bailout | Just thinking...by Mark J. McArdle

We’re all aware that the US is in serious trouble because some unconscionably stupid, or greedy consumers took on mortgages for homes that they could not afford. And they were met all to warmly by predatory mortgage lenders who sold these mortgages, then handed them off to other scoundrels who packaged them up as “mortgage-backed securities”.

There is much discussion about what to do with these mortgages. Senator McCain’s Presidential campaign included a kind of “buyout” for these mortgages, which struck me as a profoundly un-Republican thing to do.

First, I want to separate the mortgage difficulties faced by a family who’s income has been affected by a recession-related job-loss. You can’t hold people responsible for a mortgage that they could have managed without difficulty when both parents were working. I’d actually want to see them assisted before we help the stupid/greedy people.

The “culprits” I want to focus this discussion on are the people who, either through ignorance or greed, bought a house that they could not afford. Let’s call what they have “bad mortgages”.

As Consumers, we all have an implicit personal responsibility to only spend what we can afford. There are protections in place to prevent us from being taken by fraudulent marketing. This is one of the aspects of “regulation” that is hotly debated by the Left and the Right. Pure free marketeers believe there should be no regulation, but I think that leaves consumers in the position of having to either be, or hire, the services of a financial and legal expert to vet every transaction they undertake. Clearly, that’s not scalable. The Left believes there should be lots and lots of regulation. That will grind commerce to a halt, and add so many layers of bureaucracy that our markets would become massively inefficient wastelands. Neither side is right. There is a reasonable compromise to be struck. And the fact that Canadian Bank and Mortgage regulation has largely insulated the Canadian homeowner from these problems speaks to the benefits of reasonable regulation.

President Obama has created a proposal that he describes as follows:

refinancing help for four to five million homeowners who receive their mortgages through Fannie Mae or Freddie Mac
new incentives for lenders to modify the terms of sub-prime loans at risk of default and foreclosure
steps to keep mortgage rates low for millions of middle class families looking to secure new mortgages
additional reforms designed to help families stay in their homes

I’ve been thinking more lately about what the “right thing” to do is with respect to these “bad mortgages”. It is entirely unfair, in my opinion, to pay off, in any way, the equity shortfall, or mortgage payments of a bad mortgage holder. You can easily imagine a neighbour of his next door, who bought a smaller house, and is fully current with his mortgage, wondering why his tax dollars are paying for the mistake/greed of his neighbour.

It would not be fair. But in the “big picture” we have an economy which is being held at gunpoint by these bad mortgages. Some major US financial institutions, like Citibank and Bank of America could become insolvent if the mortgage failure trend continues. These banks will become the proud owners of massive numbers of homes which are worth much less than their mortgaged value. The Bank’s money, long gone into the hands of builders and speculators. The cascading effect of major US bank failures is a terrifying one. Don’t worry about your savings and checking account, because 99% of us don’t have hundreds of thousands of dollars there. But think about the small and medium sized businesses. Think of the credit crunch when a few more major banks fail. More businesses will fail, and more people will lose their jobs causing yet more mortgage defaults. It’s not a pretty picture.

So what might be fair? The current proposal is for the government to pay portions of these mortgages, and re-negotiate the lending rates. But to me, that’s unbalanced. Fred shouldn’t be paying off Stan’s mortgage because Stan is a greedy/stupid guy. I have a proposal:

When mortgage relief is offered to anyone who has a “bad mortgage”, if they take it, they forfeit any equity to that house when they sell it until the government is paid back. Think of it as a 100% capital gains tax on bailout home sales. As with all systems, there are ways to game it to your advantage. I fear this would be very difficult to implement. But the spirit of this idea is that the government/taxpayer gets it’s money back when/if the home sells at a higher price in the future. The bailed-out homeowner doesn’t get off scott-free. Of course, this assumes the house will be worth more in the future, but that’s not likely to happen for a long time.

I’m curious what you think of this idea. My gut says one underlying problem is that it doesn’t let the “bubble” reset, but it prolongs inflated home values. One of the arguments used by proponents of a mortgage bailout is that “good mortgage” holders home values will be negatively affected by the default of the “bad mortgage” holders. That’s true, but isn’t the loss in home value related to an inflated supply of homes? I think the underlying problem is that too many homes were built (at too large a price because of the easy-mortgage money that was available). That’s not going to be corrected by bailing out these mortgages. I think the market has to stabilize, which probably means the housing over-build has actually reduced the value of everyone’s home. Supply and demand 101. Grow the economy, and raise the wealth of the middle-class, and perhaps the demand side of the equation will scale up and start raising home values again.

The Obama proposal allows people to continue to live in homes they can’t afford, while honest, hardworking taxpayers continue to live within their means. Are there no repercussions for being irresponsible and for affecting the health of your country?

I find it ironic that with all the money and attention focused on terrorism that the greatest threat to our “way of life” has come from idiots and scoundrels holding US passports in hot pursuit of “the American Dream”. I hope these people are ashamed of themselves.

mJm

Christmas was once again a wonderful time to gather with my family, and enjoy the fun that can only be had with loved ones from different generations. Santa visited, and brought with him a great assortment of gifts that were universally treasured. But there was something I secretly wanted, but have yet to receive.

I’ve spent a lot of time over the past few months reading from various sources about the current challenges our global economy faces. The financial meltdown brought on by the ABCP farce seemed to sneak up on us (or at least it snuck up on Sen. “the fundamentals of our economy are sound” McCain). But the disaster we are seeing in the automotive industry, and specifically, the “Big 3” is something many people have seen coming for years.

I have vastly simplified their problems down the the following:

They build and sell cars in a way that is not economically sustainable.
Their labour costs are completely out of whack with the value the jobs deliver.
Management has utterly failed to lead the companies by fighting the forces that weaken their viability.
Management makes large bonuses to maintain the failing status quo.
The quality of their product is weak.
The unionized environment enriches workers, but destroys any possibility of a culture of innovation, improvement and efficiency.

The talk of a bailout is rampant, and it’s become clear to me that the politicians are absolutely going to give billions of our dollars to the same managers and union bosses that got us into this mess. There is less political risk if the Big 3 go bankrupt if you voted to give them billions of dollars. He can say “well, I tried”. It seems to me a cowardly and reckless way to lead and manage my tax dollars.

So, back to my missing Christmas gift…

There are moments in history, usually brought on by crisis, and real risk of loss or devastation, where the political will to really impose change exists. Some changes were good, others bad. Unfortunately, the bad ones are usually really bad. But things improve when there are bad headlines, and widespread outrage, fear or anger. Planes are safer because of terrible crashes, as are cars. The healthcare industry changes when pharmaceuticals or tools are proven to be dangerous. Our planet, according to many, is trending towards a very dangerous outcome due to the impact of greenhouse gases. There is no universal consensus about this amongst the scientific community, but there is rarely consensus where billions of dollars are at stake. As a rational person, I’ve looked at the data on both sides, and have agreed with the YES side. Having traveled around the world, I’ve seen the impact that humans have had on their environment. You don’t think mankind can significantly impact the planet? I suggest you travel to Beijing in the summer and take a deep breath.

The reliance on oil as the basis for our transportation is hitting us on 3 levels:

The emissions are destroying the atmosphere.
The massive transfer of wealth from the west to the middle east is a dangerous threat to our national security.
Oil will eventually become very scarce. The “easy” oil is gone, and now we’re digging deeper and in areas that were previously “off limits”.

So, let’s review. We have an industry (automotive) on the verge of collapse. Without massive change, and taxpayer assistance on a previously unprecedented level (unprecedented until the TARP funds), the “Big 3” will fail. We have an environment being damaged globally by the products these very same companies are mass producing. Do you see where I’m going with this?

There has never in history been a more prescient moment to change the automotive industry. I propose the following:

Taxpayer money will be made available in the form of loan guarantees, as well as grants (let’s call them “investments”) to the “Big 3” and the related fuel infrastructure players, provided they meet the following conditions:

Immediate R&D into Hydrogen based propulsion system. If they need help, ask Honda about their Clarity model.
No R&D funds will be spent on any petroleum based engine technology.
With the exception of parts to support the vehicles currently on the road, all manufacturing facilities will be used to produce Hydrogen fuel cell based vehicles.
Fund the Hydrogen distribution/retailing infrastructure. Incentives to stations who will provide Hydrogen refilling stations.
Fund the creation of clean Hydrogen generation stations.

Taking these steps will result in a transformation of the automotive industry that will set up our children and grandchildren for success. They will have great vehicles, that run on a clean and sustainable fuel that is not driving wealth out of our economy, and pumping poisonous emissions into our air. As an aside, I think that if the “Big 3” want to continue to build the vehicles in the same way they have previously then the bailout funds should come directly from Exxon, Shell, BP and the rest of the oil companies. I think the oil companies should look at this as a marketing expense, since it will be ensuring the channel through which they derive the vast majority of their income survives.

It’s concerns me greatly that this isn’t being discussed by the government and environment leadership in North America. This is an opportunity we must seize. It’s not our only opportunity to make changes. We’ll get another final chance when the actual supply of oil starts to reduce (in the next 10-20 years). But if you think the current situation is difficult, imagine what things will be like then.

So, please help me get my Christmas gift. Talk about this idea. Tell your friends, colleagues, and family. And then talk to your MP, Congressman, Senator, Prime Minister and President-elect.

There is no easy way out of this mess. If you think I’m a tree-hugging automobile-hating kook, then read more of my blog. I’m a passionate car guy. I have had a lifelong affair with cars, and I always will. The hardest problems usually come with the potential of having the biggest upside. I’m tired of half measures and pointless compromises. We owe it to our kids.

mJm