Pending sales of previously owned U.S. homes rose unexpectedly in July, sparking a market rally on Wall Street. Investors must certainly suffer from short-term memory loss, as last week’s announcement that sales of previously owned homes dropped by 27.3 percent renewed fears that the economic recovery will stall. The free market spirit was down on its luck and pouted at the end of the government subsidized $8,000 first time homebuyer credit that facilitated a 12 percent drop in sales of new construction dwellings.
Some may point to the low mortgage rates as a source of optimism, except the government is artificially keeping those rates low by purchasing treasury bonds with maturing debt on the Federal Reserve’s balance sheet. As it stands, 10 percent of all mortgage borrowers are delinquent, one in 400 homes received foreclosure notices in May, three million homeowners will receive a notice this year and one in four homes is underwater with a combined negative equity of $655 billion.
The pundits told the American people that the housing crisis had ended, and like a favorite pair of shoes that should never be worn in public, investors took it all in stride. The economic food chain has been compromised. Consumers won’t buy a house if they’re worried about their jobs, and with a 9.6 percent official unemployment rate, 18 percent if one were to include the underemployed, a new house is low on the shopping list. Every new home built, however, creates three jobs for a year and $90,000 in taxes that the states desperately need to shore up leaky budgets.
Everything seems upside down. It was understood that the subprime market caused the housing crisis, but prime fixed-rate loan delinquencies are the largest bucket of delinquent mortgages, representing 37 percent of the total. Personal responsibility is so 1980’s, as one-third of foreclosures are strategic, where the homeowner can afford to pay his/her obligation and chooses to do otherwise, disguising opportunism as a sound financial decision.
The government can’t bankroll the economy forever, itself a mirror image of the recent real estate bubble that lived off unsustainable debt. In fact, treasury bondholders are akin to banks that gave subprime adjustable rate mortgages to homeowners en route to negative equity. Let’s also remember that the $3 trillion money market industry is collateralize by mortgages. Many investors consider these investments to be cash, but nothing could be further from the truth.
So who will bankroll the Federal Reserve, which bought toxic assets off the balance sheets of the banks to provide liquidity for the capital markets during the financial crisis? The four biggest U.S. banks by assets hold about 42 percent of the $1.1 trillion in second-lien mortgage loans. At the end of 2008, off-balance-sheet assets at those same banks were roughly $5.2 trillion, and much of that was mortgage debt. The housing market impacts liquidity in the credit markets, bank capitalization, interest rates and consumer spending. The job market can’t get healthy soon enough; this house of cards will only last but so long.
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