Ken Rogoff on the Current Situation
Too many decisions, for example the recent withdrawal of monetary stimulus by the European Central Bank and the US Federal Reserve have been predicated on overly rosy growth projections.
Read the whole thing. Rogoff and co-author Carmen Reinhart have been pointing out that de-leveraging is a long, painful process. They have earned the right to be heard. I wonder if Tyler Cowen has any room for Reinhart and Rogoff in a list of potentially influential intellectuals.
Ken sees mortgage writedowns as a constructive step in the de-leveraging process. Of course, I completely disagree. About the most famous writedown program, HAMP, Mike Konczal writes,
From an ethical point of view a redefault rate this high [21 percent in the first year] is an abomination. Consumer advocates talk about predatory lending as “equity stripping” and a modification that ends in a redefault should be thought of as “wealth stripping.” It keeps consumers running through costly hoops to end up no better off all so banks can juke their books on what properties are in what kind of shape.
Thanks to Mark Thoma for the pointer. As far as prophets go, I said early on in Congressional testimony that this program was simply setting borrowers up to fail. Perhaps I deserve to be heard, too.
The people who favor mortgage modifications are ignorant about how mortgages and housing work. Instead, they live in some abstract world in which somebody in a far-away office can figure out new loan terms that fit in general in spite of idiosyncratic variation. But there are many problems with this.
1. You do not know what the borrower lied about in order to get the mortgage. You don’t know if this is the borrower’s primary residence. You don’t know the borrower’s income or asset position.
2. You do not know the status of the housing market in the neighborhood. Are there a lot of foreclosures and pending foreclosures? Have prices hit bottom, or do they still have further to fall?
3. You do not know the mindset of the borrower. Do they really understand what they need to do in order to handle a mortgage on a house where the price is not going up?
Yes, de-leveraging is a theme of the current crisis. But I think that another important theme is what I call The Era of Expert Failure. As local knowledge becomes increasingly important, the central planners become increasingly ineffectual. Mortgage modifications are an illustration of that. The failure of that approach should be described as Hayek’s revenge.