Thanks to Vilhjalm A. who posted this comment in the previous post. It deserves a thorough reading:
Earlier I posted a suggestion made in Ireland about a mortgage-relief plan, under which the underlying mortgage would be reduced by, say, 50%, with the 50% being assumed half by the government, half by the bank holding tthe mortgage.
Here’s a mortgage-relief plan from the US, the “Zingales Plan”:
“Zingales proposes that Congress pass a law to give a recontracting option to all homeowners living in a zip code where housing prices have dropped by more than 20 percent. If exercised, the Plan B option will write down the face value of the mortgage by the same percentage that the area housing price has dropped and, in return, the homeowner will give the mortgage holder 50 percent of any appreciation at time of sale. (Zingales points out that mortgage holders will do much better under this program than with foreclosures, where transaction costs eat up a hefty proportion of the market value.)”
Basically it means the homeowner gets mortgage-relief in return for giving up future profits. And the percentages could be modified in various ways, eg 35% mortgage reduction for 70% of future profits to the government.
So, if a plan like this were implemented in Iceland, it would mean that the government would take on more debt, on paper, but would also get more assets, on paper, so the plan would be a “wash” on the books. Also, you could argue that the state is not favoring one group of debtors over another, since the homeowner debtors are giving up price-appreciation profits – one of the main (potential) benefits of owning a house. The main disadvantage for the state is that it would get less revenue — but is “revenue maximization” the main policy concern of the state? If that were the case, why not just increase income tax (or other taxes) as much as possible?
A rational mortgage-relief plan, combined with the removal of indexing, would keep a large number of homeowners solvent, who would otherwise go bankrupt or leave the country. Probably the amount that the state would lose in mortgage payments would be partially offset by the amount of income tax from employed homeowners, which would otherwise be lost if the homeowner emigrates.
(By the way, the non-recourse mortgages, are used in about 27 U.S. states, mostly in the west plus Texas and Florida. Not the entire country. It’s no coincidence that the largest bubbles and subsequent defaults and foreclosures occurred in those states.)
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Read Luigi Zingales’ paper here
Excerpt:
The great benefit of this program is that provides relief to distressed homeowners at no cost to the Federal government and at the minimum possible cost for the mortgage holders. The other great benefit is that it will stop defaults on mortgages, eliminating the flood of houses on the market and thus reducing the downside pressure on real estate prices. By stabilizing the real estate market, this plan can help prevent further deterioration of financial institutions’ balance sheets. But it will not resolve the problem of severe undercapitalization that these institutions are currently facing.
Related posts:
Vilhjalm A.
2 years ago
Back to the costs of such a mortgage reduction plan for Iceland:
“Tryggvi Thor Herbertsson and the Progressive party have introduced ideas of 20 percent write off of the debts of the homes and companies… The twenty percent write off of the debts of the homes and companies would cost 800 billion krona according to the calculation of the Frettabladid. It may be expected that the housing debts of roughly 78 thousand homes are in total around 1300 billion krona and that was calculated from information about the distribution of housing debts which the central bank of Iceland has published. There of are close to half, or around 600 billion krona housing loans of homes in poor position of owners equity, that is homes that have little or negative financial part of their homes.
The owners equity says nothing about the payment ability of the homes. As well as the fund loans of the pension funds 165 billion krona. 20 percent write off of the housing debts only would so cost 300 billion krona.
The debts of the companies in the new banks are around 2500 billion krona and the same write off of their debts would cost 500 billion krona. Around 3000 billion krona of company debts were left behind in the old banks.
Only the part of housing debts are in the three banks. As well as the 165 billion krona from the pension funds are the loans of the housing financing fund at least 140 billion krona. Then the savings funds banks loans are still left out. The part of the three banks in real estate matters is less than half of the housing loans and so most of the write off would be used to pay off loans elsewhere, not the banks. ”
So – a minimal mortgage-reduction plan for homes most in danger of default would cost:
- at 20% reduction, 120 billion ISK
- at 50% reduction, 300 billion ISK
A larger mortgage-reduction plan would cost:
- at 20% reduction, 260 billion ISK
- at 50% reduction, 650 billion ISk
Even with the large mortgage deduction, the write-off is not all that large. It’s a little less than the Icesave debt.
If you add conditions to the debt-reduction, then the amount would be smaller. For instance, the total assets of the homeowner could be factored in. If the homeowner has eg more than 200 thousand euros total assets, then they wouldn’t qualify, or if they have 100 thousand euros assets then they they would only get a 25% reduction. Or mortgage debt would be forgiven as a percentage of the homeowners’ total assets.
Or the mortgage write-down could be concentrated on those homes purchased during the bubble years, say, 2004-2008.
Also, those owing a relatively small amount of mortgage debt are not likely to trade 50% of future profits for a reduced mortgage.
You get the idea – it’s possible to alter the formula so that mortgage relief goes to those who need it the most, or according to what would be acceptable to the government’s budget.
One objection might be that homeowners would just immediately sell their house and buy the house next door, or buy no house at all. I suppose this could be fixed by putting in a condition that the mortgage-reduction is nullified if the house is sold within, say, 2-3 years.
Also, factor in the costs of lost state revenue if large numbers of people emigrate or go bankrupt:
- if the owners in danger of default go bankrupt, then the state would lose at least 300 billion
- if 40,000 working people emigrate, then the state could lose, for instance 20 thousand euros tax per year @ 30 years = 800,000,000 euros
- if lots of people go bankrupt or emigrate, then this drives down the housing market even more, and then there will be more defaults, banruptcies and emigration.
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