A review of the recent White Paper from the Federal Reserve Board on the housing market discloses some very interesting facts. Initially the FRB comments that housing prices have declined 33% from the historic highs of 2006 resulting in $7 trillion of economic loss to American households. According to the report, continued weakness in the housing market which is a significant barrier to a vigorous economic recovery are related to the following primary issues:
- Weak demand due to high unemployment and heightened uncertainty.
- A persistent excess supply of vacant homes on the market, many of which stem from foreclosures;
- A marked and potentially long-term downshift in the supply of mortgage credit
- Costs that an often unwieldy and inefficient foreclosure process imposes on homeowners, lenders, and communities.
The report recommends that policymakers address the following in addition to addressing poor labor market conditions:
- Moderate the inflow of properties into the large inventory of unsold homes
- Remove some of the obstacles preventing creditworthy borrowers from accessing mortgage credit
- Limit the number of homeowners who find themselves pushed into an inefficient and overburdened foreclosure pipeline.
Mortgage Credit Conditions
Commenting on the ability to obtain home financing the FRB observes “Mortgage lending standards were lax, at best, in the years before the house price peak, and some tightening relative to pre-crisis practices was necessary and appropriate. Nonetheless, the extraordinarily tight standards that currently prevail reflect, in part, obstacles that limit or prevent lending to creditworthy borrowers. Data show, for instance, that less than half of lenders are currently offering mortgages to borrowers with a FICO score of 620 and a down payment of 10 percent -even though these loans are within the GSE purchase parameters.”
Hard hit are “first-time homebuyers, who are typically an important source of incremental housing demand. These households often have relatively new credit profiles and lower-than-average credit scores, as they tend to be younger and have fewer economic resources to make a large down payment. Consumer credit record data show that the share of 29- to 34-year-olds getting a first-time mortgage was significantly lowerin the past 2 years than it was 10 years earlier.12 The same data show that the drop-off was more pronounced among individuals with less-than-excellent credit scores, even in parts of the country where unemployment rates are better than the national average. These data suggest a large decline in mortgage borrowing by potential first-time homebuyers due to not only weaker housing demand, but also the effect of tighter credit conditions on all but the highest-creditquality borrowers.”
Foreclosed Properties: REO to Rental
In dealing with the large inventory of foreclosed homes, the FRB suggests converting REO to rental as an option. The price signals in the owner-occupied and rental housing markets–that is, the decline in house prices and the rise in rents–suggest that it might be appropriate in some cases to redeploy foreclosed homes as rental properties. In addition, the forces behind the decline in the homeownership rate, such as tight credit conditions, are unlikely to unwind significantly in the immediate future, indicating a longer-term need for an expanded stock of rental housing.”
The report goes on to suggest government facilitated REO to rental programs such as the REO holder could rent the properties directly, sell the properties to a third-party investor who would rent the properties, or enter into a joint venture with such an investor. Regarding the characteristics of the REO market, the report observes:
“Fannie Mae, Freddie Mac, and the FHA together hold about half of the outstanding REO inventory and so might be able to aggregate enough properties to facilitate a cost-effective rental program in many rental markets. As of early November 2011, about 60 metropolitan areas each had at least 250 REO properties currently for sale by the GSEs and FHA–a scale that could be large enough to realize efficiency gains. Atlanta has the largest number of REO properties for sale by these institutions with about 5,000 units. The next-largest inventories are in the metropolitan areas of Chicago; Detroit; Phoenix; Riverside, California; and Los Angeles, each of which have between 2,000 and 3,000 units.”
Deed in Lieu or Short Sale
The report clearly identifies the barriers to these alternatives to foreclosure and describes the need to overcome these obstacles as being crucial. “Both short sales and DILs, however, face barriers in current markets. Short sales require a willing buyer, a price that is acceptable to all parties, and a timeline that allows the transaction to close before foreclosure (which is likely proceeding on a parallel path). DILs may not be actively pursued because of informational or logistical obstacles. Further, short sales and DILs often present additional obstacles to lenders, such as the disposition of second liens, the cost and uncertainty of loss recovery via mortgage insurance or deficiency judgments, and (in the case of DILs) accumulating additional REO properties. For their part, borrowers may not know about DILs or short sales as an alternative to foreclosure and, in some cases, may see little reason to engage in a short sale or DIL rather than stay in their homes throughout the often drawn-out foreclosure process. Given the scope of the economic losses associated with foreclosure, figuring out ways to surmount these obstacles is crucial.”
Conclusion
The FRB concludes with a statement we have all known yet past efforts have failed to resolve. “Restoring the health of the housing market is a necessary part of a broader strategy for economic recovery. As this paper suggests, however, there is unfortunately no single solution for the problems the housing market faces. Instead, progress will come only through persistent and careful efforts to address a range of difficult and interdependent issues.”
As citizens of this great country we should all be urging quick, fair and prompt action to resolve these concerns and get the housing market back on track.
David Garrett
The full text of the FRB report can be found at: http://www.federalreserve.gov/publications/other-reports/files/housing-white-paper-20120104.pdf