By Robert Freedman, Senior Editor, REALTOR® Magazine
The Wall Street Journal in its editorial this week (The Housing Illusion, June 2, 2011) makes a sensible call for an economic recovery built on capital investment in plant and equipment so the United States can grow in a healthy way by creating jobs. But instead of taking the next step in its argument by asking why our businesses and financial institutions aren’t deploying their resources to that end, the Journal points its finger at the housing market and says our country’s historic support for home ownership is holding the recovery back.
It’s reasonable to wonder how home ownership gets connected to the investment decisions of businesses and to the lending decisions of financial services companies. The Journal does it by tracing the connection back to the Federal Reserve’s accommodative interest rate policy in 2001, in the wake of the bursting technology bubble and the Sept. 11 attacks. That easy-money policy, the Journal says, prevented the economy from collapsing after those destabilizing events, but it did it by inflating another asset bubble, this one for housing. “Fueled by subsidies and easy credit, with mortgages guaranteed by taxpayers, we built McMansions and vacation condos,” the Journal says.
Hence, the housing boom. Then, after the boom went bust, the government tried to re-inflate housing prices by encouraging banks to modify bad loans, raising FHA and the conventional secondary mortgage market loan limits, and funding a temporary home buyer tax credit, among other things.
This argument has become such a common refrain among critics of federal housing policy that we often hear it without thinking about whether it’s correct or not. The only “subsidies” home owners received at the time of the boom were the mortgage interest deduction, which has been in the IRS Code through some 17 presidencies and has served the country quite well during that time, and the federal backing of the secondary mortgage market companies Fannie Mae and Freddie Mac (implicit then, explicit now). There was also the historic federal role, through FHA, VA, and the Rural Housing Service, for households who have trouble getting on that first rung of home ownership.
All that’s true enough, but throughout the decades that those subsidies have been in place, they’ve never crowded out business investment in new plant and equipment or caused a housing bubble. Indeed, in 2001, the high-cost loan limit for Fannie Mae and Freddie Mac was $412,500. That’s hardly enough to fund the explosion in McMansions the Journal refers to.
So, what was new back in the early 2000s that fueled the rise of the McMansions? It was the innovation in the purely private market in which lenders, using jumbo and subprime loans, collateralized private-label securities for sale to investors in global capital markets.
To be sure, Fannie and Freddie did enter the Alt-A and subprime markets at the tail end of the boom, resulting in a taxpayer-funded bailout. But the U.S. Treasury in its white paper on the causes of the financial crisis made clear that the crisis was driven by the private-label securities market, not Fannie and Freddie, and in any case, much of the infusion of public capital to those two companies since they were placed in conservatorship is quickly returning to the Treasury and the final bill is expected to be in the tens of billions, not the hundreds of billions, of dollars.
The Journal is absolutely correct when it cites “easy credit” as the cause of housing mania in the early 2000s. The Federal Reserve’s accommodative monetary policy no doubt made that possible, but the Journal is making an argument that cuts both ways: there was nothing stopping businesses from tapping those low rates to invest in new plant and equipment, and indeed many businesses did just that.
Today, interest rates remain low and both businesses and financial services companies are sitting on capital, fueled in some cases by record profits. So it’s reasonable to ask: where is today’s business investment in new plant and equipment? After all, lenders have money, and the cost of that money is low. Where in this equation is home ownership? What subsidy or other federal policy is preventing businesses from tapping today’s historically low rates to build their capacity? What subsidy or federal policy is preventing lenders from lending?
The Journal would have us believe that our traditional support for home ownership — MID, the federal backing of Fannie, Freddie, and FHA — along with the newer subsidies like the bank loan modification effort, increased FHA and conventional loan limits, and the temporary home buyer tax credit (which lasted 18 months and ended a year ago) are somehow standing in the way of healthy economic growth.
That might be the Journal’s view, but it’s hard to imagine small business owners or even today’s home buyers taking that view. To the entrepreneur applying for financing or the household that’s trying to take advantage of today’s historically affordable home ownership opportunities, the only thing standing in the way of the recovery is lenders’ unwillingness to lend.