2010: A Obama/Bernanke/Geithner housing bubble on the taxpayers’ dime


At the heart of our economic crash was the housing bubble. Conversely, any economic recovery requires a healing and improving housing market. There’s been a lot of rosy talk making the rounds about the housing “recovery” of late. The National Association of Realtors and many economists were just shy of ecstatic about November’s existing home sales numbers, thanks largely to the original deadline for the First Time Homebuyer’s $8K tax credit. But that happy bubble deflated somewhat on Christmas Eve when the US Commerce Dept surprised analysts when they released the seasonally adjusted figure of 355,000 new home sales, down over 11% from October’s figures.

Despite all the feel good reporting coming from govt mouthpieces and a willing media, a simultaneous event to the readjusted figures, *not* being splashed across MSM headlines, indicate the Obama WH, his omnipotent Treasury guru, Tim Geithner, and Fed Reserve powerhouse Ben Bernanke are privately not so convinced of their own talking points about a housing recovery.

The near term future of housing cannot be discerned by the trends of a few months… especially when the positives are directly traced to a housing industry supported by the federal taxpayers – holding up not only the banks, but the ever increasing in size mortgage giant FHA and Ginnie Mae.

But before I transport you to our likely future, let’s backtrack to last summer when Bernanke penned his economic “exit strategy” in a WSJ op-ed.

The exit strategy is closely tied to the management of the Federal Reserve balance sheet. When the Fed makes loans or acquires securities, the funds enter the banking system and ultimately appear in the reserve accounts held at the Fed by banks and other depository institutions. These reserve balances now total about $800 billion, much more than normal. And given the current economic conditions, banks have generally held their reserves as balances at the Fed.

But as the economy recovers, banks should find more opportunities to lend out their reserves. That would produce faster growth in broad money (for example, M1 or M2) and easier credit conditions, which could ultimately result in inflationary pressures—unless we adopt countervailing policy measures. When the time comes to tighten monetary policy, we must either eliminate these large reserve balances or, if they remain, neutralize any potential undesired effects on the economy.


Even if our balance sheet stays large for a while, we have two broad means of tightening monetary policy at the appropriate time: paying interest on reserve balances and taking various actions that reduce the stock of reserves. We could use either of these approaches alone; however, to ensure effectiveness, we likely would use both in combination.

Congress granted us authority last fall to pay interest on balances held by banks at the Fed. Currently, we pay banks an interest rate of 0.25%. When the time comes to tighten policy, we can raise the rate paid on reserve balances as we increase our target for the federal funds rate.

Even prior to his op-ed strategy, Diana Golobay at the Housing Wire was predicting a long term problem with such a strategy.

Home affordability is rising because prices are falling, which also entails inclines in negative equity. The spike in affordability is also interest rate-driven, but interest rates come and go, according to Fleming. Treasury Department secretary Tim “Geithner wants to stimulate the demand side and…potentially force Fannie [Mae (FNM: 1.18 +1.72%) ] and Freddie [Mac (FRE: 1.47 +3.52%) ] to do 4 percent rates,” he said. “If that comes to be, that’s going to be a huge demand-side shock…not necessarily on the buy side, but on the refi side. But what happens in 10 years when we need to refi again? That’s kind of what got us into this.”

Within the same panel, a senior economist at Barclays Capital Inc., Julia Coronado, echoed Fleming’s home price decline forecast, saying prices will not stabilize until well into 2010. As a reaction to the continued pressure on home prices, households will demonstrate a change in spending while the household savings rate will quickly rise and reach into 5.6 percent in 2010, she said.

“We don’t predict another asset bubble to come to the rescue,” Coronado said. “Too much damage has been done to the financial sector…. We’ll have to get out of this the old-fashioned way, by digging our way out — or saving our way out.”

Translation of Bernanke’s “exit plan”? Stimulate to improve the rates… as we’ve seen… then withdraw the fed’s support and beat inflation with raising rates…. needed to control inflation, as well as a shrinking divestment of the mortgage assets or MBSs. (mortgage backed securities)

Since the introduction of TARP, under complete and unaccountable control of the appointed Treasury Secretary, banks have been bolstered up by taxpayer infused dollars. The intention, along with increased scrutiny and regulations, was to get the money moving for credit again.

Instead, the opposite happened and the 21 largest recipients of TARP funds reduced their lending services by 7% as of last April. A great part of that was a decline in loan originations for residential and commercial… much of which could be attributed to more stringent qualification criteria and a lack of fluid cash by borrowers.

Enter FHA (Federal Housing Authority) with a bit more forgiving credit scores and 3.5% downpayment required for their documented loans. According to a December interview in the Realtor Magazine with the FHA Commissioner, David Stevens, FHA has increased it’s market share of residential mortgage portfolio mightily as a lender of last resort for borrowers not able to meet the tighter criteria requiring 5, 10 or 20% downpayments. In fact, the Commissioner has tut tutt’ed Congressional suggestion that FHA raise it’s downpayment requirements to 5%.

In 2006, FHA represented about 2% of the residential mortgages. As of today, Stevens estimates they are 40%, with some analysts putting that figure at 50%, of all purchase transactions.

Not unlike the private sector securitization of MBSs, FHA pools and packages it’s loans which are then sold to Ginnie Mae, a government owned corporation within HUD for management. Ginnie Mae’s securities are *the only* ones that are backed with the full faith and credit of the US government.

This rapid acquisition of home mortgages, all backed by the government’s credit (that’s us, BTW) via FHA was enough to set off alarm bells with some back in October. Money Morning’s Don Miller reported on the Congressional hearings, addressing FHA’s solvency projections.

Government officials testifying before Congress on Thursday staunchly denied that the Federal Housing Administration (FHA) is destined to be the next financial institution to require a taxpayer bailout.

But at least one critic testified that the agency is about to burn through its cash reserves in the next 24 to 36 months and will require a federal bailout to survive.

Former Fannie Mae (NYSE: FNM) executive Edward J. Pinto predicted at a hearing in front of a House Financial Services panel that the FHA will incur $40 billion in losses, rendering it unable to cover its bad loans without taxpayer help.

Pinto, a real estate finance consultant who served as Fannie Mae’s chief credit officer from 1987 to 1989, testified that an annual audit conducted by the FHA showing it will not need government assistance is based on underlying assumptions that are “overly optimistic.”

But FHA Commissioner David Stevens assured lawmakers that his agency would not need a bailout and that it was doing a good job managing its risks. He characterized Pinto’s assertions as “completely unfounded.”

Money Morning Contributing Editor Shah Gilani recently made a similar argument.

“In an era of increasingly stringent lending standards, the FHA’s standards are laughably lax,” Gilani said in a recent Money Morning editorial. “The almost inevitable insolvency of the FHA could rapidly undermine the fragile recovery of the U.S. economy. And it could plunge stock prices and bank viability to new lows.”

It was then that I heard some others in the media beginning to echo my own claims of a new housing bubble… or perhaps better characterized as an attempt to reinflate the housing bubble… created by government funding.

Some fearful lawmakers want to rein the agency in before a repeat of the Fannie Mae and Freddie Mac bailout. On the other hand, but others are afraid tighter regulations on the FHA could kill the housing recovery, which is only just starting to stabilize.

The defaults are simply the price we have to pay to get the housing market moving again, according to U.S. Rep. Barney Frank D-MA, who serves as the chairman of the House Financial Services Committee.

“I don’t think it’s a bad thing that the bad loans occurred,” he said. “It was an effort to keep prices from falling too fast. That’s a policy,” Frank told The Times in an interview.

But because of their low initial investment, some critics say these borrowers are more apt to simply walk away if they are hit by a job loss or by another drop in home values.

To some members of Congress the risk is too high.

“I’m concerned that the private market for loans with little or no money down has shifted directly onto the books of the federal government,” said U.S. Rep. Ed Royce, R-CA. “We need to make certain that taxpayers are not again on the hook for the failures of Washington.”

Does any of this sound familiar? It was back in 2004 when the Republicans attempted to rein in Fannie/Freddie prior to the housing collapse, and ran into Democrats insisting “Mr. Chairman, we do not have a crisis at Freddie Mac and particularly at Fannie Mae…

And just as Fannie/Freddie CEO’s insisted on the GSE’s solvency, FHA Commissioner Stevens follows the same path. Instead he accuses those issuing the warnings of having far too many taxpayer backed mortgage assets with low down payments in an era of unstable employment future of not getting the facts straight.

“What concerns me, and I think should concern all REALTORS®, is . . . non-fact-based [criticism] from people who jump to conclusions without looking at data [and] create an environment where we’ll be forced to make corrections where they are not required and can hurt this housing recovery.”

Stevens rests his foregone conclusions on FHA’s ability to cover estimated capital losses by relying on the flow of funds from FHA’s capital reserve to it’s financing account funds in his Congressional testimony.

There are two flies in the ointment, as Stevens, himself admits. The first fly is that the FHA borrowers’ default ratios from loans even from 2007 are rising. A trend that is forecast to worsen as unemployment is projected to remain high into 2010. Indeed, if additional demands on business are implemented with health insurance mandates, taxes and penalties, increased employment hasn’t such a rosy future either… but that’s another volume.

But many of the borrowers who took loans from the FHA in 2007 and last year are now defaulting, the agency acknowledged. Stevens admitted during his testimony that one out of five loans insured last year – and as many as 24% of those from 2007 – have problems, including foreclosure.

The loans made in those two years are performing “far worse” than newer loans, dragging down the whole portfolio, Stevens of the FHA said in an interview with The New York Times.

The total number of FHA mortgage holders in default is 410,916, up 76% from a year ago, when 232,864 were in default, according to agency data.

The second fly is the more dangerous species. Stevens bases his confidence in solvency on a continued stability or improvement of housing prices. Again, from his Congressional testimony:

Newly Insured Loans and Future Books of Business

•The drop in the capital reserve ratio reflects FHA’s current position after experiencing the depths of the recession and a historic decline in housing values. As newly insured loans are being underwritten at or close to the bottom of housing prices, there is potentially lower risk that housing values of these new loans will become underwater in the future.

Or to put it more bluntly, from the opening remarks of Stevens’ Congressional testimony:

Let me simply state at the outset that based on current projections, absent any catastrophic home price decline, FHA will not need to ask Congress and the American taxpayer for extraordinary assistance – we will not need a bailout.

The “bottom of housing prices”?? “Absent any catastrophic home price decline”?? Both are bold statements, and the second is vague as to what may constitute “catastrophic”.

Bad news for Commissioner Stevens is that we are by no means at the “bottom of housing prices”. Which brings us right back to Bernanke, and the shell game he plays with Geithner.

On Christmas Eve, another of those innoculous news blurbs quietly hit the news on the heels of the revised downward housing figures…. Geithner announced he was ending the lifeline cap on Fannie and Freddie for three years. Apparently Geithner felt it was important to allay investor concerns that the govt seized GSE’s cannot exhaust taxpayer assistance. Additionally, this 11th hour exercise of authority lightened the GSE’s timeframe mandates to shrink their portfolios.

This is not the action of an administration, confident in their “housing recovery” talking points….

It was even more interesting with the timing… not only on the heels of a revised downward housing recovery report, but just days away from the Treasury’s authority expiration. Did they not trust Congress for an extension on that authority? Inquiring minds do so want to know.

The two companies, the largest sources of mortgage financing in the U.S., are currently under government conservatorship and have caps of $200 billion each on backstop capital from the Treasury. Under a new agreement announced yesterday, these limits can rise as needed to cover net worth losses through 2012.

The Obama administration is “beginning to realize it’s not getting better and it’s not likely to get better” soon in the housing market, said Julian Mann, who helps oversee $5.5 billion in bonds as a vice president at First Pacific Advisors LLC in Los Angeles. “They don’t want the foreclosures now, so they’re saying, we’ll pay whatever it takes to continue to kick the can down the road.”

Foreclosure filings exceeded 300,000 in November for a ninth consecutive month, RealtyTrac Inc. reported Dec. 10. The firm said filings will reach a record 3.9 million for the year.

As I watched the financial news talking heads circuit in the days that followed the announcement, they started getting it immediately. Bernanke’s Fed Reserve support of the housing industry is doing it’s planned wind down, and the slack is now to be picked up by the US Treasury instead. They are simply tag teaming the taxpayer infusion from one agency to the other.

John Dalt over at Seeking Alpha has one of the more interesting revelations… fully admitting the news didn’t sink in when first announced.

The Fed has been buying mortgage-backed securities (MBS) in order to keep interest rates lower. This coupled with the direct buying of Treasury bonds was under their term of “quantitative easing.” A fancy way of saying they were “printing $1.25 trillion.”

The Fed announced they would end the purchase of Treasuries in the fourth quarter of 2009 and stop purchasing MBS in spring of 2010 This means that market forces would start to work again, which cannot be good news for world improvers.


Is our Treasury Department doing the same thing in bonds? Duh. T.M wrote, “One thought I had…The Fed’s buying of mortgage securities is scheduled to end March 31, 2009. So, if the fed isn’t buying this…garbage who else is going to? Why of course, Freddie and Fannie! Now it doesn’t matter how much they lose as long as they keep loading their balance sheet!”

Touché T.M. you may have hit the nail on the head.

The ‘twins’ can buy MBS to force the market down, relieving the Fed of intervening. Even more nefarious they can sell their bonds for less than face value and book a loss to the taxpayer. They can also write down mortgages for troubled homeowners, and send the bill to the Treasury.

This allows the Fed to act as if they are withdrawing from supporting the markets. Just like a shell game, when you watch one shell there is mischief occurring with the other shells. Classic.

When you force the yields on MBS down the effect is also felt in the treasury auctions. The added political benefit is that the losses on the ‘twins’ debt will not show up for a few years. The Fed has a mess on their hands. All the treasuries and MBS they have bought sport low interest rates. They will be marked down as interest rates rise. The ‘twins’ can pump some air back in the real estate market, and leave the ensuing bubble under a new administration.

Another unintended (intended?) consequence is the Wall Street banks will not be able to compete with the ‘twins’ and their unlimited backing by the U.S. Government.

Thanks to T.M. for boring down and seeing the game, as I had not.

Another interesting summary came from Seeking Alpha’s Rolfe Winkler.

Obama needs a slush fund to prop up housing, especially after Ben Bernanke stops printing money to buy mortgage-backed securities at the end of March. Fan and Fred will continue to serve nicely.

One other thing you probably didn’t know. Treasury has its own MBS purchase program running parallel to the Fed’s. It has accumulated quite a bit of paper…

The Treasury said today that it is ending its mortgage- backed security purchase program as of Dec. 31, after about $220 billion in purchases.

That’s in addition to the $1.25 trillion and $175 billion the Fed is spending on MBS and Fannie/Freddie debt respectively.

We may be getting paid back part of one bailout — TARP — but the only reason banks have the capital to pay that back is because of balance sheet protection they get from other bailouts, not to mention general taxpayer support for asset prices.

None of these tag team/shell games will stop the inevitable. The interest rates *will* increase. That *will* drive home prices down. Despite “rewriting” or “modifying” mortgages by FHA or private banks, toxic assets remain toxic… just more affordable in a monthly payment (for a while, at least). And, if anyone cares to remember, it’s toxic assets that got us into this mess.

as a New York Times article by Peter Goodman today points out, Obama’s “Making Homes Affordable” scam is doing more damage than good. A program I pointed out as a real loser in Feb 2009, I might add.

Some experts argue the program has impeded economic recovery by delaying a wrenching yet cleansing process through which borrowers give up unaffordable homes and banks fully reckon with their disastrous bets on real estate, enabling money to flow more freely through the financial system.

“The choice we appear to be making is trying to modify our way out of this, which has the effect of lengthening the crisis,” said Kevin Katari, managing member of Watershed Asset Management, a San Francisco-based hedge fund. “We have simply slowed the foreclosure pipeline, with people staying in houses they are ultimately not going to be able to afford anyway.”

Yes, foreclosures aren’t going to be slowing any time soon. And the ugly reality is, a rise in the rates means assets that aren’t toxic now with end up in that waste dump as well. And it doesn’t take much of a rate increase to turn you upside down when you’re sitting with only 3.5% equity in the home.

One has to wonder… is that what FHA Commissioner Stevens would consider a “catastrophic decline in housing prices”?

This gives me the impression that neither FHA Commissioner Stevens, or this administration, care if they create a bubble to perpetuate an illusion of financial improvement. It’s all about them looking good… at least long enough to kick that can off to the next admin, and hand the bill for the losses to the taxpayers.

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You sure put together a great collection of important information there. Thanks. I just have a couple of random musings.

I’ve built two homes with my own hands, and have a pretty good idea what it really costs to build some of these million$500,000 homes. Basically, it can be done for about one-third of what a contractor charges if you’re not in a hurry. In the not-too-distant past, contractors would spend money on a house like they didn’t care – and they really didn’t because most contractors work on a cost-plus basis. The more they spend, the more they profit (which gets back to why I always built my own).

When the music stopped, a lot of people got caught with new houses that were objectively worth much less than what was spent on them. So my best guess is that that the bottom of the housing market will be reached when recently built homes are selling for 20% less (on average) than it cost to build them. (See my website for my philosophy of building houses.)

From over thirty years of watching aghast at what people would pay for a place to live, it’s my sense that there are two major pools of buyers for new homes: 1. Working folks with a bright future who are secure in their jobs and expect to be earning more in the future, and 2. Retired folks who have made a pot of money somewhere else and are moving into a new area to retire.

Obviously, my No. 1 group is pretty small right now, and the “pot of money” that the No. 2 group had saved up is now only half as big as before. I know several Floridians who, several years ago, were planning on selling their homes down there and move up to God’s Country. They’ve been unable to sell their homes for what they needed to build their new one.

I guess what I’m trying to say is that the government can use their fiscal smoke and mirrors all they want, but the housing market won’t get better until people have steady jobs. By debasing the dollar, the government is actually making the problem worse, IMHO.

I think it just needs a little more patience to see the actual effect of the government’s intervention on the failing housing market.

The Government already had a form of “intervention” by mandating loaning groups to make it easier for people with lower income or no income to get mortages (Freddie, Fannie, etc). This was only gasoline to the fire that was slowly smoldering under corrupt book keeping from many mortage companies who still are backed and defended by a Democraticly dominated Congress (Freddie.)