I’ve learned as this market continues to unwind that many proposals issued out by our government carry a lot more bark and have very little bite. Yet there are some proposals that flat out irritate me because they strike at the core of what is ethical and are diametrically opposed to what any sane capitalist system would stand for. What makes many of these proposals worse is that the corporate sector has been calling for hands off approaches from the government during the boom times but now that the inevitable correction is occurring, they want handouts as if they were walking up to a shelter asking for a golden cot. The market in the last few days has witnessed a much needed cleansing. Think about the monoline insurers and the back and forth bailout talk that lasted for a few months. Initially, it was thought that $10 to $15 billion would be enough to bailout these insurers but the reality is that the counterparty risk is much more profound and losses can range in the hundreds of billions. How insane is this? How can a company be rated AAA and be asking for a bailout? Welcome to the Orwellian world of our current economic situation.

The systemic problem isn’t going to be solved by lowering Fed rates or handing out Wal-Mart vouchers to people so they can go spend on useless imported trinkets. Trinkets that in fact got us into this problem in the first place! Now the prospect of tighter credit is sending people running around like a chicken with its head cutoff. You should not create policy because of panic or negotiate out of desperation. I am actually very disappointed in the way our political leaders of both parties are handling this situation. Think of some of the stupidity going on and the mixed messages that are being sent out. You have some of the most idiotic grandstanding going on in the history of US economics. Take a look at this from way atop the food chain:

“We’re at the very early stages of discussion,” Bush said. “Anything that would be submitted to Congress … would have to be revenue-neutral.”

A Treasury Department study, released earlier this year, showed the federal corporate tax rate could be cut from 35 percent to 27 percent with the same amount of revenue collected if a number of corporate tax breaks were eliminated, thereby broadening the tax base.

However, such a move would likely trigger a firestorm of protest as various groups would seek to protect popular tax breaks such as the research and development credit.

“What we’d really be talking about is a simplification of a very complex tax code that might be able to lower rates,” the president explained. “However, I would readily concede to you that this is a difficult issue.”

How in this green planet is dishing out a $150 billion stimulus package revenue neutral? The above statement was said in August of 2007 right when the credit crunch was in its infancy. Even then, they were discussing lowering the corporate tax rate from 35 percent to 27 percent. You mean you want to give tax break to all those companies on Wall Street that fleeced the American public during this housing bubble? I’m sure that is a fantastic way to get the economy going. Of course this revenue-neutral idea is coming from an administration that is invested in an extremely costly war yet at the same time, wants to lower taxes further and further. Apparently the rules of economics stop at 1600 Pennsylvania Avenue. You would think that at a certain point, some people would be getting it but apparently they are not. I’m sure many of you realize that subprime mortgages make very little financial sense and that we’d be in much better shape without them. This is obvious. No money down and jumbo loans for those with little income should realistically be renting a place or purchasing a lower priced home. But guess what? The government through the FHA, which has a mission toward affordable housing is now talking like one of the 230+ defunct subprime lenders! Take a look at another idiotic proposal that was on CNN today:

“NEW YORK (CNNMoney.com) — By early April, both chambers of Congress are likely to tie the bow on a bill that would expand the reach of the Federal Housing Administration (FHA), which aims to provide safe loan alternatives to subprime mortgages and make homeownership more accessible.

The FHA program is intended for mortgage borrowers with weak credit or little or no cash who may not be able to get an affordable mortgage elsewhere.

Permanently raise loan limits. The economic stimulus bill passed in February temporarily increased the limit on loans eligible to be FHA-insured. The ceiling until Dec. 31, 2008 is now $729,750, up from the normal $362,790 for single-family homes. Those are the ceilings for high-cost areas. The ceiling is lower in low-cost housing markets.

Reduce down payment requirements. Homeowners would no longer be required to have 3% equity or the cash equivalent to get an FHA-insured loan. The House bill would allow borrowers to get an FHA-insured loan with 0% down if they can show they can afford the mortgage payments. The Senate bill requires 1.5%.

Make it easier for borrowers in high-cost loans to refinance. The House bill would let some homeowners in default or at risk of default refinance into an FHA-insured loan.”

Holy crap! Are you kidding me? The FHA is intended for mortgage borrowers with weak credit or little or no cash? They flat out sound like a 1:00PM mortgage ad that we would see in between Judge Judy and Maury Povich. After reading the above proposed lunancy I went straight to HUD to see what their mission stated on their website:

“The mission of the Office of Housing is to:

– Contribute to building and preserving healthy neighborhoods and communities;

– Maintain and expand homeownership, rental housing and healthcare opportunities;

– Stabilize credit markets in times of economic disruption;

– Operate with a high degree of public and fiscal accountability; and

– Recognize and value its customers, staff, constituents and partners.”

How from this mission they derive the mandate to raise caps in high priced areas to $729,750 is beyond me. If you look at the three new major items proposed they are even considering doing 0% down loans! What in the world? The last item is flat out hallucinogenic. How are they going to let those that are already in default refinance into an FHA mortgage? We already know that FHA loans are amortized over 30 years with principal and interest and by looking at the data on recent foreclosures, most people are unable to afford their payments because the price of the house was too high! It has little to do with the mortgage. Yes, we have our absurd subprime loans that reset but we are now seeing option ARM mortgages to prime borrowers go in to default even before they recast. And the teaser rate is surely much lower than a fully amortized 30 year mortgage that would be offered by the government. What the above proposal does is converts the government as a subprime insurer. Why worry about Ambac or MBIA when our government is going to be pushing out subprime loans. I love that “show they can afford their payments” caveat. Well if they can afford their payments, then it shouldn’t be a problem for them to save up 10 percent for a down payment. Such knee jerk reactions are only adding fuel to the flame. None of our politicians have the guts to tell people that speculated or paid way too much for a home this:

“You made a choice. A conscious free market choice. No one forced you to sign on the dotted line. We do sympathize for those that lost their job and are no longer able to make their house payments. But those of you who bought in high priced areas such as California and Florida tough. That was a decision brought on by your own free will. The government will not step in to help you, the lenders, or Wall Street for irresponsible lending. See, this would encourage and reward future behavior that will once again lead us into the same predicament. Many of you have the option of renting and this may be a more prudent economical choice for you and your family. Homeownership is not a right. It is an earned privilege gained by saving and managing finances wisely. Should you wish to own in the future you can take the appropriate steps to save and purchase a home when economically it makes more sense without risky financing.”

This may seem a bit harsh but owning a home isn’t a right. You earn it. This is something that is completely in your own control. This isn’t healthcare where unfortunately sometimes you do not have the choice of becoming ill. I’m sure many of you can delineate between unforeseen circumstances and flat out decisions that are entered upon by your own free will. Why is housing more of a privileged then say, owning a Ferrari? Why shouldn’t we go out and bailout those that bought high priced cars and are having trouble paying them? Many of you may disagree that we have yet to see any bailout. Well I will direct you to the massive loan Countrywide receieved from the Federal Home Loan Bank. Professor Nouriel Roubini sums up the covert bailout nicely in a testimony he gave to the Financial Services Committee on February 26, 2008:

“Finally, the widespread use of the FHLB system to provide liquidity – but more clearly bail out insolvent mortgage lenders – has been outright reckless. Countrywide alone – the poster child of the last decade of reckless and predatory lending practices – received a $51 billion loan from this semi-public system; in the absence of this public bailout Countrywide would have ended up where it should, i.e. into outright bankruptcy. And the largesse of the FHLB system does not stop at Countrywide. A system that usually provides a lending stock of about $150 billion has forked out loans amounting to over $750 billion in the last year with very little oversight of such staggering lending. The risk that this stealth bailout of many insolvent mortgage lenders will end up costing massive amounts of public money is now rising.”

And of course this was done in as discreet of a fashion as possible to keep the public from panicking and running around with their underwear on the outside yelling that they can no longer survive without their HELOC. But over the weekend, the FBI announced that it would be investigating Countrywide for securities fraud:

“NEW YORK (Reuters) – Countrywide Financial Corp shares dropped 14 percent to a 13-year low on Monday following reports the largest U.S. mortgage lender was being investigated by the FBI for possible securities fraud.

The decline in the stock came even as Bank of America Corp the No. 2 U.S. bank, indicated it will move ahead with its roughly $3.7 billion acquisition of Countrywide.

Investors are concerned that the bank might renegotiate or abandon the purchase, which it announced in January and has said it expects to close in the third quarter.

Scott Silvestri, a Bank of America spokesman, said Monday: “The transaction is on track.”

Countrywide is being investigated over whether it misrepresented its financial condition and the quality of its loans in securities filings, according to reports in the Wall Street Journal and the New York Times over the weekend. The papers cited people with knowledge of the case.”

Money well spent FHLB! As we discussed in a previous post digging into the numbers at Countrywide, there is so much going on here that we have now put the lunatics in charge of the mental asylum. We are looking at a wiping out of equity to the tune of $4 to $6 trillion depending on the severity of the correction. Since the market bottom has fallen out, we either accept the fact that a correction is needed or we keep putting on bandaids trying to mask the problem. The magnitude of this is so large and we are in such dismal shape with our gargantuan debt, that we are running out of options. Oil hit $108 today and gold is still flirting with $1,000 per ounce. The 63,000 job loss number from last month does not bode well either. How people can still think we are not in a recession is totally beyond me.

So what are some solutions? I’ve had to stop and seriously think about some of the options on the table because the cowboy approach of taking your knocks is not the road we are going towards. The OTS option of negative-equity certificates may not be such a bad option. Here is why. For one, if you are an owner of a home and you really want to stay in your house, you can have your lender rework your loan to current market prices and the difference between the new mortgage balance and the previous balance is now a long-term IOU to the lender. This is done between lender and borrower. If your main objective is not losing your home, then you get to stay in your place. However, say prices do go up in the future and you do sell your home, the lender is entitled to that original balance. This helps in a few ways. First, it avoids the moral hazard of folks who were prudent and paid on time from going Lord of the Flies and foregoing to pay their mortgage simply to reduce their principal. It also gives lenders and incentive to write down their mortgages. Of course this probably won’t fly because lenders want to off load all their toxic radioactive mortgage junk onto the government books and have you and every other responsible American foot the bill. And many current owners don’t want to admit that they became speculators and cannot foresee a world without 20 percent annual gains on their piece of land. So they walk away. But that is their choice. No need to reward this behavior. And when we say walk away we mean people consciously choosing not to pay their mortgage and letting the entire default process work its way through. This of course could take months and I’m sure there will be many living rent free for awhile. Back to putting the loans on the government books, once those loans get on the government ledger, God help us all. If you are losing, doubling down will only compound your losses.

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