"No matter how paranoid or conspiracy-minded you are, what the government is actually doing is worse than you imagine." - - - William Blum

May 12, 2004

I'm Not "Interest"ed


Dan Gillmor gives his opinion (with which I basically agree) on the lack of common sense of borrowers in lieu of the housing "bubble" in California (snippets):

....Mortgage lenders are putting home buyers into so-called ``nothing-down'' and ``interest-only'' loans, the Mercury News' Sue McAllister reported last weekend. The lenders pushing such deals are irresponsible because they're encouraging a dangerous kind of debt.

A nothing-down mortgage is just what it sounds like: no down payment. An interest-only mortgage means no payments on principal for a period of time, usually five to seven years. Under the best of circumstances, at least some of these borrowers are going to be bitterly sorry. Under less favorable conditions, many more will regret making the bet. Never mind the mess if the overall economic climate truly sours. The foundation for this kind of borrowing is simple, and wrong-headed. It assumes that housing prices will continue to rise the way they have in the past few years. I don't believe they will. If I'm right, a nothing-down mortgage is like betting on an inside straight in a high-stakes poker game....

Basic economics can't be defied forever. Just ask the people who bought in Tokyo in the late 1980s. Japan has only just begun to recover from the economic disaster that followed the bursting of its financial bubble. It can happen here. Key regions of America, including Silicon Valley, seem clearly to be in the throes of a housing bubble. If so, average people will feel enormous financial pain -- and our entire economy will suffer.

The economy is growing at the moment, but all kinds of problems are building, including some that will directly affect the housing scene. The price of oil settled above $40 a barrel Tuesday, the first time since 1990, when California's housing market was in its last tumble. Inflation is back on the horizon, partly as a result of rising energy costs. The Federal Reserve has all but erected billboards to warn us that interest rates can't stay this low much longer. If inflation is really back, and if the job market continues to grow at a reasonable pace, rate hikes could come faster and take interest costs higher than we may expect.

All this makes nothing-down and interest-only mortgages the kind of bets that should worry people. But the rush to buy -- which resembles a panic as much as anything else -- continues to overwhelm common sense. While I believe there is a housing bubble that will deflate, I wouldn't dream of suggesting when. In a rush to lock in low mortgage rates, and in the general frenzy that seems to prevail, people may well keep bidding prices up for a while. The crunch will come, though. Maybe it'll happen when large numbers of low-interest adjustable loans come due and borrowers suddenly face big hikes in their monthly costs. For the nothing-down crowd, even a tiny drop in prices will put their equity under water. If things start to unravel, the market could go south in a hurry....

The potential now exists for a major financial disaster originating in the housing market and radiating throughout the ecomony. Let's hope it doesn't come to fruition.

No comments: