Former U.S. Secretary of the Treasury Timothy F. Geithner and Professor Andrew Metrick survey the causes, events, policy responses, and aftermath of the recent global financial crisis.
Lecture: Housing Response
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From the course by Yale University
The Global Financial Crisis
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Meet the Instructors
Andrew MetrickMichael H. Jordan Professor of Finance and Management
Yale School of Management
Timothy GeithnerLecturer in Management, Yale SOM, Former U.S. Secretary of the Treasury
Yale School of Management
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Housing.
Housing was terrible.
It was the most frustrating thing we could have funded.
The gap between what we try to do and what we are able to achieve was largest than
in any other thing we tried to do in the crisis.
And I want to walk through why that was the case and what informed our choices,
why we did what we did, why we were unable to be more effective, more successful.
And we had one of the most creative group of people in housing
in the country working for the President at that time.
And they were not just very knowledgable about the mortgage market, but
they were very creative.
And we already demonstrated in the rest of the financial system that we were willing
to do extraordinary things, take on extraordinary risks.
And a lot of people looked at what we did in housing in contrast as being deeply in
adequate, fundamentally different.
And I think there's a lot of confusion about why such a different strategy and
why were we so ineffective, seemingly ineffective in housing.
This is just a introduction to the list of things we actually did.
We did a lot of things.
And what's remarkable about this I think is not just the number of things we did
and the fact that we kept trying over time to modify those programs,
adapt them, extend them, try to make them more powerful.
But of course ultimately they were perceived to have such weak effect
relative to the scale of the tragedy in the housing market.
This was a huge problem.
It was fundamentally a huge problem, because millions and
millions of people lost their jobs.
And in losing their jobs,
they lost the capacity to pay to meet the mortgage obligations
they had taken on in a world they thought was going to be a more stable world.
So people took on much more debt than they can afford.
And as the recession intensified and people lost their jobs and
more people lost their homes, the price of houses fell.
And millions of Americans were in the position, which we hadn't
seen across the country since the Great Depression, where the value of their homes
was less than the value of the debt, the obligations they'd take on.
So we had three basic objectives that framed our strategy of response.
The first was to try to arrest the drop in home prices to avoid the risk of further
loss of wealth, further damage to the economy and to reduce the risk that
the housing crisis was adding more damage to an economy already deeply in recession.
In January 2009, house prices had already fallen a lot.
But if you look at the orange line on this slide, you'll see that the expectation in
the futures market was the house prices could decline another 30%.
That would have been catastrophic, make the crisis much, much worse.
So the most important thing we tried to do was to stabilize home prices,
and begin to lay the foundation for those prices to come back.
And, you can see from that line, that's what actually happened.
We were relatively effective in doing that.
House prices moved sideways for a long time before they started to come up, but
at least we avoided the calamitous further drop in home prices.
Now, we did that in part,
because of the actions the Fed took to lower interest rates.
We did it in part because of the actions we took to
make sure the mortgage market was still functioning.
And that the government could provide mortgages when the private sector wasn't.
Second objective we had was to keep mortgage rates low to make sure
the mortgage markets were still open so that people who still had a job or
had to move could still borrow to buy a house.
Again that was important because if we were allowed the mortgage market to
completely collapse, that would have dramatically amplified the recession,
caused a much deeper crisis.
So you can see just by the shaded thing that we were very effective in making sure
that rates stayed low through this period of time.
And that's probably a reflection of the fact that we made it possible for
the government mortgage providers to step in and
offset the collapse in mortgage demand.
It also made it possible for millions of Americans to refinance their
mortgages to take advantage of the fallen rates.
So this shows the increase in refinancings that happened as a result
of these policies.
And it's important to note that a substantial fraction of those people were
able to refinance even when their homes were under water, even when the value of
their homes was below the obligations they'd taken on in their mortgages.
Our third objective was to provide targeted relief to help prevent
foreclosures for those people that had a reasonable chance of staying in their
home, even if they'd lost some source of income, even if one spouse had lost a job.
This was in some ways the hardest thing to do because
the risk of people losing their home was enormous for
millions and millions of people at risk for losing their home.
And making judgments about whether people could afford to stay in their home or
not was a very difficult judgement,
complicated by the fact that many of these homes were second homes.
Many of them were owned by investors.
Many of them were actually very expensive homes.
And there were bunch of questions about fairness and
judgment that went into thinking about whose mortgage should be modified.
And who should we help actually leave their homes and
transition to other forms of housing as they tried to recover?
In doing this, we were frustrated by the fact that we had very limited tools.
We had some resources, but limited, and we had to work through a very broken,
damaged mortgage servicing business, partly why the crisis was also terrible.
When we laid out this program we estimated there were about 3 to 4 million
Americans that would benefit from a modification of their mortgage,
some restructuring of their mortgage debt, some reduction in their mortgage payments.
And you can see from this that in fact we were able to help facilitate mortgage
modifications for a substantially greater number of Americans,
I think roughly 8 million Americans.
But a very small fraction of those mortgage modifications were provided
by the programs the government supported directly with finance.
That's probably because our conditions were a little tougher,
a little tougher on the banks and the services.
But we helped facilitate and help make it possible,
help create better incentives for the banks themselves to provide
a substantially larger number of mortgage modifications.
And that was very important and ultimately, again, very effective,
although slowly,
much more slowly than we'd like in help preventing millions of foreclosures.
Why couldn't we do more?
This was one of the most frustrating things we faced.
We were operating within a set of limited discretion provided by the Congress.
We tried to do as much as we could within the constraints of that authority.
And we were not able and
not successful in getting Congress to relax those constraints to give us
broader authority that would have allowed a more powerful response.
We were unable, for example, to convince the Congress to pass bankruptcy
reforms that have given a slightly greater mix of tools, a little more leverage
to the borrower who needed to seek some relief from their mortgage debt.
We were unable to do something that was very important in the Great Depression
which was to set up an entity where the government could buy mortgages on a very
large scale, restructure them, and pass on that relief directly to the home owner.
We considered but were unable to get support for
a much broader mortgage-free financing program.
There were lots of such ideas out there.
One of those ideas was to give any American the ability to refinance
their mortgage,
their existing mortgage at a 3.5% or 4% mortgage guaranteed by the government.
That would have been expensive, but it required legislation.
And we were unable to provide broad-based principal
reduction directly or through the GSEs.
We couldn't compel the GSEs themselves to provide that legislation.
So we had limited resources and limited authority.
And that was partly why the response was so
frustratingly inadequate relative to the pain that so many people were facing.
It's not clear, though, how effective broader programs might have been
in the face of the most fundamental cause of the pain in housing,
which just was the millions of people who had lost their jobs.
This is a chart that shows the cost of measures designed to help
create a job, a new job, help somebody find a job that lost a job,
help prevent somebody from losing a job in the first place.
So, you can see these things are expensive.
If you look at these estimates provided for the various pieces of stimulus we
provided in the crisis, you can see what the cost per job was.
This is a measure of the efficiency of protections we put in place in the crisis.
And what's important about this is that measures designed to reduce
the value of principal of home owners were very, very expensive.
It's one reason why they were not that popular on Capitol Hill, and one
reason why you might want to think about about it if you had limited resources.
Even if you had hundreds of billions of dollars, how you might want to use those
resources to give you the maximum power in reaching the greatest number of people.
And improving the odds they could navigate through this recession with less
financial loss.
Let's take a look at where we are today.
What this chart shows in blue is the increase in the value of homes and
people's equity in their homes as the economy recovered and
these programs started to get more traction.
And the line in yellow shows the share of the borrowers who are underwater.
So, this things has come down dramatically, they're still pretty high.
But that's one measure of what we were ultimately able to do.
Note how slowly it happened, and how long it took to get traction.
This shows that households have actually brought down the amount of debt they
borrowed relative to income.
But the amount of debt outstanding is still relatively high in
comparison at least to the pre-crisis levels.
This shows the magnitude of the reduction in people who were behind in their
mortgages and loans and foreclosure.
Again, very substantial reduction, but it took a long time for that to happen,
and we're still at levels that reflect a lot of damage.
So again, this just shows the full scale of the things we did.
You can evaluate policy by the ultimate impact of what we did,
and you can evaluate by how we use the authority we had.
And you can evaluate it by whether we were successful in relaxing the constraints
that existed on that authority.
We did a pretty good job of being creative,
although we're much slower than we would have liked in using the tools we had.
And over time, we were able to have a substantial impact.
But the size of the problem was much greater than the size of those tools,
the power of those tools, size of the resources we had.
And we were not effective,
very unsuccessful, in relaxing the constraints on authority that
played such an important role in limiting the scale of what we could do in housing.
We've left a better toolkit of programs you can use.
There should be less lags if people have to respond in the future to this crisis,
a lot to learn in the mistakes we made.
And hopefully that'll leave people with a better position to make better choices
in the future.
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