The Fed’s Housing Politics

This is not serving our long-term economic interest and it perpetuates the distortions in the housing market and misallocates resources.

From the WSJ:

The central bank compromises its independence with rank electioneering.

 These columns have defended the independence of the Federal Reserve from attacks on the right and left, but after last week the central bank is on its own. It’s impossible to defend the Fed’s rank electioneering as it lobbies for more political and taxpayer intervention in the housing market—just in time for the election campaign.

This extraordinary political intrusion came in the form of a 26-page paper that the Fed sent to Capitol Hill last Wednesday, without invitation, graciously offering what Chairman Ben Bernanke called a “framework” for “thinking about certain issues and tradeoffs.” He was underselling his document. The paper is a clear attempt to provide intellectual cover for politicians to spend more taxpayer money to support housing prices.

In case there was any doubt on this point, New York Fed President William Dudley put them to rest Friday when he called specifically for bridge loans for jobless borrowers, more government-assisted refinancings, a new program for principal reductions for underwater borrowers, and floated the possibility of getting Fannie Mae and Freddie Mac into the rental housing business. Your average HUD secretary wouldn’t dare go this far.

As America’s central bank, the Fed is responsible for monetary policy and bank regulation. During and since the financial panic, and in the name of preventing a meltdown, the Fed has bought mortgage-backed securities to provide liquidity for housing and keep down mortgage rates. This is a form of credit allocation and should be winding down, though it is at least arguably within the emergency purview of monetary policy.

It is a far different matter to tell Congress and the executive branch that they ought to rescue homeowners who borrowed more than they can afford to repay, or strong-arm banks to loosen credit standards for borrowers, or further entrench government-sponsored enterprises (Fan and Fred) that have already cost taxpayers $142 billion in losses. These are core political questions that belong to elected officials.

The intrusion is especially ill-timed because it looks like an attempt to further isolate Edward DeMarco, Fannie and Freddie’s politically beleaguered regulator. House Republicans have closed off another housing bailout from Congress, so Administration officials and Capitol Hill Democrats are desperate to unleash Fannie and Freddie to spend even more to rescue underwater homeowners.

Their main obstacle is Mr. DeMarco, who has bent a little to accommodate the Treasury’s expanded refinancing program but rightly says he has a legal mandate to protect taxpayers. The Fed white paper acknowledges that committing more taxpayer money to its housing brainstorms could stick Fan and Fred with more losses, but it suggests this is worth promoting a faster housing recovery. How about we put that gamble to a taxpayer vote? In any event, it’s disgraceful for the Fed to contribute to the mau-mauing of a fellow regulator.

The advice to let Fan and Fred rent out foreclosed properties they own until prices rise also goes against the lesson of previous housing recoveries. Prices recover faster—recall the Resolution Trust Corp. after the savings and loan bust—when the government sells property as quickly as possible, so prices can find a bottom. The last thing housing markets need is an extended Fannie and Freddie inventory overhang.

The Fed also suggests having Fan and Fred weaken their standards for loan modifications and expand an existing refinancing program to include private-insurance-backed mortgages participate. But weak lending standards is part of what created the subprime mortgage mess. No wonder the mortgage bankers, the homebuilders and the rest of the housing lobby greeted the Fed’s white paper with enthusiasm. They’d love to see Fannie and Freddie more politically and economically entrenched so reformers can’t slowly reduce their market dominance.

The Fed will no doubt justify all of this by claiming that the larger economy can’t recover until housing does. Yet this confuses cause and effect. Housing recoveries don’t lead economic recoveries; they occur as part of the larger recovery as incomes begin to rise and consumer confidence grows. It’s precisely this “housing must save the day” mentality that caused the Fed to keep interest rates too low for too long after the dot-com bust and 9/11. This promoted the housing bubble and led to the mania and crash. By force-feeding a housing recovery, the Fed is misallocating resources that will make the expansion less durable.

The Fed’s economic timing is especially curious given Friday’s encouraging jobs report for December. Manufacturing is expanding and the economy is showing signs that the modest expansion may be self-sustaining. Aside from a European meltdown and a 2013 tax increase, the main threat to this growth is if Washington maintains its habit of willy-nilly intervention in housing, health care, energy and everything else.

We recently attempted to add up the number of housing-support programs that the federal government has implemented since prices began to fall five years ago. We counted 16. Maybe Washington should do nothing for a change, let foreclosures take their natural course, allow the surplus supply of houses to clear, and see if that works. It can’t do any worse.

Beyond the policy errors, the larger issue is the political independence of the Fed itself. Its Board of Governors is now dominated by Obama appointees who share the interventionist designs of their colleagues in the White House. Mr. Dudley is a White House and Treasury man. Mr. Bernanke may feel surrounded, but we’d have thought he’d have more respect for the integrity of his institution.


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