bond markets right now, that is not as easy as it may sound.
There are a lot of complexities people can argue about. But it is a solid proposal that Minnesotans and their Legislature should examine.
© 2009 Edward Lotterman
Chanarambie Consulting, Inc.