How a homeownership fetish hurt the American dream
The question of what to do about Fannie Mae and Freddie Mac -- the two government-created enterprises that have backed massive loans to the housing market -- involves much more than finance or real estate. It marks the end of an era. The relentless promotion of homeownership as the embodiment of the American dream has outlived its usefulness.
Historically, the pursuit of homeownership dates to the Great Depression of the 1930s, notes historian A. Scott Henderson of Furman University. In some ways, it's a great success story. In 1940, 44 percent of households owned a home; by 1985, the rate was 64 percent. The size and quality of homes have increased dramatically. Owning a home contributes to neighborhood stability and encourages property improvement.
Unfortunately, we let a sensible goal become a foolish fetish. Not everyone can become a homeowner. Some are too young and footloose; some are too old and dependent; some are too poor or irresponsible. Some don't want a home. Even with these gaps, homeownership is virtually universal among the middle-aged middle class: almost three-quarters of Americans ages 45 to 54 and four-fifths ages 55 to 64.
Government subsidizes homeownership in two ways: through tax and spending policies and through credit markets. Tax breaks for homeowners (mainly the deductions for mortgage interest and property taxes, plus preferential treatment of capital gains on homes) exceeded $120 billion in 2009, reports the Congressional Budget Office. These benefits go heavily to higher-income borrowers, who are encouraged to buy bigger and more expensive homes that generate larger tax savings. This is both unfair and unnecessary. By contrast, government subsidies for lower-income renters are skimpier, totaling about 25 percent of the support for homeowners.
The cheap credit subsidy operates mainly through Fannie Mae and Freddie Mac. These government-sponsored enterprises (GSEs) were economic mongrels: profit-making companies that were given goals of expanding homeownership among poorer buyers. The GSEs could borrow at interest rates barely above the U.S. Treasury's, because investors regarded Fannie and Freddie bonds as backed by the government.
It seemed a perfect marriage: The GSEs would do well by doing good. They'd earn profits and pass along the benefits of cheaper credit by financing or guaranteeing mortgage loans. Congress could promote homeownership outside budget constraints. By 2009, Fannie and Freddie had lent or guaranteed almost $5.5 trillion in home mortgages, roughly half of the U.S. total. But the marriage between private profit and public purpose failed. In September 2008, the Bush administration took over Fannie and Freddie, which faced huge losses from bad mortgages.
There's a ferocious debate as to whether these losses stemmed from unrealistic "housing affordability goals" or lax lending in pursuit of higher profits. The correct answer is: probably both. Regardless, the GSE bailouts have cost almost $150 billion, with more to come.
In an ideal world, we would discard failed policies. We would trim or end the mortgage-interest tax deduction. We would curtail the GSEs' loans and guarantees (the promise to repay mortgages that default). The consequences need not be dire. The homeownership rate, already down to 67 percent from its 2004-06 peak of 69 percent, would probably stabilize in the mid-60s. People would save more for down payments. Mortgage rates might rise a bit.
The trouble is that the ideal solution may be temporarily undesirable. The housing market, as everyone knows, has collapsed. New home starts are running at about a quarter of the 2005 rate of 2.1 million. Sales of existing homes, though up slightly this year, remain weak. Home prices have dropped sharply.
The irony is that, in failure, the GSEs have become more important than ever. Private lenders, which once regarded a mortgage secured by a home as a highly safe investment, now see it as highly risky. Few new mortgages are made without government guarantees. The GSEs continue to operate and, along with other government agencies, guaranteed about 95 percent of new mortgages made in 2009, reports Inside Mortgage Finance, an industry newsletter. Since 1990, the government guarantee share had fluctuated between 30 and 50 percent.
This means that sudden withdrawals of support might deepen housing's depression. Economists Phillip Swagel of Georgetown University and Donald Marron of the Tax Policy Center, among others, have made sensible proposals to scale back Fannie and Freddie. But done too quickly, they could backfire.
"This is not a good time to make permanent solutions for housing," says Guy Cecala, publisher of Inside Mortgage Finance. The single-minded promotion of homeownership failed and, paradoxically, undermined the American dream. It contributed to the housing "bubble" and favors housing investment over new industries and technologies. But to end it, we need to make haste slowly.