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Monday, February 2, 2009

Lower Mortgage Rates and the $819 Billion Lie

One of the things buried within the stimulus bill is this little nugget about mortgage rates.

Republicans want to “go right at housing first,” McConnell said. They support a proposal for the government to reduce mortgage rates to 4.5 percent or lower in order to stimulate demand for housing, he said. They also plan to push for reductions in the two lowest tax rates in order “to put money back in people’s hands directly,” McConnell said.

Now, it's unclear exactly how the government will force down mortgage rates but here is one thing I know for sure. There's no way to know just exactly how much it will cost to do it. In fact, to do this part alone may cost in excess of one trillion Dollars.

Now, since the government now owns both Fannie/Freddie, it has lots of options in order to manipulate mortgage rates to 4.5% and below. Yet, none of those options have a fixed price tag. One option is to go into the marketplace and buy up enough bonds in order to drive the mortgage rates down to the level they want. Of course, it is in no way clear just how many bonds they will have to buy to do this. It's unclear just how much of a loss they would take on these bonds. It's unclear even how long they would have to hold said bonds.

The other option is for the government, through Fannie/Freddie, to simply offer 4.5% or lower even though the bonds are trading at rates that are higher. The way that Fannie Freddie normally works is this. Fannie gets mortgages at some rate and then the issue mortgages at a rate slightly lower than that. The mortgages they receive cover the rate they have to pay out. The spread between the higher mortgage rates and the lower bond rates is what Fannie/Freddie make in profit.

In this case, the government will guarantee that Fannie/Freddie take a loss on bonds for some sort of indefinite period of time. Most of these bonds are good for about five years. This means that they will take a loss on these bonds for a full five years or whatever is the period of the bond.

Most importantly, there is no way to measure just how much this will cost. If you lower mortgage rates to below 4.5%, then everyone will attempt to get a mortgage. Who knows how many millions and trillions of loans this will create? It's simply impossible for the government to guage just how much it will all cost. Furthermore, the costs will continue for years.

Now, here is the ultimate irony. This reduced rate will benefit mostly those at the top. That's because it requires a sterling credit profile now to qualify for a loan. There is typically a minimum of 20% equity required, a great credit score, and plenty of money in the bank. Such a profile is found overwhelmingly in the wealthy. As such, it will be the rest of the population that is funding the wealthy's subsidized and reduced mortgage rates. On the other hand, most of the rest of the bill will subsidize the poor: food stamps, unemployment insurance, subsidized health care, etc.

In fact, it appears the only people that aren't recipients of anything are the middle class. Those with a job, but a less than perfect credit profile, get only the $500 stimulus check. Of course, everyone gets that. Frankly, when that $500 is compared to saving several hundred dollars monthly on a thirty year mortgage, or having your health insurance paid for, it is rather measly. It's ironic that the one group that is most left out of the stimulus is the middle class the one group that President Obama says he champions.


Robert said...

If you had any real idea how the banking system works you wouldn't worry about it. Most of that money was created out of thin air.

mike volpe said...

I don't speak gibberish and I work in mortgages and know exactly how the system works. The money isn't created out of thin air. It is either printed or borrowed and both of which have ramifications. Whether it is borrowed or printed, it will still cost much more than $819 billion to do this.

Anonymous said...

This approach has been discussed at AEI . Here's some background information from Larry Lindsey on this idea on the benefits.,filter.all/pub_detail.asp

Anonymous said...

I heard on the news yesterday that if you make over $75K, then you'll be inelegible for this program. So this just seems like a different method of allowing those that bought more than they could afford be allowed to keep it a while longer. At someone else's expense, of course.

foreclosure relief said...

Money is what were talking here.Everything is critical. Government should really prioritize this issue, well as what Pres. Obama promised...

Victoria Mortgage Brokers said...

Some people do not know everything about this all so sometimes they end up in the wrong decision.