Friday, December 05, 2008

Panic at the Fed?

I believe that the Fed & Treasury do not think they can keep the banking system afloat by either buying/guaranteeing the bad paper or offering cash infusions to the banks. There is no other good reason to be propping up home prices, which I think will contribute to a catastrophic round of inflation as cost of living indices readjust to the artificial housing prices and lack of creative finance options.

I think that this is a sign of panic on Bernake's part. They are willing to forsake the future for the current. I think they can wrap their heads around the consequences of massive banking failures. I believe that they think they can reign in the resulting inflation with higher, Paul Volker style interest rate hikes. If you don't own a home, you’re being sold down the river by both the current Fed and the incoming President.

Home prices are still dramatically out of sync with respect to personal incomes, costs of renting and historical norms. Even today, after 2 years of declines we are still close to double prices from 10 years ago. That’s twice the normal growth rate for home prices. Home prices used to be 2-4 times household incomes, now that number is more like 7-10 times household incomes. This correction is likely only half way though, at best. There are still 2-3 more years of ARM resets due. Plenty of them will be or have been refinanced, but the numbers are still remarkable. Look at the chart at the bottom of the blog linked below. 2010-11 still shows a lot of ARMs resetting. Right now and well into 2009, we are in a trough. Unfortunately the people who took the short cut are going to have bear the burden of their mistake. Bailing them out is foolish. There was no bailout for people who lost massive net worth’s when the dot com and telecom bubbles burst.

Allowing people to tap into their retirement is not a solution to this problem. First off, it probably will not be sufficient to stem the tide of foreclosures. Second, all that does is put off the inevitable. If you let people deplete their retirement to save their house, you are simply going to have to deal with them when they reach retirement age without sufficient savings.

People need to get over the idea that everyone is "entitled" to own a home. The CRA inflated the idea of the American Dream and now Congress is driving a stake through the heart of the American Dream.

Pay me now or pay me later. It's cheaper to pay now.

In looking at the current situation, home prices continue to be dramatically out of sync with personal incomes. Without the exotic loan products, people making a typical entry level salary, say $40k couldn't afford a 200k house. And 200k homes are not really available if you live in a major metro area. That average home price needs to come closer to $150k for entry level housing to be available. Keeping people in their over priced, ill financed homes will not get prices to where they need to be with respect to personal incomes. Similarly, it’s not practical to expect personal incomes to grow by 20% nor is it healthy.

So the question stands, who takes the sharp stick in the eye? The person who is over extended or the person who has not had the opportunity to make that same mistake.

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