Saturday, February 23, 2008

Alan Blinder and Mark Thoma want to bring back the HOLC

Mark's post is here.

I am myself a fan of the HOLC, and have said so in articles I wrote with Susan Wachter for Journal of Economic Perspectives and for the Jackson Hole conference last summer, as well as a comment I just wrote for Housing Policy Debate. Yet I am not sure it is alone the medicine for the current crisis.

When the Home Owners Loan Corporation was invented, it was in response to an economic tsunami that swamped lenders and homeowners. Moral hazard was not much of an issue, as loans were stringently underwritten (typical LTVs were 50 percent at origination). But loans had short terms, and therefore were vulnerable when people were forced to refinance in the teeth of the great depression. The HOLC allowed for massive loan modification and helped get incentives for borrowers and lenders aligned correctly.

Now, however, we are in the midst of a crisis that has arisen in part because of agency problems throughout the lending chain. To bail out lenders through some sort of HOLC setup could very well encourage excessive risk taking in the future, which is of course problematic.

I think if we are going to go the HOLC route, it needs to be accompanied by a regulatory structure that will prevent the sort of bad practices that led to the current crisis going forward. As I have noted before, such regulatory changes would require greater transparency, a requirement that everyone who touches a mortgage be subject to federal supervision, and a requirement that everyone who touches a mortgage have some capital at risk.


Alan said...

The HOLC is a good idea for managing the house price decline. It is a bad idea if the government is intending to support the current prices.

The original HOLC, as I recall, offered lenders a very much lower rate on properties it took on. Lenders were happy to get it, because it was something rather than nothing. In the current case, the 2008 HOLC should buy mortgages, perhaps buy these opaque, er, innovative instruments, at a deep discount. This is the idea floated last month by Robert Kuttner.

Offer a deep discount on these securities, unpack them, and get to the rational price without bailing out the lenders.

The problem of moral hazard is one concern, but by ratifying these high prices through a bailout, we are also grossly misallocating the society's resources.

John Tepper Marlin said...

I agree that the banks are changing their tune from a lax regulatory environment - "My Way" - to a plea for support - "Buddy Can You Spare a Dime?" At very least, the regulatory structures that were put in place at the time of HOLC should be replaced if not restored.

North GA Real Estate said...

I found Alan comments very interesting and his last comment says it all.

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