Helping Banks by "Helping" Homeowners?

The NYT reports on a new plan from the Obama administration to help homeowners. According to the article, under the plan the Federal Housing Authority (FHA) will guarantee new loans in exchange for banks writing down some of the principle on underwater mortgages.

It would have been worth pointing out that the FHA is currently facing serious financial problems as a result of its expanded role in the housing market over the last few years. Many of the mortgages it has guaranteed have gone bad. This has led to large losses, pushing its reserves below required levels. The losses to the FHA are gains to banks, which would have been forced to absorb these losses themselves without the FHA guarantee. Of course many banks would not have issued the mortgages without the FHA guarantee. (The WSJ did note the FHA's financial problems.)

In a context where house prices are currently dropping and virtually certain to fall further over the next year, an FHA guarantee based on current prices is likely to lead to more losses for the FHA, although it will reduce bank losses on these loans. It would have been helpful to include the views of someone who could have explained how this program is likely to work and who it is likely to benefit.

--Dean Baker

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