You have probably heard by now that the consumer has not been participating the way Wall Street or the government would like in the nation’s economic recovery. Most average Americans remain belt tightened, worried about their jobs, fighting ever increasing health care costs and the rising costs of educating our youth. In Don Lee’s Los Angeles Times article this morning, I read the most compelling argument for government action in forcing the mortgage industry and mortgage lenders to allow refinancing regardless of equity position: spending. The argument goes like this: 25% of homeowners are upside down on the home’s value, thus unable to refinance and take advantage of the historic rates available today. In fact many of those homeowners are saddled with interest rates north of 6%. To contrast that with today’s historically low rates of low 4%, you could say that those homeowners with negative equity, are paying 30% more than they would otherwise, if they could just refinance. This means they have less discretionary money to spend.
I have long been an advocate of allowing good borrowers be able to refinance despite their equity position, especially on those loans purchased by Fannie Mae and Freddie Mac. After all, the borrower has title to the property, it’s not like they are a new credit risk; besides they’ve been making the higher payments already. The only thing reason for a lender to refuse an underwater borrower to refinance is that the bank wants to make the higher return and they know the homeowner is stuck. It’s almost like loan sharking really. It’s also called usury. So OK, the bank took a risk and have a return on that risk and they are entitled to the interest rate that was agreed to. Certainly the argument goes, if rates rise, the bank doesn’t get to go back to the borrower sand ask them to take a higher rate. That’s why it’s called a contract; a loan commitment; a fixed rate. But in Lee’s article he cites New York Federal Reserve president William Dudley as saying, ” ‘Families have not boosted their spending above the levels preceding the severe cuts the made during the recession’ “. Lee suggests that the quickest, cheapest and easiest way to stimulate the economy is to allow underwater homeowners to reduce their out of pocket expenses by simply making it possible for those homeowners to refinance at current interest rates regardless of equity. This is absolutely brilliant.
As a Realtor I do not favor delaying foreclosure, or adjusting principle to reflect current market value, if for no other reason than it’s just not fair. Nor do I endorse a partnership in equity that shares the property’s appreciation with the lender or the government, after a principle reduction. Free markets have to be allowed to remain free and function independent of outside manipulation. But this simple yet effective refinancing idea is not only fair, but costs nothing. The lenders and their investors make less interest on the notes, true, but they save millions by reducing the potential for foreclosure or short sale when the negative equity homeowner just gives up paying at some inflated interest rate. And don’t forget, the lender also gets to keep the good paying mortgagee, rather than what usually happens when a homeowner refinances: they shop around and more often than not, go to another lender. So the lender actually benefits themselves, their investors and their shareholders by retaining their low risk borrowers. Moreover and most importantly, it puts more money in the hands of the consumer to spend, because their monthly mortgage payment goes down by up to a third. This new found surplus of cash in turn helps everyone in America because it means greater demand for goods and services; greater demand means employers have to hire; when employers hire, people are more confident and the spend even more, and the cycle of economic inaction ceases. While this may not be the magic bullet penicillin was to world health at the turn of the last century, it certainly would be just what the doctor ordered for our struggling economy, while costing the tax payer zero. And that ain’t no Castor oil, rather, it’s a spoonful of sugar.