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Wednesday, October 8, 2008

The McCain Mortgage Bailout: Recent History Repeating Itself?

I was stunned to hear John McCain propose a massive $300 billion bailout for distressed borrowers in which he indicated that the government would take over their loans and not only reduce their rates but even their loan amounts. I was stunned for several reasons, but not the least of which is that in July of this year, the Congress essentially already passed what he proposed. A bill sponsored by Chris Dodd basically did what McCain is proposing and it became law in July.

First, I have already, on multiple occasions, discussed just how corrupt the original bill sponsored by Dodd was. Let me recap the history of corruption on the bill and then go through its details. For the last eighteen months Bank of America has contributed roughly one thousand dollars weekly to Dodd's campaign. We also know that Dodd received multiple sweetheart loans from Countrywide. Then, in February of this year, Bank of America bought Countrywide. Countrywide was holding onto a large portfolio of bad loans. Then, this bill was proposed. Finally, we found out that reps of Bank of America helped craft much of this legislation.

The legislation would bail out distressed borrowers and provide them with new loans backed by FHA. Furthermore, if they owed more than the property was worth, their balance would even go down. From Bank of America's perspective, this was a great opportunity to quickly remove billions of bad loans from their newly minted books.

Does this sound familiar? It should because it is nearly exactly the same as the proposal that McCain proposed last night.

Now, here again is why this is such a bad idea. The biggest indicator of future credit worthiness is prior credit performance. What this bill, and McCain's proposal, would do is totally disregard one, and often many more, previous mortgage lates. Neither FHA, nor Fannie/Freddie, nor just about any loan program available today would ever forgive even one mortgage late let alone multiple. Yet, Dodd's bill, and McCain's proposal, would not only forgive them, but it would also mkae the federal government their creditors. In other words, these irresponsible borrowers would no longer have a bank as their creditor, but rather, they would have the federal government, and by extension the tax payer. Is anyone reading this comfortable having their tax money go to provide mortgages to folks that have shown a history of not being able to pay them back?

Furthermore, this plan rewards the wrong group. Let's take two hypothetical borrowers. Each has a mortgage balance of $300k and each has a home worth $290k. One struggles making the payment each month but is always on time. They have little money left over but they make it work. The other has been behind for months, and continues to fall farther and farther behind. What this bill would do is reward the second borrower with a freshly minted new loan, new rate, and lower loan balance. Meanwhile the first responsible borrower gets nothing.

In fact, it has been speculated that Dodd's bill is so conducive to the irresponsible borrower that many responsible borrowers would fall behind on their mortgages on purpose just to get in on the deal.

This is what McCain is essentially proposing. Of course, from his perspective this proposal carries with it all sorts of other political pitfalls. For instance, he criticizes Barack Obama for government run health care, and then turns around and proposes government run mortgages. Second, he criticizes Barack Obama for out of control spending proposals, and then proposes a massive $300 billion mortgage bailout. He has bemoaned the idea of bailouts, and then proposes this one. Senator McCain has basically thrown in the towel on the worth of free markets. If that is the case, how can he criticize Obama's government run health care proposal? How can he criticize any of Obama's proposals that increase the size of government, when he wants to essentially nationalize mortgages?

I never agreed with McCain on everything, and there was always portions of his economic policy that bothered me a lot. I don't expect any candidate to be perfect, however, when I see a foolish proposal I will criticize it even if it is from the one I support. This is incredibly foolish.

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