Vice President Kamala Harris recently proposed new government subsidies to make housing more affordable, according to a new report from the Wall Street Journal. This plan bears a striking resemblance to policies that have been used in the student loan market.
Let’s break down what’s happening and why it matters.
The core of Harris’s plan is to help Americans take out larger mortgages. If homeowners can’t pay these loans back, the government would step in to cover the payments. This isn’t entirely new – the Biden administration has already been doing something similar. That’s a big reason why housing prices have grown more than twice as fast as overall inflation since the COVID-19 pandemic began.
How does this work? About 70% of single-family mortgages are backed by the government or government-sponsored companies like Fannie Mae and Freddie Mac. This gives the administration a lot of power to change how mortgages work without needing Congress to pass new laws.
In recent years, the government has made it easier for people to qualify for mortgages. They’ve lowered credit standards and reduced costs for government-backed loans. For example, the Federal Housing Administration (FHA) cut its mortgage premiums in 2015 and 2023. Ed Pinto from the American Enterprise Institute says this allowed buyers to borrow 10.5% more. But it also pushed home prices up.
The government has also let riskier buyers qualify for bigger mortgages. In 2013, the Consumer Financial Protection Bureau (CFPB) said lenders shouldn’t give mortgages to people whose total debt payments would be more than 43% of their income. But this rule didn’t apply to government-backed mortgages.
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As a result, more people with high debt levels are getting mortgages. Mr. Pinto’s analysis shows that about 70% of recent FHA loans and 40% of Fannie and Freddie-backed mortgages have debt ratios that the CFPB considers risky. That’s up from 30% and 16% in 2012.
At the same time, Fannie and Freddie have allowed buyers to make smaller down payments – as low as 3%. Some of this down payment can come from gifts, lender assistance, or government grants. This means more buyers have little equity in their homes, which increases the risk of default if home prices fall.
Step 1: Subsidy = higher demand
Step 2: Higher demand = higher prices
Step 3: Higher prices = higher subsidy
Step 4: Higher subsidy = higher demand
Step 5: Higher demand = higher prices
Step 6: … crisis. https://t.co/bGTywAZSzz— Marian L Tupy (@Marian_L_Tupy) August 19, 2024
Harris’s plan to give $25,000 in down payment assistance to first-time buyers could make this problem worse. It would also likely drive housing prices even higher.
Some might argue that buyers’ credit scores have improved. But this improvement might be misleading. Three-fourths of recently delinquent Fannie and Freddie homeowners have “good” or better credit scores. This could be due to recent changes in how credit scores are calculated, rather than actual improvements in financial health.
With high inflation and rising debt payments, many homeowners are struggling. The Biden administration’s response has been to modify mortgages to avoid defaults and foreclosures. For example, the FHA introduced a “home retention” plan that covers late payments and part of the monthly payments for delinquent borrowers. Fannie and Freddie have similar programs.
These programs effectively forgive part of the mortgage debt. The Federal Housing Finance Agency reports about 1.4 million “home retention” actions by lenders since 2021.
What’s the result of all this? A tighter housing market, higher prices, and a situation where buyers might take on larger mortgages than they can afford, knowing the government might step in if they have trouble paying.
As California’s attorney general, Harris took action against banks for foreclosing on homeowners without offering enough “modification” options. The settlement she helped negotiate forced banks to reduce mortgage amounts for some underwater borrowers. We might see similar actions if Harris becomes president.
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In essence, the government is creating a cycle of subsidies and forgiveness in the housing market, much like what we’ve seen with student loans. While these policies aim to help homebuyers, they may ultimately drive up prices and increase financial risks for both individuals and the broader economy.
