Surprise Party: Fannie/Freddie To Waive Underwater Mortgages?

Everyone is talking about this blog post from James Pethokoukis, who reports on rumors sweeping the DC-NYC network that the Obama Administration is considering ordering Fannie Mae and Freddie Mac to waive mortgage balances for borrowers who are underwater on their mortgages.

Main Street may be about to get its own gigantic bailout. Rumors are running wild from Washington to Wall Street that the Obama administration is about to order government-controlled lenders Fannie Mae and Freddie Mac to forgive a portion of the mortgage debt of millions of Americans who owe more than what their homes are worth. An estimated 15 million U.S. mortgages – one in five – are underwater with negative equity of some $800 billion. Recall that on Christmas Eve 2009, the Treasury Department waived a $400 billion limit on financial assistance to Fannie and Freddie, pledging unlimited help. The actual vehicle for the bailout could be the Bush-era Home Affordable Refinance Program, or HARP, a sister program to Obama’s loan modification effort. HARP was just extended through June 30, 2011.

The calculation, of course, is that this would be a bailout by executive fiat timed for "Main Street" to express its gratitude just in time for the November elections. Hard to see how this "calculation" makes sense. It's estimated that approximately 20% of mortgaged homes are underwater, while 80% are just fine. Doesn't it make more sense that the 80% solvent class will be royally ticked off at the thought of taking on the mortgage liabilities for the 20% insolvent? Rick Santelli's original "Tea Party" rant was directed - it can be hard to remember this in the light of the Tea Party's subsequent association with the health care debate and raaaaaacism - against an earlier mortgage relief plan proposed by the Obama Administration.

And typical for the federal government's approach to the financial crisis and the aftermath of the bursting housing bubble, underwater mortgages are not the problem. An inability to pay off the mortgage balance is the problem. If you can make your payments, the size of the mortgage relative to the present value of the house shouldn't matter. As we have all learned, the fair market value of residential real estate is not set in stone. Yeah, the value of your house may be down this year. What does this have to do with its value in 5 years? 10 years? 15? Nothing at all. In fact, the faster the housing market can find a true bottom the sooner those valuations can rise. But, continued interference in the market by the government and its GSE's maintains the status quo: artificially inflated housing values that interfere with the free alienation of property and prevent homeowners from realizing the true value of their homes.

The high school graduates attending Tea Parties understand this instinctively. You need to go to Harvard to learn the opposite.