Housing Crisis Was Overlooked

REAL ESTATE TOPICS

Amir Sufi is the Chicago Board of Trade professor of finance at the University of Chicago Booth School of Business. He and Atif Mian, who blog together, are co-authors of "House of Debt, How They (and You) Caused the Great Recesssion, and How We Can Prevent It From Happening Again." He is on Twitter.

UPDATED MAY 21, 2014, 1:40 PM

The collapse in house prices combined with excessive household debt burdens sent the United States economy into a tailspin, resulting in a full-blown banking crisis and the worse U.S. recession in almost 80 years. Failure to more adequately address the housing crisis was the biggest policy mistake made by the Department of Treasury under Secretary Timothy Geithner’s leadership.

Geithner writes in his book that unsuccessful housing policy was in part due to housing being “an impossibly complex issue that didn’t lend itself to easy solutions,” and “a thorny policy problem.” But there were straightforward policies that were on the table, and they would have helped.

Letting bankruptcy judges write down mortgages and providing an ambitious mortgage refinancing plan would have reduced foreclosures.

For example, Geithner could have pushed for a policy to give bankruptcy judges the ability to write down mortgage debt in a Chapter 13 bankruptcy – “mortgage cram down.” He could also have put forth an ambitious plan to allow solvent underwater homeowners to refinance into lower interest rates.

Geithner says that cram down was not a wise strategy because it would have further stressed a crowded bankruptcy system. This argument shows a failure to understand that the threat of cram down would have induced more out-of-court renegotiation of mortgages, obviating the need for more bankruptcy hearings.

The lack of an ambitious mortgage refinancing plan is especially disappointing. It was not a policy associated with progressives seeking “Old Testament justice,” but by Glenn Hubbard, the primary economic adviser to the Republican presidential nominee Mitt Romney. Aggressive refinancing proposals were made as early as 2008, and yet the second iteration of the Home Affordable Refinance Program that eventually helped some homeowners refinance only came into full force in 2012. It was both too little and too late. It is hard to find a single sensible economic rationale for preventing solvent underwater homeowners from refinancing into lower rates. And yet Geithner did not get it done.

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So why did Treasury under Geithner drag its feet on housing policy? Extensive articles on housing policy in the Obama Administration showed that an obsessive focus on saving banks kept homeowners from being helped For example, Clea Benson wrote for Bloomberg that housing policy in the administration “lacked broad and aggressive measures. Relief programs have tinkered around the edges of the housing finance system because Obama’s advisers chose early on not to expend political capital forcing banks to forgive mortgage debt.”

The government must play a role in stabilizing the financial system during a banking crisis. But a narrow focus on saving banks led to unwise decisions on housing and household debt. Doing more to help write down mortgage debt and allowing underwater homeowners to refinance into lower rates would have helped the economy, and therefore helped banks. Saving the banks will not save an economy if households are left drowning in a sea of debt – this is the painful lesson we have learned from a failed housing policy.