Financial Innovation and Government Subsidies Diminish Home Ownership

We thought we were giving millions of people the American Dream when financial innovations like the Option ARM put people into homes. Instead these innovations and a variety of government subsidies have diminished home ownership and created hardships for millions.

Irvine Home Address … 6 Twin Branch Irvine, CA 92620

Resale Home Price …… $1,159,900

I work so hard, man, so don't trip me up

Shakin' a leg like the tail o' the pup

I'm payin' dues till I register heat

Sure hope I don't end up on the street

Home, boy

Home, boy

Everybody needs a home

Iggy Pop — Home

Does everyone really need to own a home? Our government, which rarely acts with a single mind, certainly seems to think we all need to own a home. Of course, to accomplish that feat, we have so perverted the meaning of home ownership that people with no equity — those merely renting money from a bank to occupy property — are considered homeowners. They aren't. They don't own anything — except perhaps a loan.

As a nation we can't all afford to be homeowners. Some people are not up to the task. It requires the ability to save and to consistently make payments. Home ownership reduces mobility, and some people have careers that require them to move. During the housing bubble, we were selling homes to migrant farm workers, and nobody bothered to question whether or not that is a good idea.

Renting is making a comeback. Not because anyone wants to rent, and not because anyone in our government sees a virtue in renting. Renting is coming back because we are foreclosing on millions of former home owners, and they don't have much choice. Perhaps after they have rented for a while and they see some of the benefits, many won't we quite so anxious to own again. Although, if HELOC money is still made available so people can spend the slightest bit of market-induced home equity, home ownership will not lose its appeal.

We Can't Afford This House

Christopher Papagianis and Reihan Salam — July 20, 2010

Part 1 of 2:

At the end of June, the House of Representatives voted to extend the $8,000 homebuyers’ tax credit, by an extraordinary margin of 409–5. The Senate approved the measure on a voice vote. At a polarized political moment, this near unanimity was noteworthy in itself. Conservative Republicans and liberal Democrats, from cities and suburbs and small towns across the country, joined together to shower a bit more taxpayer largesse on one of America’s favorite industries: real estate. But there’s a problem with this bipartisan idyll.

Though the homebuyers’ credit was sold as a stimulus measure, we have no reason to believe that it is anything other than another wealth transfer to a large and powerful industry, one with allies conveniently situated in every congressional district. Casey Mulligan of the University of Chicago has suggested that the credit had almost no economic impact. As Harvard economist Edward Glaeser observed, it did little more than create an incentive for “mindless house swapping.” It didn’t even have a meaningful impact on the behavior of first-time homebuyers — people already planning to make purchases simply moved them forward a few months. Yet this is where we find a consensus in policymaking: We can’t agree on balancing the budget or reforming entitlements or the tax code, but we can agree to churn the housing market so that a handful of real-estate agents can make a buck on commissions while the economy crumbles.

It is very rare that both parties in government agree on anything. Unfortunately, they happen to agree on providing taxpayer money to realtors. The NAR has a very powerful lobby.

Across the world, governments have spent vast sums on doomed industrial policies. We often hear about the occasional success of efforts in East Asia to nurture shipbuilding and automobile manufacture and electronics. But we don’t hear about the countless failures, in which cronies of the party in power receive endless subsidies and concessions, getting richer at the expense of the economy as a whole.

In the United States, our industrial policy for most of the last century has been centered on housing. Tax subsidies and the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac have helped channel hundreds of billions of dollars into housing. There was a certain logic, however flawed, behind this policy. As opportunities for less-skilled workers declined, construction jobs provided a much-needed income boost to many working- and middle-class households. But like any arrangement built on government favoritism, this one was bound to fall apart. Long-term unemployment has skyrocketed in no small part because of the evaporation of construction jobs that date from the overbuilding that occurred during the bubble years.

What we need now is to turn away from this disastrous policy and find new, sustainable sources of jobs and economic growth. That will require a series of painful steps — among them, phasing out the mortgage-interest deduction and eliminating the GSEs — that will minimize the privileges housing enjoys relative to investments in other industries. By shifting resources from housing to more productive sectors, we will have higher and more sustainable growth. With trillions of dollars and the health of the economy at stake, the question isn’t whether we must do it, but whether we will do it now or wait until our economy is in even worse shape.

There is no question that we will not do anything that might hinder real estate sales at the highest possible price, probably for years. If we are giving tax credits and other incentives to get people to buy who probably shouldn't at prices that are way too high, we certainly aren't going to undermine that effort by eliminating some of the other government props to the market — even if those props are what helped inflate the housing bubble in the first place.

The basic argument for housing subsidies is that homeownership allows Americans of modest means to accumulate wealth. From the New Deal on, the federal government has played a decisive role in the mortgage marketplace. As journalist Alyssa Katz recounts in her 2009 study of the housing industry, Our Lot: How Real Estate Came to Own Us, homeownership was far less common in the United States of the 1920s than it is today. Borrowers had to make down payments that approached half the purchase price of a house to secure a three- to five-year mortgage. For families without enough savings, there was a market in second mortgages to finance down payments, at startlingly high interest rates. As housing prices collapsed with the onset of the Great Depression, millions found themselves underwater, and this created intense pressure for what we might reasonably call a government takeover of the mortgage industry.

The political case for federal intervention was strong. Americans had come to believe that homeownership was essential to economic security and that it made for better citizens. Research had found that housing was a particularly important component of total wealth accumulation for lower-income households and suggested that it led to improved educational outcomes. The portion of the monthly mortgage payment that pays down the principal constituted a source of savings for households that were unlikely to have other significant savings or investments.

The forced-savings aspect of conventionally amortized mortgages is exactly what makes them such a good idea. Most people don't have the discipline to save for themselves. Unless that discipline is forced on them by a mortgage loan — or even government withheld tax money — most Americans won't save a penny. An amortizing mortgage created wealth because it forced people to save and because people had no way to access this savings account until they sold their houses.

The high down payments and short-term mortgages meant that households all over the country held a significant amount of equity in their homes just a few years after buying them. In some cases, the value of this equity grew as the value of the home appreciated. These capital gains, in conjunction with the forced savings of mortgage payments, meant that millions of families had assets they could pass on to future generations. The New Dealers believed this was the path industrial workers could take to reach the independence once associated with prosperous ranchers and farmers in the American West.

Our housing markets from the late 40s to the early 70s were very stable despite frequent deep recessions and other unsettling events. This stability was a direct result of the widespread use of 30-year fixed-rate mortgages with conventional amortization. It isn't until we tried to "innovate" that we destabilized the housing market. First, we ruined the market with "inflation expectation" when lenders allowed borrowers to utilize insane debt-to-income ratios with the idea that wage inflation would make the mortgage payment affordable after a few years.

In the late 1980s, we experimented with affordability products, but we found that Affordability Mortgage Products Make Prices Unaffordable. We inflated another housing bubble that took seven years to deflate. Finally we tried interest-only loans and Option ARMs, and we all know how that turned out.

The formula, however, changed dramatically at the end of the 20th century. From 1994 to 2005, the homeownership rate reached record highs, thanks largely to innovations in the mortgage-finance market that reduced down payments and minimized equity. This shifted the basic wealth-building proposition of homeownership away from savings to an almost exclusive focus on capital gains.

In other words, kool aid intoxication took over. The entire market no longer cared about saving money or paying down debt.

Average down payments fell, reducing the savings required to “get in the door.” More significant was the rise of mortgages that involved no forced savings: the interest-only loan, in which no equity is built because the principal is never paid down, and the “negative amortization” loan, in which payments are so low that they do not even keep up with the interest, leaving homeowners more indebted, rather than less, each month. By 2006, more than one-third of subprime mortgages had amortization schedules longer than 30 years, nearly half of Alt-A mortgages were interest-only, and more than one-fourth were negative-amortization loans.

One effect was to reduce the social benefits of homeownership, because the benefits are a product of equity and not of the mere fact that a contract has been signed and a mortgage taken out. The relationship between homeownership and social goods had been misunderstood: The traits that enabled households to build up the savings necessary for significant down payments — hard work and the deferral of gratification — were misattributed to homeownership itself. Paying a mortgage did nothing to improve children’s educational outcomes; instead, the factors that gave rise to homeownership also led parents to raise children in a manner that led to greater educational attainment.

Without substantial down payments and conservative amortization schedules, the entire proposition of homeownership as a social good is turned on its head. Think of a homeowner with a zero-down, negative-amortization mortgage: The balance would equal at least 100 percent of the value of the house at origination and would steadily grow, putting him ever deeper in debt unless the market value of the house grew at an even faster rate. Rather than being a source of wealth, the mortgage would actually reduce the net worth of this homeowner below what it would have been had he rented.

I wrote about this in Money Rentership: Housing and the New American Dream: "The mortgage encumbrance gets to the core of the unnoticed change in people's concept of property ownership; people who have little or no equity stake in a property have no ownership despite what legal documents may say. What they have is money rentership and the illusion of home ownership. Emotionally, they still feel like homeowners; they still behave and believe like homeowners, but they're not home owners. They own a loan; they're loan owners."

Rather than providing a social benefit, then, homeownership without equity imposes costs. Andrew Oswald of the University of Warwick has argued that such homeownership can exacerbate unemployment by making workers less likely to move from one labor market to another. Labor mobility is badly undermined when homeowners in a depressed market can’t sell their property for anything approaching the principal balance of the mortgage they originally took out to buy it.

The macroeconomic consequences of this shift toward low-equity homeownership are visible in research from the Federal Reserve that examines the assets and liabilities of U.S. households. In the first quarter of 2001, U.S. households’ home equity stood at $7.7 trillion, or 61 percent of the value of all residential real estate. By the third quarter of 2008, it had declined to $7.6 trillion, even as outstanding mortgage debt increased by $5.6 trillion over the same period. By the first quarter of 2009, home equity was $1.35 trillion lower than it had been in 2001. Put another way: Despite the housing boom, the portion of residential real estate actually owned by households declined. This means that the increase in homeownership rates (and the subsequent rise in housing prices) was entirely debt-financed.

In 2009 people actually own less of their homes than they did in 2001. All the innovation in finance, all the government subsidies and market props were a dismal failure. How else do you explain the results? We have managed to obtain the opposite of what we desire, and we are paying a huge amount of money to do so. We would be better off to do nothing. The money we spend as a society to encourage home ownership actually diminishes it.

These developments provide important lessons for policymakers. First, subsidies designed to turn renters into homeowners likely did harm to many households, given that home equity declined over the 2001–09 period. Second, there was a reduction in real mortgage rates, thanks to the subsidies provided by the GSEs, the Federal Housing Administration (FHA), and the tax code. By increasing households’ purchasing power, such measures drive up the prices of homes — over the period in question, by as much as 25 percent — without doing anything to encourage real affordability. This is why homeownership rates in Canada and in European countries that do not offer a mortgage-interest deduction are roughly the same as in the United States. While ending these subsidies would probably not alter homeownership rates, it would likely shift capital away from artificially bid-up residential real estate to more productive uses.

(Part 2 tomorrow)

For all our government programs, we don't have higher home ownership rates than countries with no props at all. It's time for everyone to stand up and say no. Enough is enough. We are spending money and creating problems… well, problems for most people. The Ponzis have certainly enjoyed themselves.

Irvine equity surfers fall on hard times

Irvine is full of "sophisticated" financial managers who routinely withdrew the equity from their homes. Those that didn't take out too much still have a few pennies in the home equity piggy bank. Of course, their debts are now outrageously high, but if they can sell to someone who can afford to pay off their debts, the cycle can restart again.

  • This property was purchased on 4/13/1998 for $541,000. The owners used a $432,600 first mortgage and a $108,400 down payment.
  • On 1/20/1999 they obtained a HELOC for $85,406.
  • On 1/16/2003 they refinanced with a $560,000 first mortgage.
  • On 9/25/2003 the refinanced the first mortgage again for $610,000.
  • On 12/16/2005 they obtained a HELOC for $250,000. Although there is no direct evidence they took this money out, their pattern would suggest they did.
  • Total property debt is $860,000.
  • Total mortgage equity withdrawal is $427,400.
  • Total squatting is at least 10 months and counting.

Foreclosure Record

Recording Date: 06/23/2010

Document Type: Notice of Sale

Foreclosure Record

Recording Date: 04/21/2010

Document Type: Notice of Rescission

Foreclosure Record

Recording Date: 04/01/2010

Document Type: Notice of Sale

Foreclosure Record

Recording Date: 03/08/2010

Document Type: Notice of Default

Foreclosure Record

Recording Date: 12/31/2009

Document Type: Notice of Default

You have to wonder if lenders are going to be so stupid with HELOCs on the next cycle.

If you would like to learn how you can get involved with trustee sales, please contact me at

Irvine Home Address … 6 Twin Branch Irvine, CA 92620

Resale Home Price … $1,159,900

Home Purchase Price … $541,000

Home Purchase Date …. 4/13/1998

Net Gain (Loss) ………. $549,306

Percent Change ………. 101.5%

Annual Appreciation … 6.0%

Cost of Ownership


$1,159,900 ………. Asking Price

$231,980 ………. 20% Down Conventional

4.62% …………… Mortgage Interest Rate

$927,920 ………. 30-Year Mortgage

$229,887 ………. Income Requirement

$4,768 ………. Monthly Mortgage Payment

$1005 ………. Property Tax

$200 ………. Special Taxes and Levies (Mello Roos)

$97 ………. Homeowners Insurance

$175 ………. Homeowners Association Fees


$6,240 ………. Monthly Cash Outlays

-$1282 ………. Tax Savings (% of Interest and Property Tax)

-$1196 ………. Equity Hidden in Payment

$402 ………. Lost Income to Down Payment (net of taxes)

$145 ………. Maintenance and Replacement Reserves


$4,310 ………. Monthly Cost of Ownership

Cash Acquisition Demands


$11,599 ………. Furnishing and Move In @1%

$11,599 ………. Closing Costs @1%

$9,279 ………… Interest Points @1% of Loan

$231,980 ………. Down Payment


$264,457 ………. Total Cash Costs

$66,000 ………… Emergency Cash Reserves


$330,457 ………. Total Savings Needed

Property Details for 6 Twin Branch Irvine, CA 92620


Beds: 5

Baths: 4 full 1 part baths

Home size: 3,700 sq ft

($313 / sq ft)

Lot Size: 6,807 sq ft

Year Built: 1998

Days on Market: 1

Listing Updated: 40380

MLS Number: S625891

Property Type: Single Family, Residential

Community: Northwood

Tract: Cris


According to the listing agent, this listing may be a pre-foreclosure or short sale.

Priced to sell NOW!!! Priced under Market!!!Private cul-de-sac location and great curb appeal. Dramatic floor plan, foyer with vaulted ceilings invites you to a living room open to courtyard and separate dining. Gourmet kitchen with granite counter and large center island. Cozy family room with fireplace open to breakfast nook. One bedroom downstairs with full bath. Master suite with retreat , master bath and oversized walk-in closet. Two secondary bedrooms with a Jack and Jill bath, open to loft. Separate private bedroom with full bath perfect for guests or home office. Private yard professionally landscaped. Minutes from Canyon View elementary and Northwood high. Close to parks, pools, nearby tennis courts and more. Dues $40+$135.

The realtor is certainly excited about the price. I count six exclamation points. WOW!!!!!!

33 thoughts on “Financial Innovation and Government Subsidies Diminish Home Ownership

  1. Planet Reality

    Few ever address that debt to income chart any more. Homes in Irvine are affordable. The only way the government can increase the debt to income ratio now is with inflation. I know, I know, inflation is impossible and the government can’t control house prices. I’ve heard all the poorly thought out excuses before. The 1970s portion of the chart tells you everything you need to know but don’t want to accept.

    1. IrvineRenter

      “The 1970s portion of the chart tells you everything you need to know but don’t want to accept.”

      So you think we will see double digit wage inflation? And the banks will underwrite loans with 60% DTIs again? And of course, the Federal Reserve will respond with continued zero percent interest rates and banks will continue to make 4.5% loans in the face of runnaway inflation?

      I imagine the armies of unemployed homedebtors are hoping you are right.

      1. Planet Reality

        Hope is never a strategy, for you Irvine Renter or the home debtors. The only thing I am sure of is that the government will do everything it can to increase the debt to income ratio. If that means holding interest rates at zero to bring on 1970s style across the board inflation in expenses and incomes with high unemployment they will do it. The 1970s dwarfs the current housing bubble. That should be sobering to die hards.

        1. cara

          If the DTI’s are now in the affordable band (true) why exactly would the government want to push DTI’s higher?
          I’m missing what the motivation is here.

          1. Planet Reality

            Simple, the government relies on asset bubbles to keep taxes high and government debt sustainable through inflation.

          2. Planet Reality

            Simple, the government relies on asset bubbles to keep taxes high and government debt sustainable through inflation.

            That chart tells you everything you need to know, the current housing bubble was small in DTI terms.

          3. alan

            The motivation is “planet realities” attempt to justify his warped world view.

            In acutality, DTI’s will have to fall back to historic levels because the default rate is not sustainable on current levels. This may take a few more years. When DTI’s fall and interest rates start rising, prices will really start circling the drain.

            P.S. PR … I am a long term home owner, not a renter and not a home debtor! I never understood the insanity of the decade. I don’t have a renter’s axe to grind.

          4. potash

            Weren’t DTI based on one wage earner in the 70’s, today’s household incomes are usually based on two, right? Making them more unstable?

          5. alan

            Not exactly…

            The incomes of both spouses are combined so the DTI is appled to the sum of the two incomes. So the ratio itself doesn’t change because there are two people.

            I don’t know that two incomes are more unstable than one. It seems logical but just because it’s logical doesn’t mean it’s correct.

          6. Perspective

            The DTI is a fuzzy stat at best since it’s not always comparing apples-to-apples.

            The highest average DTI may appear to be 50% in this chart, but how many of these loans are not 30Y fixed rate mortgages? If we’d used a mortgage with a teaser rate and/or payment, our initial DTI could’ve been 10 points lower.

          7. potash

            I guess I’m thinking, if in the 70’s you buy a house where one earner can afford the payments, then it might be easier if the primary earner loses his/her job then the secondary earner can step in to help out until the primary earner gets a job, or makes an equivalent or better income.

            Seems like you are not likely to get an equivalently paying job if you are fired or let go.

            If the house payment is based on two earners, then if one person loses their job, you’re in trouble as both people have to be working. And you have more chances for job loss, when two people are working, so it’s more likely to happen, income is less stable.

            It seems logical, but I don’t have access to the data so I’m asking. 🙂

        2. DarthFerret

          Hope is never a strategy

          On Planet Realty, hope is all they’ve got left.


          1. Planet Reality

            The difference between me and most everyone else here is that I don’t hope for anything when it comes to the US economy and premium sub-economies. I understand that the future is outside of hope and there are realities one needs to accept related to corrupt capitalist systems.

            If there is anything I hope for it’s health and well being.

        3. lowrydr310

          I don’t see wage inflation coming any time soon. Any profitable companies are going to have their top feeders siphoning all the additional income they can get their hands on, with layoffs, no raises, or even pay cuts for most of the workers, squeezing the lower classes even tighter.

  2. Soylent Green Is People.

    Debt to income ratios are still quite high. Even though FN/FRE/HUD say there is a ceiling of 45% (Conforming)and 43% (FHA) these limits have been routinely exceeded by all lenders.

    Come mid August, some lenders are going to a solid 38% front (housing) ratio and no higher for FHA loans. When that happens, listen carefully for the wailing and gnashing of teeth from Realtors about how hard it is now to get a loan to buy.

    Au Contraire – it’s very easy to get a loan, as long as the price fits a reasonable budget. I’d love to live by the beach with a $1,000 payment, but that’s not economic reality. As these screws begin to tighten down, so will prices ease lower. There isn’t another way around this futurescape.

    My .02c

    Soylent Green Is People.

      1. Will

        In Japan at the height of their bubble they were doing 99 year mortgages! Think of that…you could leave a mortgage to your grandchild!

  3. Lee in Irvine

    The gov’t along with the crooks on WS and the greedy bankers created this mess. Then you add the morons in the REIC, and you have a massive pile of shit. I talk to real people all over Orange County every day. I think I know what’s happening … we are exiting the eye of the storm.

      1. Lee in Irvine

        I’ve been reading the blog, though I haven’t commented. You and I still agree on OC real estate.

        1. Swiller

          Hey Lee…what are “real people”? Are they the brokers who live in Irvine on the hill making $500,000 a year? Are they the folks living in Santa Ana, struggling to hold onto one republican owned company job paying them the absolute minimum to maximize profits?

          Who are the “real people”? I’m sure Donald Bren and the Irvine mighty council consider them real people.

    1. OrangeRenter


      “I talk to real people all over Orange County every day.”

      May I ask if this is part of your job?

      If so, may i ask what kind of job that is?

    2. Worst is over??

      Lee, you say “I think I know what’s happening … we are exiting the eye of the storm.” Do you mean the worst is over for the O.C.’s housing and/or economy?

      1. HydroCabron

        :grrr: Nope. That metaphor means we’re in for another round of heavy punishment. The eye of the storm is the central area of calm, where only the low barometric pressure and the dark clouds in every direction tell you that you will soon be hit hard once again.

  4. Shevy

    “We=Barney Frank and his cronies thought we=they were giving millions of people the American Dream when financial innovations like the Option ARM put people into homes.”

  5. ICNIC

    About today’s property……

    We are following it for a while. It had an auction date (Aug 2) and like most of them was postponed. Well, he did have equity on the house, why should he forclose, he could have sold it 6 months ago, but someone explained to us that he heeded the forclosure process to get to this point for receiving the modification. There are 3 other houses with the same floor-plan in the next street priced for 1,300k-1,350k. One of them was offered already 1,250K, and they all are backing to the meadowood/culver.

    So this house was priced under the market. It was on Redfin on Thursday morning. By Friday they already had 2 offers (one of which for 10k more than the asking price). They kept the open house as scheduled, so we went to look. It looked like a train station. SO many people…. and their cars……. nothig regular. The floor plan IS beautiful, but the house maintenance level is low. The neighbours are whithin a touch from your window.
    No doubt they sold. I wonder on what price. We will know soon. And they did probably lowered the prices of comparable in the neighberhood.

  6. Long Beach Renter

    Isn’t part of the problem also that Americans have an unrealistic idea of what constitutes a reasonable middle-class home? You’re looked on as almost a failure if you raise your kids in an apartment around here, yet that would really be the most sensible purchase for a lot of families. We’d be wiser to face that reality than to keep encouraging the construction of big, unaffordable homes and then offering incentives to people to overextend themselves to buy those homes.

    I suspect that some of the “European countries” alluded to in the post manage to have high home ownership without the mortgage-interest deduction partly because a greater portion of the population lives in high-density housing.

    1. HydroCabron

      Since townhome HOAs are often no worse than regular HOAs, and better than condominium HOAs, and since many people, to judge from the condition of their yards, have little use for one, I have come to think that a healthy chunk of the population would do best in a well-constructed townhome. By “well-constructed”, I particularly emphasize sound isolation.

      Not that people shouldn’t live in detached houses, if it’s worth it to them. Even here, there is plenty of room for improvement in density. For example, the standard residential street width is overly generous, and building only near freeway exits, with many thousands of acres of empty land between, is a habit we could safely lose, particularly in a state I will refer to only as “Colorado”, so as not to offend anyone.

      Older (pre-WWII) neighborhoods managed to cram a large number of comfortable, private, well-isolated dwellings into a small area.

  7. Law_Student

    What a great blog. I finally finished law school and can return to reading these blogs and working. IrvineRenter, excellent work. It looks better than ever.

    Perhaps the government can do for mortgages what they have done for student loans. The new student loans can be repaid under an “Income Contingent Repayment” plan. That means that debtor’s payments are set at a percentage of disposable income. If the loans are not paid off after 25 years, the balance is forgiven.

    This new loan is a great way to teach responsible borrowing to our children. Perhaps the policy makers of tomorrow will use this fine example to create the housing loans of the future.

    1. Planet Reality

      Excellent way to inflate both tuition and housing while moving tax payer money to the banks and the top 5% of earners.

      The way I see it we entered the eye of the storm in the 1960s and will likely head out sometime mid century.

Comments are closed.