The Five-Star Default Servicing Conference featured Steve Forbes as the keynote speaker yesterday. I was fortunate to attend his presentation and wanted to share some of the key points that he covered during his address.
Forbes began by stating that we’re “at an extraordinary place in economic history.” However, while the global economy has taken its lumps over the past two years, the period of economic growth from the early 1980’s-2007 saw the rise of India, China, Latin American, and many African countries.
The Federal Reserve & Monetary Policy:
- The Fed printed too much money from 2003-2006
- Commodity prices (gold, copper, oil, etc.) rose in 2004 because of increased money supply
The Rise of the Housing Market
- Money moved from commodities to the housing market because of the historical positive growth trend of the housing market.
- The 1998 tax policy changes to the capital gains on home ownership further inflated the housing bubble. Simple economics shows that lowering the tax on an asset results in an increased price for that asset.
- Looking back on this tax policy, others agree with this viewpoint including studies cited by the Tax Policy Center at the Urban Institute and Brookings Institute.
- Lower lending standards (ARMs, negative amortization loans, stated/no income loans) pured gasoline on the fire.
- (For those unfamiliar with this term, “mark-to-market accounting” means that companies must value the assets on their balance sheets based on the latest market indicators of the price that those assets could be sold for immediately.)
- Unlike stocks, bonds, and other securities that exchange almost instantly, trades on the housing market (the buying/selling of homes) typically take months to execute. Additionally, housing market assets (homes for sale) exhibit massive heterogeniety (unlike shares of Microsoft for example that are all the same). Implementing mark-to-market guidelines for banks holding mortgages is conceptually wrong according Forbes.
- This viewpoint is shared by many others, including Matthew Phillips at Newsweek.
On Credit & Housing Securitization
- Feels that the current system of securitizing debt (credit cards, car loans, mortgages) is not functioning properly.
- Forbes advocates the creation of an open exchange or clearing house for credit default swaps. While these financial securities play an important role for managing corporate risk, the lack of transparency in the trading and functioning of these securities hinders their public acceptance and understanding on how they work.
- Because banks are over-capitalized right now, these financial instituation are continuing to hold their depreciated housing assets rather than off-load them at discounted prices. The balance sheet losses banks exhibit with the mark-to-market guidelines are artificial losses, not cash losses. On average in 2008, banks held $250 billion in cash reserves but are up to $1 trillion in 2009. With these cash reserves in place due to government intervention (i.e. TARP), banks have more motivation to hold their depreciated housing assets longer to see if they will recover ran than run a fire sale to interested private equity and hedge funds at the ready with cash to spend.
Rule of Law & Property Rights
- Forbes is an ardent defender of enforcing commercial contracts
- He cited that nearly all of the major airlines have experienced Chapter 11 and the government would have been best served to allows General Motors and Chrysler to enter Chapter 11 to enable reorganzation.
- This applies to home owners and lenders. First mortgage holders should be given precedent on repayments over home equity or second lien holders, however these junior debt holders have rights to access repaid capital without have their contracts and agreements disregarded.
- He sees serious conflict when the same lender owns both the senior mortgage and home equity loans.
- (This point was particularly interesting to me since my masters thesis was based on Douglass North’s work on the importance of economic institutions and the rule of law in economic societies.)
- Forbes continued his explicit support for tax reform (remember his proposal for the flat tax in the 1996 and 2000 Presidential campaigns?)
- He advocates health care reform by opening competition across state lines for health insurance. He’s also in favor of allowing small businesses to pool together to buy health insurance policies for their employees.
- On Social Security, Forbes advocates enabling individuals to manage their own accounts so that the current Social Security liability becomes an asset for each person. This process would teach workers at a young age about how to manage and grow their money through diversification.
More to come about the conference sessions and proceedings in later posts here. Stay tuned.