An article by James Hagerty from today’s Wall Street Journal details a speech made by Patrick Lawler, the Chief Economist for the Federal Housing Finance Agency who spoke at a panel discussing housing policy hosted by the Federal Reserve Bank of Cleveland.
He expressed some very interesting ideas about how to reform the housing market, specifically 30-year fixed rate mortgages, among other things.
In the United States, we take for granted that there are long-term fixed rate mortgages that can be refinanced at any time, and generally paid off early with little or no penalty for the borrower. This stands in stark contrast to Canada, which has a system where loans are adjustable, and only run for a short term before adjusting. In the United States the interest rate risk falls upon the lender. In Canada the risk falls upon the borrower. According to Lawler, this causes two problems:
- Our mortgage system causes mortgage rates to be higher than they might be under an alternate system. Lawler said that Americans pay as much as an additional 1/4 to 1/2 percentage point because borrowers are allowed to pay off mortgages early. He adds that we pay at least a full point extra on our mortgages because we make lenders assume interest rate risk.
- The second problem is that in order to make our mortgage system sustainable, we were forced to create Fannie, Freddie, and FHA. Typically private investors do not want to assume long-term interest rate risk, so it falls to the government to help finance/insure mortgages. This has been particularly expensive for taxpayers of late, we have spent $145 billion bailing out Fannie and Freddie, and some estimate that the final cost of the bailout could be as much as $500 billion to $1 trillion dollars.
Eliminating the long-term fixed rate mortgage would be an extremely radical idea, and would represent a fundamental shift in the housing market that seems unlikely to happen any time soon. Possibly the best argument for doing so is the state of Canada’s mortgage market compared to our own. Currently 0.44 percent of Canadian borrowers are seriously delinquent on their mortgages. Nearly 10 percent of U.S. borrowers are seriously delinquent. Possibly it is time to more seriously consider fundamental shifts to the way we look at mortgages.
What do you think? Let us know in the comments section below.
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