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Understanding the Housing Crisis: Myths and Facts

Explore the subprime housing market, macroeconomic factors, and Federal Reserve actions shaping the housing industry. Learn about resets, MBS performance, current housing trends, labor markets, unemployment challenges, and key risks.

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Understanding the Housing Crisis: Myths and Facts

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  1. Housing and the macroeconomyJeff Fuhrer, EVP and senior policy advisorFederal Reserve Bank of BostonNovember 28, 2012

  2. Outline for our time today • Recap of the housing crisis, and review of a few subprime myths and facts • Quick look at the current state of the housing markets • Review the macroeconomic backdrop to housing • Primer on recent Federal Reserve actions

  3. Subprime “facts” and mythsWhy an LMI mortgage program might make sense • The subprime population is too high risk, and should not get mortgages • Historical default rates for subprime about 2% in US • Subprime mortgages are “exotic”: Option-ARMs, Neg-Ams, IO, etc.—we should stay away from such predatory products • NO: In fact, VERY FEW of subprimes were this type of mortgage • Almost all were 2/28 or 3/27 ARMS • OK, but that’s why they defaulted—the ARM resets! • NO: Little or no evidence of any reset effect • (In fact, many reset to lower interest rates) • Securitization was a bad idea—Subprime MBS securities all lost huge amounts, and were a dumb idea • NO: In fact, losses on AAA “vanilla” MBS < 10%

  4. Default rates Normal times: subprime rates are higher, but manageable Crisis times: Everyone is in a mess Source: Mortgage Bankers Association, Haver Analytics

  5. Resets—not the problem • No link between reset date and default • Defaults increased in 2007/8—because house prices fell, unemployment rose • Thus the rapid increase in prime defaults as well (not shown) Source: Foote and Willen (2012)

  6. Did securitization work?A look at MBS performance Losses much worse on CDOs Losses less than 10% on AAA Why: Credit protection worked Private label RMBS Foote and Willen (2012)

  7. How is housing doing now? • Better—permits are rising, inventories are lean Source: Census Bureau, Haver Analytics

  8. How is housing doing now? • Prices are flattening or turning up modestly Source: FHFA, Core Logic, Haver Analytics

  9. How is housing doing now? • Vacancies have improved nationwide (less so in VT, NH) • Still a lot of REO/property held off the market Source: Census Bureau, Haver Analytics

  10. The macroeconomic backdrop

  11. We have to start with labor markets Source: Bureau of Labor Statistics, Haver Analytics

  12. Why is unemployment so stubbornly high?It’s not job loss these days Recession ends Source: Bureau of Labor Statistics, Haver Analytics

  13. It’s the failure to create new jobs Recession ends Source: Bureau of Labor Statistics, Haver Analytics

  14. This also explains the remarkable length of unemployment spells Source: Bureau of Labor Statistics, Haver Analytics

  15. Supports and DragsContribution of components to growth versus historical average Source: Bureau of Economic Analysis, Haver Analytics

  16. Supports and DragsContribution of components to growth versus historical average • Consumer spending has been fair to middling, given overall strength • And you know about housing! Source: Bureau of Economic Analysis, Haver Analytics

  17. The pattern of support is switching about now Source: Census Bureau, Michigan Survey Research Center, Federal Reserve Board, Haver Analytics

  18. Why this shift? • Household wealth has improved a bit (housing values, stock market) • The “fiscal cliff” matters less to households? • But it matters to businesses • The global slowdown affects export-dependent businesses, consumers less so

  19. Inflation remains well-contained Source: Bureau of Economic Analysis, Haver Analytics

  20. Key Risks Source: Wall Street Journal, Haver Analytics

  21. Federal Reserve Actions:Extensions of conventional policy Congressionally-mandated goals (Dual Mandate) Price stability (low and stable inflation) Maximum sustainable employment Primary policy instrument Alternative Policy Instruments Federal Funds rate (overnight bank rate) QE “Forward Guidance” Long-term interest rates, stock prices, exchange rate X

  22. How does QE work? • We buy long-term assets • Removes them from circulation in private markets • But private agents still want them • So they’re willing to accept them for a lower yield • Bottom line: we’re trying to reduce long-term rates Private Markets’ Securities Fed’s Securities

  23. In summary • The recovery has been frustratingly slow • Our tools to address weakness are somewhat limited • But we are doing what we can • Recently, we have paid particular attention to employment shortfalls • Not because we don’t care about inflation • But because the gap between the goal for employment is so large

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