“Federal subsidies and Federal Reserve policies enabled a vast expansion of debt that masked the stagnation of income. Now that the housing bubble has burst, this substitution of housing-equity debt for income has ground to a halt.
What could go wrong with the housing recovery in 2013?
To answer this question, we need to understand that housing is the key component in household wealth. As a result, Central Planning policies are aimed at creating a resurgent “wealth effect”: When people perceive their wealth as rising, they tend to borrow and spend more freely. This is a major goal of U.S. Central Planning.
Another key goal of Central Planning is to strengthen the balance sheets of banks and households. The broadest way to accomplish this is to boost the value of housing. This then adds collateral to banks holding mortgages and increases the equity of homeowners.
Some analysts have noted that housing construction and renovation has declined to a modest percentage of the gross domestic product (GDP). This perspective understates the importance of the family house as the largest asset for most households and housing’s critical role as collateral in the banking system.
The family home remains the core asset for all but the poorest and wealthiest Americans. Roughly two thirds of all households “own” a home, and primary residences comprised roughly 65% of household assets of the middle 60% of households – those between the bottom 20% and the top 20%, as measured by income. (The U.S. Census Bureau typically divides all households into five quintiles; i.e., 20% each.)
Since housing is the largest component of most households’ net worth, it is also the primary basis of their assessment of rising (or falling) wealth (i.e., the “wealth effect.”) No wonder Central Planners are so anxious to reflate housing prices. With real incomes stagnant and stock ownership concentrated in the top 10%, there is no other lever for a broad-based wealth effect other than housing.
Extreme Measures
Given the preponderance of housing in bank assets, household wealth, and the perception of wealth, the key policies of Central Planning largely revolve around housing: keeping interest rates (and thus mortgage rates) low, flooding the banking sector with liquidity to ease lending, guaranteeing low-down-payment mortgages via FHA, and numerous other subsidies of homeownership.
At least three aspects of this broad-based support are historically unprecedented:
1) The purchase of $1.9 trillion of mortgage-backed securities (MBS) by the Federal Reserve.
The Fed purchased $1.1 trillion in mortgages in 2009-10 and it recently launched an open-ended program of buying $40+ billion in mortgages every month. Recent analysis by Ramsey Su found that Fed purchases have substantially exceeded the announced target sums; the Fed is on track to buy another $800 billion within the next year or so. This extraordinary program is, in effect, buying 100% of all newly-issued mortgages and a majority of refinancing mortgages.
Never before has the nation’s central bank directly bought 15%+ of all outstanding mortgages this raises the question: Why has the Fed intervened so aggressively in the mortgage market? There is no other plausible reason other than to take impaired mortgages off the books of insolvent lenders, freeing them to repair their balance sheets.
Regardless of the policy’s goal, the Fed now essentially controls a tremendous percentage of the mortgage market.
