Obama's last hope

Make no mistake: President Obama’s recently announced $US75 billion housing plan is a long-term policy disaster insofar as it merely treats the symptoms of the calamity in an extremely costly manner via crude short-term interest rate relief - read good taxpayers bailing out bad - and remarkably does nothing at all to prevent the next generation of US borrowers experiencing exactly the same problems in the future. In fact, it can be argued that it only creates a higher tax burden for tomorrow’s taxpayers.

Disturbingly, the Administration’s response also exacerbates the underlying dysfunctionality that is the root cause of the US’s housing market woes by, for example, offering defaulting borrowers scope to wriggle out of their home loan contracts through the judicial system (or, in the words of the Administration, “allow judicial modifications of home mortgages during bankruptcy for borrowers who have run out of options”).

This will only undermine the enforceability of US mortgages and embed a new risk premium that will inevitably lead to higher future interest rates and likely funding uncertainty - why finance US mortgages when they can be overturned by the courts?

And by reinvigorating the two GSEs, Fannie Mae and Freddie Mac, to, ironically, “ensure the strength and security of the mortgage market”, without any genuine reforms or discussion of their future, the Administration has demonstrated that it does not understand the fundamental flaws inherent in the US banking and finance system, which, as I have previously outlined, precipitated this crisis in the first place.

The Administration’s asinine approach to dealing with the greatest economic challenge since the depression has, to be frank, left me despondent and thinking that the more gloomy prognoses - including those predicting a Japanese-style “lost decade”- could well come to pass. This conclusion was certainly echoed in private discussions I had with respected academics during my recent visit to the US.

All is not lost

There remains, however, “hope” that the more thoughtful decision-makers in the Administration, such as Housing Secretary Shaun Donovan, and President Obama’s key economic advisor, Austin Goolsbee, will search out the superior long-term reforms that they so desperately need.

In this context, I was fortunate enough to be able to present several solutions to the Transforming America’s Housing Policy summit for Obama Administration officials in New York which both Donovan and Goolsbee attended.

The summit’s preamble was entitled, “A crisis would be a terrible thing to waste”, which could not have better captured the awkward cross-roads at which US policymakers find themselves. The difference between the US experiencing an interminable decline and recovering in the medium term to reclaim its place as one of the global economy’s drivers of entrepreneurship and innovation, will arguably hinge on it response to this catastrophe.

The good news is that I believe there is a way forward, albeit one that will require courage, foresight and conviction on the part of the Administration’s decision-makers. Given the life-defining stakes, it is never too late to recalibrate one’s trajectory.

At the summit I presented a specific policy solution to the US’s housing market problems, which appeared to be very well received and featured prominently in our panel’s discussion on reclaiming the promise of home ownership. (This panel included the leading US academic economists, Robert Shiller and Raphael Bostic.)

The proposal also appeared to attract considerable interest from powerful US stakeholders, such as the influential Democratic Senator for New York, Charles E Schumer, whose advisors contacted me after the summit to convey their support.

As I outline below, this plan directly cauterises the US’s underlying housing market dysfunctions, delivers far greater and more permanent interest rate relief for distressed borrowers, allows banks to immediately recapitalise their balance-sheets with a $77 billion cash injection, and will ultimately cost taxpayers much less than the initiative the Administration has announced.