Homeownership — Obama’s Economic Legacy, Part 2

The fall in homeownership during Obama's presidency is not indicative of bad financial stewardship — it was instead a natural response to market conditions, and he did the best possible job under the circumstances.

By Ned Hill, A One-Handed Economist, and Professor of Public Administration and City & Regional Planning at The Ohio State University’s John Glenn College of Public Affairs, powered by The MPI Group

Last week, I talked about the important questions to think about when measuring a president’s economic impact, namely:

  • Did the administration face profound economic crises and react well to them?
  • Did they institute policies that either seeded or triggered profound economic crises—even if the crisis appears years afterward?
  • Most importantly, did the administration positively affect the long-term health and growth of the US economy through their policies and actions? And, is that growth reflected in the improved wellbeing of Americans?

Today, I’ll share my thoughts on how Barack Obama measures up according to these metrics.

Mark Fullerton asked me why I would put President Obama on my list of great economic presidents: it all revolves around turning around the Great Recession and preventing the Second Great Depression. The global capital markets ground to a halt in September 2008, and the Detroit-headquartered automobile industry had a heart attack in June 2009, six months into Obama’s first term, with the bankruptcy of GM and Chrysler, and Ford hocking every asset it had—including its famous Blue Oval.

President Bush gets credit for the actions of his appointees, Secretary of the Treasury Hank Paulson and Fed Chair Ben Bernanke, who prevented the meltdown of the financial system. President Obama then gets credit for continuing to back the Fed, rescuing the Detroit-headquartered automobile industry, and pushing a $840 Billion stimulus package through Congress.

This was all done in the face of a skeptical Congress. I also have to acknowledge Congress’s failure to pass a second round of the stimulus, which nearly tipped the US back into recession in 2011—the GDP growth rate dropped to 0.5 percent that year and 65% of the nation’s metropolitan areas slid back into recession. The nation will look back at the 2010-2011 budget year as a missed opportunity. Infrastructure could have been rebuilt at near-zero interest rates, the negative after-effects of the Great Recession made shorter by a year or two, and deficits triggered by the recession would have narrowed.

THE GREAT RECESSION IN HOUSING
One variable often cited by those who think that Obama mismanaged the economy is the decline in home ownership during his tenure. The home ownership rate did fall, and it has not appreciably recovered; to me, this is a good outcome, but it is not directly attributable to any action of the President. President Obama did not wake up one morning and decide to lower the homeownership rate as a matter of policy; it was a byproduct of the Great Recession and a natural correction in the mortgage market.

Why would lowering the home ownership rate be a sign of good economic stewardship? To most people this is a head-scratching statement. The answer, it turns out, is complicated.

The Great Recession was firmly rooted in the housing market bubble, and the bubble was built on two bipartisan public policy failures. The first was the assumption that Collateralized Debt Obligations [CDOs], also known as Mortgage-backed Bonds, were low risk due to misunderstanding of portfolio theory by economists, financiers and the government.  For those who know what CDOs are and why they blew up you can skip the next 6 paragraphs.  It contains some tech talk.

CDOs AND THE MELTDOWN OF THE HOUSING BUBBLE:
HUBRIS, FRAUD, and BLIND REGULATION
First, HUBRIS: Investors made a mistake that is common in markets with rising values. It does not make a difference if the underlying assets are stocks, houses, Dutch tulip bulbs [March, 1637], Beanie Babies [1999], or Longaberger Baskets [2012]. Investors begin to think that the value of the asset will never stop increasing, or they believe that there is a bigger fool standing in line behind them who will take the asset off of their hands before the crash takes place.

This happened with the stock market just before the Great Depression, and again when dot-com stocks went from frothy, to bubble, to bust from 1995 to 2001.   The attitude becomes one of “this thing will defy the laws of economic gravity and will never go down in price.” When an asset gets unhooked from its underlying economic return, bad things will happen.

Second, FRAUD: When brokers and borrowers think that the price of a house will only increase, the protections against fraud in home lending break down. People shop for an appraisal that will justify the loan. Brokers put people into the most expensive house they can, with the smallest down payment they can get away with because “the value will only go up and will cover up any losses.” Fee-driven banks will let corrupt practices build because they will only hold the mortgage long enough to slip it into a mortgage-backed bond and then pass the garbage along.

Third, BLIND REGULATION: Regulators made a mistake in the way they applied financial portfolio theory to mortgage-backed bonds. They considered each bond to be a portfolio of mortgages—a broad collection of mortgages that represents the entire market.  They expected some of the mortgages to default, but to be within historic patterns due to bad luck on the part of the borrower. What regulators ignored was the systematic fraud that was a byproduct of bubble-thinking. The CDOs were portfolios dominated by bad mortgages shaped by hubris and fraud.

The Grand Finale: The financial economy had a heart attack in September 2008. When there is a bubble in the value of Beanie Babies, collectible baskets, or penny stocks, the foolish investor loses some money. CDOs were something very different. In 2008 Warren Buffett called them “financial weapons of mass destruction.” This was because massive amounts of bad CDOs were held by large money center banks and investment houses, one of the globe’s largest insurance companies, and pension funds. All thought that these toxic piles of bad assets were risk-free. The bad assets destroyed the faith that banks had in each other’s books and interbank lending stopped because no one understood the real credit-worthiness of anyone else in the financial system. This is what John Maynard Keynes termed a liquidity trap.

The mortgage mess is well described in Michael Lewis’ book The Big Short and entertainingly fictionalized in the movie by the same name.[1]

HOME OWNERSHIP AFTER THE GREAT DEPRESSION
The second policy mistake made in bipartisan fashion was trying to get too many people to become homeowners. The intention was good; the result was a disaster. There was wide spread agreement that we, as a nation, are better off, and individuals are better off, when citizens own their homes. Homeowners are depicted as being more rooted and financially vested in society in general and in their cities and neighborhoods specifically then renters. Making America a nation of homeowners was central to the post World War II GI bill. Extending homeownership to low income families was a core goal of President George HW Bush’s Housing and Urban Development Secretary Jack Kemp and carried forward by Clinton’s HUD Secretary Henry Cisneros.

Consequently, people whose incomes made them a failed boiler away from default were encouraged to purchase a home. Couple that with the assumption that the asset value of a house would never fall and the prevalence of loan fraud, and American public policy had invented the quickest way possible to melt the savings and assets of low income people.  In short: lowering the homeownership rate in the U.S. is good public policy. There is a long-standing and noble place in US society for renters, and homeownership doesn’t make good financial sense for everyone.

Let’s examine the homeownership rate and see how far below the norm the current rate of homeownership is.  The figure below contains annual data on the percent of households who own their own residences from 1965 to 2016.[2]  The shaded areas in the graph are recession time periods.  The facts on homeownership:

  • The homeownership rate has recently exhibited tentative signs of growing. The rate reached a low of 62.9 percent in the second quarter of 2016 and then began to increase in the following two quarters: 2016(3), 63.5 percent, and 2016(4), 63.7 percent.
  • Homeownership rates always decline during recessions and come back slowly during recoveries, and the deeper the decline the slower the recovery. After the double dip recessions of 1980 and 1982 rates did not turn up for 6 years.
  • The nearly decade-long run-up in homeownership rates from 1995 to 2004, where rates climbed from 64 percent to 69 percent, was abnormal.
  • Homeownership rates center between 64 percent and 65.5 percent.
  • Rates peaked with the housing bubble in 2004 at 69.2 percent and then began to deflate as defaults and evictions commenced.  The drop in the homeownership rate accelerated in 2007 with the onset of the Great Recession.
  • The decline in homeownership rates accelerated again in 2011, which coincides with Congress not passing a second round of stimulus and the economy approaching stall speed.

In sum, homeownership reached a peak in 2004 that was a result of the financial steroids of hubris, fraud, and blind regulation that artificially boosted ownership rates. Now the rates have returned to the low end of the normal range and will be slow to recover due to the damaged financial records of former owners. And we all paid the bill, but the near-poor who were approved for mortgages that they could not afford, secured by properties with inflated values, ended up paying the highest price of all—eviction, lost money, and damaged credit.

Obama economic legacy Annual Rates of Homeownership from 1965 to 2106

On the whole, Obama did the best possible job under the circumstances of responding to the economic crises he inherited; tomorrow, I’ll analyze his legacy on national debt.

[1] Find The Big Short on Michael Lewis’ web site http://michaellewiswrites.com/index.html#top

The book, movie and the big short itself is explained in this Money Magazine article: http://time.com/money/4142920/the-big-short-review-things-you-should-know-explainer/

[2] The figure uses average annual data. I also used the quarterly data in making my observations in this post.

© 2017 A One-Handed Economist featuring Ned Hill is powered by The MPI Group

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