Why bailouts won't work and prices must fall

I hope those of you who like to make a punching bag out of my employer (no, not Sam Zell, the Los Angeles Times) have noticed that the newspaper continues to publish full-throated, anti-bailout opinion pieces.

Last week it was economist Christopher Thornberg's politically incorrect, but historically obvious argument that the housing bubble was caused by "greed on steroids."

Today it's Peter Schiff, who writes on the opinion page that bailouts won't work, and housing prices must be allowed to fall to a "sustainable bottom" -- levels supported by the market, not by government intervention.

Highlights:

"At current levels, the average American still can't afford the average house. Despite the creativity of its new policies, Washington can't alter that math. The only mechanism to restore balance and get the credit flowing is for prices to fall steeply to a true market level, and for losses (for consumers and corporations) to be recognized and absorbed."

"The government is trying in vain to get funds flowing again and put a floor under prices. But it's too late. U.S. home prices are like a beach house supported by eight pillars: lax lending standards, low down payments, 'teaser' interest rates, widespread real estate speculation, pliant appraisers, willing lenders, easy refinancing and a market for mortgage-backed securities. Knock out even half of these pillars and the house comes crashing down. We've knocked out all of them. Yet everyone hopes that this allegorical house can defy gravity and that bubble-era prices can be sustained in a post-bubble world."

Thoughts? Comments? E-mail story tips to peter.viles@latimes.com
Photo: Getty Images

Comments

[Brian]

Peter,

I agree (and am thankful for) the willingness of the LAT to print the opinions of others which point out, IMHO, the great moral hazard posed by the vvarious "bailout" plans (i.e. Sentaors Dodd/Frank). Further, there are truly unimpeachbale arguments which show that housing, especially in the super-inflated markets, need price discovery.

This being said, I feel that the LAT (and the majority of large city newspapers) are overwhelmingly left leaning. This is apparent in the pro-bailout slant the LAT puts on the rest of its articles dealing with the "mortgage crisis" and its "victims."

Just my two cents. It is so frustrating that everyone seems to think a bailout is a bad idea except the Democratic party.

http://www.rasmussenreports.com/public_content/
business/general_business/most_americans_
oppose_federal_bailout_for_homeowners

[mike]

i am being punished for the recommendations of a real estate agent and of a lender. these fly by nighters talked me into a bad investment which has done nothing but gone down in value. all they kept saying was that rear estate was a good investment and they showed me a bunch of graphs of real estate increases. I AM ALL FOR A HAND FROM THE GOVERNMENT ON THIS ISSUE. I WAS DUPED AND I DESERVE BETTER!!!!!!!!!!! I PAY TAXES ALSO!!!!!!!!!!!!!!!

[Joseph... the Real Estate Guy]

I don't see the housing market deflating as rapidly as many of you wish...remember, we live in an overcrowded state.

[areles]

Peter Schiff is brilliant. I was pleased to see his name in the Times today.

Anyone who is unfamiliar with him need only enter his name in YouTube for a number of videos that will make you wish you'd heard of him a long, long time ago.

[charlie]

the current bailout talk is very shortsighted -- it will help people who got unlucky in gambling but, as this wrtier points out, leave the market artificially high for other buyers. The solution for them? Try to boost the market up again with more risky mortgages!

Which would be insane, sure, and very anti-free market, but who wants to bet that's what they end up trying?

[Laker]

That is so true.
When (and not if) the prices will come down to earth, that would be time when banks can truely give loans with very low to no risk. From a true bottom, prices can only rise, and if the price of the collateral is rising, any default will simply create a sale and not a foreclosure.
Even flat price coupled with normal sales volume is OK. However, falling home prices (not even like current free fall) are bad for banks, as they cannot value the collateral. In this environment, loaning money at 6% rate does not make sense, especially non-recourse loans. The current risk is so great that it is almost equal to credit card risk. That translated into credit card interest rates aka 17%.
If the government will continue to interfere, and think about stupid bailouts, we are going to see mortgage rates in the double digits!
Then, there will be no floor for house prices! This is not a joke..

[Rich]

I'm sure an awful lot of people want to hear this runaway-train rhetoric, but as one of your East coast readers who can see the realities in my own market I'm not going to let stand that bloviation that ""At current levels, the average American still can't afford the average house". The median income in America is about $45,000 and the median house price has fallen to $190,000 as of February, which is less than the 5x times income that your readers will recognize as the safe maximum ratio of income to housing (but more than the classic "comfortable" ratio of 2.5x), so clearly in most parts of the country the average American can afford the average house. Your California market has perhaps the most serious disconnect between price and income, but don't make the mistake of painting every market with that brush. My own Connecticut county has many excellent starter homes in the $90-139k price range, and HGTV shows us many national markets from North Carolina to Texas where prices are favorable, not just reasonable. Too much rhetoric damages an argument...

[yingyang]

Finally a voice of reason in these days of political posturing. Peter Schiff for President!! Or at least I will open an account in Euro Pacific Capital.

[KingHorse]

Make a punching bag of the LAT? Not me. That they even dare to host the LA Land blog puts them head and shoulders above most of the NYC papers out here. The NY Times tailors all its RE coverage to enticing buyers so as not to spook its realtor advertisers; the NY Observer actually dedicates its entire back section to fawning coverage of developers and high-end real estate, a parallel universe where nothing is wrong; and the Post and News pretty much only get involved if there's, oh, say, a rush-job developer who kills 7 people with a falling construction crane, having long ignored analysis of the endless stream of smaller construction accidents that preceded it.

No, you're doing pretty good.

[JW]

I have it on good authority from Lefty and Kat that this will all be over very soon and prices will be rising again.......so hurry up and buy before the parade passes you buy. (click---------sarcasm switch is now off)

[JW]

Seriously......................That makes perfect sense to me & any other rational, logical thinking person. Why can't these idiotic politicians understand that prices must fall to meet income levels if you want a healthy housing market that flows as it should?

[Inland Empire]

i am being punished for the recommendations of a real estate agent and of a lender.

I have this funny feeling you are a victim no matter what the situation.

[TakeFive]

Those are GUEST op/ed pieces.

What about the unsigned editorials by the Times staff? What position do those take?

[IToldu2CashOut]

What does paying taxes have to do with making a bad investment? I pay taxes to and I don't want to have to subsidize your poor decisions. A house is the biggest investment of your life you can't do a little research to see if it makes sense? Guess what I'm already paying for your dumb mistakes because my stocks go down everyday because we have a "housing crisis". Am I asking the government to buy up shares of my stocks to prop up their prices? No that wouldn't be fare to other people. Sell your house or walk away. Find a nice place to rent. Make better investments in the future. You don't deserve a bailout you deserve a kick in the rear end for all the damage you've helped cause.

[enlightenment]

>>Why bailouts won't work and prices must fall

I agree 100%. Bailouts will only help a temporary recovery before it falls much further, which is similar to a "Dead Cat Bounce" in the stock market.

>>"I don't see the housing market deflating as rapidly as many of you wish...remember, we live in an overcrowded state." Posted by Joseph... the Real Estate Guy.

Sounds like the usual B.S. that realtors say to make a sale.

I predict an exodus from California, especially if a major earthquakes nails us.

>>"i am being punished for the recommendations of a real estate agent and of a lender. these fly by nighters talked me into a bad investment which has done nothing but gone down in value. all they kept saying was that rear estate was a good investment and they showed me a bunch of graphs of real estate increases. I AM ALL FOR A HAND FROM THE GOVERNMENT ON THIS ISSUE. I WAS DUPED AND I DESERVE BETTER! I PAY TAXES ALSO!" Posted by mike

No one forced you to sign the papers. You are being punished for your greed and being a sucker, but that doesn't mean the government should bail you out. Only an idiot trusts a realtor (i.e. salesman). By the way, you don't deserved jack!

[puckhead]

I’m not an advocate for a bailout. But I do find it comical that the same people who say “no bailout for greedy homeowners and banks”, has no problems with the FDIC insuring their accounts at a BofA or WaMu if these banks go under. It’s well documented that BofA and WaMu are very exposed to bad mortgages. If you bank with them, shouldn’t you be pulling your money of these banks so that the govt won’t have to bail you out if the bank collapses? BTW, I bank at BoA and I have no problems with the govt making me whole if that happens.

[Wilson]

I agree with Mike...
I bought Pets.com stock in 1999. I want a bailout for that too...
And I bought a lottery ticket last week...I want a bailout for that too...
I AM ALL FOR GOVERNMENT HANDOUTS FOR SUCKERS IN EVERY ARENA OF LIFE!!!!!!!!!!!!!

[Shag]

I agree fully. I often wondered when the bottom would fall out of the ecomony. I don't think it's done. Wages are not increasing anywhere near the rate of energy, health or recreational costs. The only way for things to "correct" is for consumption to draw to an almost standstill. I wish no one would buy a home until things bottom-out.

[Valley Resident]

Wait a minute puckhead ; we pay for FDIC insurance with lower rates; if these accounts did not have FDIC insurance, they would have to pay at least twice in interest rates on CDs - Bailing out people who gambled with teaser rates is not the same.

[Rip N Tear!!!]

Yo Joseph "The Real Estate Guy"

Your right, Los Angeles is overcrowded, but your dumb for thinking thats a good thing for the market.

THE INCOME DOES NOT EXIST FOR THIS TYPE OF MARKET, I D I O T!!!!!

[Ann]

(1) I don't see the housing market deflating as rapidly as many of you wish...remember, we live in an overcrowded state.
Posted by: Joseph... the Real Estate Guy

And for the umpteenth time, it DOES NOT MATTER how many people are in the state.

What matters is how many CAN PAY the price being ask!

If there are 1,000,000 in the room and you want to sell the one-and-only Hope Diamond, you will NOT sell it unless 1 of those 1,000,000 can afford the price tag.

What MATTERS is income because determines what people can pay. (And CA as a whole is not better off in terms of income distribution than anywhere else.)

(2) The median income in America is about $45,000 and the median house price has fallen to $190,000 as of February, which is less than the 5x times income that your readers will recognize as the safe maximum ratio of income to housing (but more than the classic "comfortable" ratio of 2.5x
. My own Connecticut county has many excellent starter homes in the $90-139k price range, and HGTV shows us many national markets from North Carolina to Texas where prices are favorable, not just reasonable. Too much rhetoric damages an argument...
Posted by: Rich

Rich first get your data right.

Median income in the US is $48,200

Median prices for houses in Feburary 2008 were $244,100 for new and $195,000 for existing.

Then, I don’t know where you are getting that 5 times income is ‘affordable’ but has never been considered to be so. Regulated banks and HUD standards for ‘affordable’ means not spending more than 31% of gross income on mortgage, taxes and insurance (or rent.) With a $48,200 income, that means not more than $1245 for PITI (principal, interest, taxes and insurance.) With a 6% 30 year mortgage and assuming 1% of value for real estate taxes and $53/$100,000 of insured value, that supports a mortgage principal of $165,000. $165,000 is 3.42 times income. (If interest rate go up, prices have to fall to maintain the income::PITI ratio.)

A maximum 31% of gross income for PITI is the formula used by FHA, Freddie Mac, Fannie Mae and regulated banks. Someone is feeding you a line of bullhockey about 5 times income.

Yes, in some areas there are houses in the $130K, 90 K and even the $50K range. Yep, you can go buy a place deep in rural WV for $60,000 or so – but of course you would be lucky to have $15000-20000 a year in income. Doesn’t matter if a house in Billygoat Holler is ‘only’ $90,000 if the population there only has a median income of $20,000 and jobs which can pay the prices are few and far between. Thing is you have to look at the INCOMES for that specific area. Go pull up the US census data for your specific county. Do the math using the 31% of gross for PITI and then tell us how many of your residents can afford those prices. Then pull up your local MLS listings and see how many houses are listed that are affordable by the various income distribution ranges. The % of houses in a price ranage should match the % of the population that can afford those prices. If they do not, then prices will have to change because anything else is NOT sustainable.

[FINLwhiz]

I don't follow the logic completely. Lenders are going back to traditional underwriting standards and the FHA limits have been raised, these loans have very specific DTI requirements and qualification standards. The supply of homes well exceeds current demand. Additionally, market valuations don't generally include "distressed" sales. Therefore, market values are still greatly high not because of a lack of foreclosures but because of seller's (and yes banks too) inability to compute erroneous data that points to the drastic overvaluation. California real estate will never be as 'cheap' as the US median average - get over it. It will come down, but more importantly - unless you have CASH - and want to buy a home lenders have to be willing to lend. Until there is some stability in the housing market and folks are comfortable investing in the market (i.e. funding mortgages) - you will not see a healthy market. Staving off the foreclosue bus will bring some stability into the market and won't help to prop up phony values. It is the folks (and lienholders) who don't want to admit they've been duped who are left holding the bag that are not ready to accept fundamental pricing.

In order for a home to sell, someone has to qualify and be able to secure funding - otherwise the property(ies) just sit. Supply and demand - it will take time to work itself out - but it will happen. No one is just all that excited about taking a $150,000 haircut; that's all. But rest assured, the line at the mortgage barber shop is getting longer by the minute.

[Brian]

puckhead, you do not understand the roll of the FDIC. Also, it is an apples-to-oranges comparison you are trying to make. Please understand how deposit insurance works and why it is needed before scold banking customers. FDIC insurance is not a bailout.

[tony]

Ahhh, finally, someone makes good sence, but even someone with half a brain should've known about this though.

Heck, even Peter... The Real State guy, says he doesn't see the market deflating rapidly.

For those of you who like pain, Peter is predicting it will come to you slowly...

[Digitalian]

>>I’m not an advocate for a bailout. But I do find it comical >>that the same people who say “no bailout for greedy >>homeowners and banks”, has no problems with the FDIC >>insuring their accounts ... puckhead

To equate FDIC insurance which allows people to feel safe in saving money in an interest earning bank account with a bailout of the stupid and greedy people who took out high risk mortgages for houses they could not afford is absurd.