Is increased mortgage equity withdrawal the key to economic growth?

Ponzi schemes boost the economy through a flush of consumer spending with borrowed money. Unfortunately, Ponzi spending is not sustainable.

Macro economists look for data correlations to infer causations for economic events; however, they often fail to investigate the individual incentives driving the herd behavior that shows up in their data. What I find amazing and amusing is the completely erroneous interpretations they conjure up without a clue as to the real cause.

My favorite example is the notion of a wealth effect, first postulated by Carl Case and Robert Shiller. They noted that stock prices had little effect on people’s propensity to spend; however, house prices have a strong correlation to people’s spending habits.

Economists noted that people spend more when asset values rise and less money when values fall. Of course, times of rising asset values also correspond to times of general prosperity, so it’s difficult to identify what’s really causing people to spend more, the fact that their assets increased in value or that their incomes increased.

The conventional interpretation is that rising house prices make people feel more confident than rising stock prices, so rising house prices has a greater impact on people’s desire to spend. equity strippingThat interpretation is partially true because prior to the housing bubble, house prices had never gone down while stock prices had crashed repeatedly. A rising house price appeared more stable. However, that interpretation completely misses what’s really going on.

If stock prices go up, people don’t have ready access to that money. They would have to sell some of that stock (foregoing future gains) and pay taxes on the gains in order to obtain the money.

That’s work.

That’s a hassle.

That’s why the correlation between stock price gains and consumer spending is so weak (also, fewer people own stocks than houses).

If house prices go up, it’s a different story. When credit is loose, lenders will loan 100% of the value or more of a house with a HELOC or second mortgage. This gives homeowners immediate access to cash, and it doesn’t have any tax implications.

That’s easy.

That’s convenient.


That’s why there is a strong correlation between house price gains and consumer spending.

There’s only one problem. hell_to_pay

It’s a Ponzi scheme!

It’s theft!

Remember, Neighbors stealing from neighbors: HELOCs make a comeback. Don’t let the euphemism, wealth effect, distract you from the more accurate dysphemism, Ponzi effect. The boost to the economy is real and quite visible. The economic instability and outright theft is hidden.

The lure of mortgage equity withdrawal is seductive for both borrowers and politicians. The lure of free money for borrowing homeowners is obvious, and the economic growth that results from their profligate spending pleases politicians. If not for the billions of dollars in losses from when the Ponzi scheme implodes, it would be a panacea.

Home Equity has Risen but the Economy isn’t Following

by RE-Insider on December 2, 2015

… housing wealth is playing a much smaller role in the economy than it did before the downturn.

According to the Federal Reserve, home equity has roughly doubled to $12.1 trillion since house prices hit bottom in 2011. … This once would have given a significant boost to the economy, providing owners with more money and making them feel more flush and likely to spend.

HELOC spendingNotice the erroneous interpretation expounded above. They imply owners are fence-sitters waiting for good vibrations before they decide to spend more freely. The reality is that current loan-to-value caps (up to 90% from 80% recently) and the higher cost of borrowing is the only thing preventing a HELOC induced orgy from breaking out again.

But today, this new wealth has little effect on homeowners’ behavior. The traditional ways Americans tap their home equity – home-equity loans, lines of credit and cash-out refinances – are still depressed, although higher than last year. …

Is HELOC spending depressed? Is there a natural and healthy level of HELOC abuse?

The average cash-out refinance in the three months ended in August left the borrower with mortgage debt of about 68% of the home’s value—not a risky level by any means.

So far, lenders aren’t being stupid.WTF_HELOC

Home equity’s effect on consumer spending is at its lowest level since the early 1990s, according to Moody’s Analytics. The research firm estimates that every $1 rise in home equity in the fourth quarter of 2014 would translate to about two cents of extra consumer spending over the next one to one and a half years. That was a third of the impact home equity had before the downturn.

If lenders were to make this money available at ever-decreasing interest rates so their payments didn’t go up, then HELOC abuse would be far more common.

Why aren’t homeowners feeling that they have money to spend again?

Repetition of the fallacious view that homeowners feelings have anything to do with it.

Firstly, since rising home prices over the past few years have made up for ground lost during the recession, many owners might not even realize they have equity to tap.

Strike one. Homeowners aren’t that stupid. If some lender wanted this business, they would be advertising their free-money offer, and legions of borrowers would line up to take it.timeless_kool_aid

The percentage of homeowners who thought they were underwater fell by merely one percentage point to 27%, according to Fannie Mae. Home equity is seen as more fleeting than it used to be.

Strike two. Homeowners proved during the bubble they would take any free money offered to them.

Plus, mortgage lenders aren’t giving owners access to as much equity as they used to….

Home run! Lenders are still exposed to billions in losses on their bubble-era second mortgages and HELOCs that they stupidly underwrote at 100% of bubble value or more. While still exposed to such large potential losses, they aren’t in a hurry to increase their exposure and repeat the mistakes of yesteryear.

“We’re at an inflection point. Since the crash, it’s all been about repairing homeowners’ equity but now that house prices are returning to prerecession levels, we will see homeowners’ equity driving consumer spending, home improvements and economic activity,” said Moody’s Analytics chief economist Mark Zandi.

While Mark Zandi may be right about what will happen, that doesn’t mean it’s a desirable end. Economists like Zandi who favor mortgage equity withdrawal don’t really understand the mechanics behind what they are studying.

The basic assumption economists make is the people spend more of their liquid savings when assets they own increase in value. This basic assumption is flawed. In my opinion, The “wealth effect” is the most dangerous euphemism in economics. What happens in the real world is not an increase in spending of savings, but an increase in Ponzi borrowing based on inflated asset values. It’s the behavior that lead so many to foreclosures.

In short, the Ponzi borrowing from the wealth effect is help the economy doesn’t need.


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