Occasionally, the ivory-tower set comes up with these wacky ideas to have banks share risk with borrowers. Fannie and Freddie may not be interested just due to the complexity, but if a private bank gave it a run with a good marketing push, they might find an audience. Hat tip to Scott S. who sent this in from Bloomberg BusinessWeek:
Entertaining as it is, playing the financial crisis blame game gets us nowhere. A more useful contribution from Mian and Sufi is the shared-responsibility mortgage, their prescription to make economies less vulnerable to debt-fueled bubbles. In such a mortgage, lenders take some of the hit if housing prices fall and reap some of the reward if they rise. “Had such mortgages been in place when house prices collapsed, the Great Recession in the United States would not have been ‘Great’ at all,” they argue. “It would have been a garden variety downturn with many fewer jobs lost.”
Their claim is bold, perhaps too bold, but the strategy for making debt less dangerous by putting a twist into the 30-year fixed-rate mortgage is sound.
If an index of home prices in a home’s ZIP code fell, say, 30 percent, then the borrower’s monthly payment of principal and interest would also fall 30 percent. That’s not achieved by stretching out the length of the loan, which lenders sometimes will do: Despite the smaller payment, the mortgage would still get paid off over 30 years. Financially speaking, it would be equivalent to getting a reduction in principal.
If prices recover, payments go back up, but never above the original amount. Lenders would ordinarily charge a higher rate for that protection, but Mian and Sufi calculate that they would be willing to forgo a bump on the rate if they were given some upside potential: 5 percent of any capital gain the homeowner gets upon selling or refinancing the house.
Read full article here:
Or we could just go back to the more traditional lending standards of 20% down and front/back end ratios of 28/36%. Property bubbles seem to always involve some sort of exotic/creative financing. Why do we need another creative financing solution to a problem that’s already been solved.
All in the name of coddling, to which this country is now addicted.
Every article harps on tight credit being a big problem, but they ignore that loose credit is a bigger problem!
This is a horrible idea. Every time there’s a housing crash this would just cause the banks to go under faster. During the last time banks were insolvent if you had to mark to market the loans, but they were still liquid. Incoming payments on mortgages were sufficient to pay interest on the short term debt used to fund the mortgages. And that’s even with the heightened delinquency rates. That’s why we just needed to keep them running and eventually they’d be fine. Cut off the flow of payments by 30% including principal cuts and they’d all fail.
It would be great if all purchases, refi, and heloc were at 75% LTV max. That would provide plenty of room for the downswings.
Unfortunately the industry that provides the exotic risks and those that supposedly help bail out is too great.
I really wish we would simplify everything.