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How Does The Government Decide Who To Bail Out?

September 5, 2010 · 30 comments

in Commentary, Personal Finance

According to Fox News, the Obama administration is launching it’s largest effort yet toward bailing out homeowners that owe more on their mortgage than their home is worth.  This latest plan takes affect this Tuesday, and will help those that have kept current with their mortgages, but are underwater on their loans.  The thought is, these homeowners are at risk of defaulting since they have zero home equity, so they need government help ‘just in case’.

So, how does the Government decide who exactly to help?  From what I understand, this government assistance is aimed at those that aren’t even struggling yet, but may in the future.  What about the people that have suffered real losses?  I know someone that lost a substantial amount of money because of Lehman Brothers, but the government has not reimbursed them a penny.  What about the money my 401k has lost because the stock market has gone down?  My retirement is at risk now- should the government give me some money just in case I won’t have enough for retirement?  What about my kid’s college funds, they also have dropped.  What if my kids can’t go to college now because I won’t have enough money saved?

I am all for people to get help that are truly struggling.  However, there are so many segments of the population that could use assistance, how does the administration decide who to help?  All investments have inherent risk, whether it is a home or mutual funds.  You accept that risk when you sign the paperwork on your house or hit ‘enter’ when you make a stock trade.  So how come Obama hasn’t come to the rescue of those that lost money with Lehman and others?   Apparently only those that overspent on their houses are worthy of government aid?

It will be interesting to see in 10 years where these plans have gotten our economy.  Maybe allowing people to spend more than they can afford and taxing the ‘rich’ will save the country, but I don’t think that is the answer.

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{ 27 comments… read them below or add one }

Nicole September 5, 2010 at 4:29 pm

This is not my area of expertise, but my general impression is that they’re focusing on the housing market because that market isn’t as efficient as the stock market at getting back into equilibrium. They’re trying to fix the housing market because it will take a long long time to fix without government intervention, and the housing market is dragging a lot of local markets down by keeping people from moving (introducing job search frictions) and having negative externalities on existing homes. Plus, their interventions really aren’t the government giving money to homeowners (as much as some liberals would like), they’re more trying to work with mortgage lenders to make those mortgage lenders do what is in the best interests for both the lender and the borrower. I have no idea why the market isn’t doing it itself but there seem to be some very major inefficiencies in the mortgage market at the individual mortgage level. Possibly because most mortgages aren’t local anymore so lenders can’t really determine who is a good risk for readjustment and who should just be dumped.

Government intervention is justified on the grounds of market failure. There are many signs that the housing market is experiencing market failures. In this case the market failures are: 1. local markets not working efficiently (lenders are not negotiating when it is in their best interest to do so, 2. Negative spillovers/externalities to communities affected by foreclosures, 3. inefficiencies added to the labor market by people being unable to move to seek employment. There may be more.

The government does have social safety nets for people who have lost everything in the stock market. Social security is one. If you’re not eligible for social security, then you’re eligible for Supplemental Security Income. There’s still TANF and EITC and foodstamps and unemployment and worker’s comp etc. If you’re not doing that badly then you’re probably not going to give the government the biggest bang per stimulus buck. Plus the gov’t did pump tons of money into AIG and other banks and insurance companies so that they wouldn’t take things down like Lehman went down. If you believe their testimony, there was nothing that could be done in Lehman’s case to save it.

It weirds me out who Fox News on the one hand curses any and all government spending and then complains on the other that we’re not giving enough to the people who “deserve” it. The inconsistency is mind-boggling. I think it may have something to do with skin-color and whether you go to church or not that determines if Fox thinks you’re not getting enough government handouts. But maybe I just watch too much Daily Show. Rupert Murdoc scares the crap out of me… too bad he can’t use his powers for good instead of evil.

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Kris September 5, 2010 at 8:05 pm

Nicole, the article was actually written by the Wall Street Journal, but reported on by the Fox News website.

Housing prices have ebbed and flowed forever. Food stamps and the programs you mentioned are also available to those are have housing issues. The point is, from the way I read the article, people who are not in financial crises at all are looking at possibly getting mortgage reductions, just because their investment went bad. They are not living on the streets, they are not the unemployed. It is just people that owe more on their house than it is worth.

Let’s say I short I stock. In this example, I sell a stock I really don’t own for 10,000. My thought is the stock with go down for some reason, and I hope to buy it back at a later date, for much less money. However, the company I just shorted the stock on just got purchased by another company and the stock goes through the roof. Now I have to pay a premium to buy my stock back. Let’s say it is now worth 13,000. I don’t expect the government to say ‘well, even though she is ok financially, covering this cruddy stock trade may be hard for her, so lets bring that stock price back down to 10,000 and call it even’. To me, the housing market is no different.

The internet bubble may also be considered a market failure, and again, no bailouts there. So many people overspent on their homes, took out home equity loans on inflated home prices, and are now left with debt. Those are all choices. The housing market is just as risky as any other ‘investment’, and if people aren’t willing to accept the consequence of that risk, they should consider renting instead.

Now, I am not saying this applies to everyone. Again, I am all for helping those in desperate straits. However, many people have overconsumed and are working the system. To me, the good little mortgage payers should get a tax credit or something if people that are underwater on their homes are going to get federal funding. It is like pushing the smart, good student to the back of the classroom because they aren’t any trouble, and spending all the time and resources on the problem kids instead.

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Nicole September 5, 2010 at 9:13 pm

I’m using the jargon term, “market failure” which is defined as: adverse selection, moral hazard, monopoly power, spillovers/externalities, and I always forget the fifth one.

No, they’re not doing it to help the underwater mortgage holders who made bad gambles. The government doesn’t care about them and that’s not why they’re helping. That’s not the business of the government.

They’re doing it to help the people whose houses are next door to the underwater mortgage holders. For the communities that are being destroyed through foreclosures and no fault of their own. The people who bought their houses in good faith on dual incomes with decent savings who suddenly lost both jobs and all their savings. The people who could move from communities where their skills are unproductive to communities that need their skills (thus increasing GDP and lowering unemployment), except they can’t because they’re stuck in their houses that they can’t sell.

These are market failures. Negative externalities. Market frictions. Things keeping us from being on the production possibilities frontier. Keeping the pie from getting bigger.

Wallstreet is doing fine and equilibrating. Yes a bubble popped, but really the market recovered quite a bit (and much quicker than unemployment or housing prices) and is more or less on trend. The housing market is still screwed up and still causing lots of market inefficiencies and negative externalities on people who are good homeowners but live next door to crappy homeowners. The government is trying to directly target fixes where they hope it will do the most general good, though we won’t know if they’ve succeeded for quite some time, if ever.

And seriously, good homeowners ARE getting benefits. The fed is keeping interest rates very low. If I wanted to, with my 800+ credit score and well over 20% home equity, I could refinance to get a 3.75% interest rate on a 15 year home mortgage. That’s unthinkable. Just two years ago my rate was 6.5%. That’s a savings of thousands upon thousands of dollars for me. You can’t tell me I’m not benefiting from government intervention in the housing market, and benefiting more than the people who screwed up (those individual reworkings on mortgages really aren’t all that wide-spread and aren’t working very well), because I am.

Also, people who lose money on the stock market do get tax write-offs. They are quite lovely and I enjoy them come April 15th, even if it is a pain to dig up the basis.

Murdoc also owns the Wall Street Journal now, btw, along with Fox News.

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Kris September 5, 2010 at 9:45 pm

I recognize what Rupert Murdoc owns, your comment was also alluding to Fox News though, which is why I stated they were just ‘the messenger’.

This is something I think we are going to have to agree to disagree on. Sure, I can write off my maximum of 3,000 dollars in capital losses each year, and my neighbor can get a 100,000 dollar adjustment on their mortgage because their investment was poor. These people that get readjusted mortgages are also benefiting from the low interest rates. There is nothing saying that the people getting bailed out have poor credit scores- the people this bailout is helping are people that are current with their mortgage payments. They may also have an 800 credit score. So, they get a sweet new mortgage amount and a low interest rate. Again, from what I understand, this not just about foreclosures, but about people that are just underwater but are making their payments. In other words, the government created a loophole so people can walk away from their mortgages, and now they are making more great deals so MORE people don’t walk away from their mortgages.

Not sure I agree that the stock market is all fine and good now either. I know many people that had to push retirement off by years and years because they got decimated by the tech bubble. I know others that lost money to Lehman that will never recover.

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Joe Plemon September 6, 2010 at 11:24 am

You ask a great question: who does the government decide to bail out? I realize I am pretty simplistic, but it seems that drastically increasing the national debt for bailouts is like putting bandaids on deep wounds while simultaneously creating abscesses (debt we can’t possibly pay) that will be our ruin. Am I heartless? Not really, but I just can’t justify any bailouts we can’t afford. Like I said, I am simplistic.

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Kris September 6, 2010 at 1:54 pm

Joe, I am simple too. I don’t know why the government has to intervene so much. It seems like the government implements a plan, and then needs another plan to fix the results of the first plan. It is a never-ending process.

I don’t feel like I am a heartless person in the least. I feel like I am a responsible person. I am not perfect and I have made financial mistakes, no doubt about it. However, I am willing to accept my consequences.

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The Biz of Life September 6, 2010 at 1:14 pm

How does the government decide who to bailout? Easy. It’s all about trying to lock in more votes for the party in power, and about trying to look decisive in a crisis to convince the ones not receiving the benefits that they are worthy of their votes.

Personally, I wish the government would just get out of the housing market; they have created one helluva mess this go round trying to juice up homeownership with low interest rates and ridiculously low lending standards (thank you Fannie and Freddie). The government trying to place their finger on the scale one more time and change reality is just foolhardy. This is another black hole for taxpayer money. If people made a bad investment in the housing market, then they and the financial institutions that hold their paper should suffer the consequences. Market discipline works in the long-term, and serves as a deterrent to future bubbles. The housing market will reach equilibrium on its own without government intervention.

Why should taxpayer A who was prudent with their money and bought a house with a mortgage they could afford be forced to bailout taxpayer B who was foolish with their money? There is no guarantee that housing prices or stock market prices will always go up. Individual responsibility is a founding principle of this country that seems to be lost on many people. Each investor is also their own individual risk manager and if they fail in this job their financial lives will be very difficult.

This program will be a spectacular and expensive failure like similar housing initiatives attempted earlier in this administration. Will our government ever learn to stop trying to juice the marketplace?

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Kris September 6, 2010 at 1:48 pm

Biz, I believe many think this bailout is to essentially ‘buy’ votes. It isn’t buying my vote though. I am not seeing the economy in my area improving at all through all the great bailouts and stimulus. (However, you could also argue that things would be a lot worse without the bailout I suppose, but that is something you would never know.)

What I do know is that I am sick of being punished for paying down my mortgage. Well, I guess I am not punished in that I do have some security in that I have equity in my home. However, I bought a house smaller than what the mortgage broker told me I could afford and have watched my spending. On the other hand, many others have bought extravagant homes and have their hands out waiting for assistance because their gamble went bad, and it is frustrating. I am sick of bad habits being rewarded I suppose. (Or at least that is my opinion.)

I will say it again, I am all for helping the person who loses their job getting assistance to get back on their feet. But, from what I read, that is not who this bailout is aimed at helping.

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The Biz of Life September 6, 2010 at 2:01 pm

It isn’t buying my vote either. My house is paid for and I’m debt free because I’ve managed my money well and lived below my means my entire working life. This included buying a house for less than the max loan my banker said I could qualify for. I’m not sorry at all for doing this since I have peace of mind and security. Most of the social safety net programs essentially amount to transfers of wealth from people with good financial habits to people with bad financial habits. That might sound a little cold, and might not be true in every case, but it is true in the majority of cases.

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The Biz of Life September 6, 2010 at 1:21 pm

Overdose: The Next Financial is a good video outlining the dangers of bailout after bailout after bailout and can be found at http://thebizoflife.blogspot.com/2010/09/overdose-next-financial-crisis.html

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Budgeting in the Fun Stuff September 6, 2010 at 2:49 pm

If this is a necessary step to stabilize the economy, I really hope there is something fixed so it wouldn’t be necessary again in the future. As a person who successfully manages her money and believes that paying off a loan shouldn’t be dependent on whether my home depreciates or not, this is more than a little frustrating. I know you can’t make government decisions based on “fairness”, but I’m only human and this sucks.

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Carol@inthetrenches September 6, 2010 at 6:12 pm

Very good discussion. I was very pleased with the plan for the preliminary loan modification program but very disappointed in the results. On August 24 I did a post on the subject which contained a link (that took a long time to find) of the number of loans by bank. You can check it out and the links at http://inthetrenches2009.blogspot.com

Personally, I believe that the mortgage crisis was a planned strategy by the major banks to take property (and equity) out of the hands of people. If it looks like a duck… Before we figured out what was going on the dominos had been tipped. The programs since then have been designed to bring this back in balance and banks have either not cooporated or openly opposed the efforts. I believe that the intellegence of the heads of the corporations involved precludes them from saying “oops, it was an accident, we didn’t see it coming” Both the stock market near crash and the housing crisis had billions of dollars go into someones pocket. It didn’t disappear. It was real money from hard work the American people invested and real objects don’t just evaporate.

Yet, after all this we still do business with them under the motto of “too big to fail”.

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Kris September 7, 2010 at 10:59 am

Well, the government can now put on their resume that they have experience running housing markets and automotive companies. What will be next? Oh wait, hospitals and health care!

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Money Reasons September 6, 2010 at 10:45 pm

This is just bad government!

The November elections are getting close, and to me this feels an a lot like an attempt to buy votes in the middle segments of the U.S.

For the government to practice unfair policies like the one you mention above is just wrong. Actually, I thought a lot of the housing incentives were wrong too.

I didn’t pay my taxes and diligently paid off my mortgage to help those that bought more than they could afford, to get a bail out. People need to be responsible for their half million dollar homes that they may have bought during good times. I don’t want my tax money to go to them!

Sorry if I sound uncaring, but I don’t like how unjust the current government is. It just seems they don’t think or analyze what their policies will do to the economy in the future.

They are kind of nuts if you ask me 😉

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Kris September 7, 2010 at 10:58 am

Money Reasons – I guess we are both uncaring. Imagine the debt we will have in a few years. It will be staggering. You will be thrilled to own your own house though, and hopefully you will own a lot of gold too if inflation skyrockets.

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Money Reasons September 8, 2010 at 9:49 am

Yeah, I worry most for my kids, but maybe I should worry about myself too.

Who know, maybe in 10 years with “inflation gone wild” from the current (and past) government decisions… a loaf of bread will cost $150 dollars…

Perhaps we will all be minimalist and farmers. I think I’d be okay living that way (although I would miss the internet). Heck every year I think of trying to put in a garden anyway… Even it it’s one of those bucket ones…

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Kris September 9, 2010 at 9:05 am

Money Reasons – start that garden! There is nothing better than running outside to grab some veggies for a salad or whatever. It is remarkable rewarding, even though it really is a simple task.

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Sandy L September 7, 2010 at 6:21 am

The people I know who qualified for a home bailout were the absolute worst money managers. In essence I will be paying more taxes to fix their blunders. I waited til I had 20% down on a house, the others took out 0% loans or maybe put 5% down.

We bought my mom’s house at the peak of the market, 2005. It’s lost 1/3 of it’s value..but you know what? It’s not underwater because I have been paying extra on it. I also knew the market was crazy, so I bought something that was pretty cheap to begin with. I didn’t get a nice house. I bought a 110 year old piece of junk fixer upper for $50K less than comparable homes in the area.

I’m really not happy about this. I’m right there with Money Reasons. I don’t live in a McMansion and I certainly don’t want to subsidize someone else’s dream of having one.

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Kris September 7, 2010 at 10:56 am

Sandy – I agree about those that qualified were poor money managers. Sure some are victims of poor circumstance. Others worked the system, and others just blew their money.

Nothing like being rewarded for bad behavior!

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Khaleef @ KNS Financial September 7, 2010 at 2:00 pm

I think that you guys are right in saying that these bailouts are all about buying votes!

The housing market will be filled with inefficiencies as long as the government continues to unnecessarily intervene! We have to be willing to endure the pain that the market MUST endure, in order to avoid a full-scale disaster in the long-run!

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Kris September 7, 2010 at 9:53 pm

Khaleef – I think the government believes that these bailouts will avoid full-scale disaster, but I don’t think it will. As another commenter said, it is like putting a bandaid on a major wound. Sure, it may help a little, but long term, you might need some surgery…

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Kevin@InvestItWisely September 8, 2010 at 3:52 pm

Kris,

Something else that we can ask is “with whose money does the government bail out with?” The government can spend money in a few ways:

* It can tax people.
* It can borrow the money.
* It can simply create it.

No matter which option it chooses, someone has to pay for it, and trust me, it’s not the congressmen that will pay for it, nor will it be the people that pay the laws. It will be the common citizens who will ultimately end up footing the bill. I wonder how renters feel about this?

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Kris September 9, 2010 at 9:11 am

Kevin – I agree with you, someone will always pay for it in the end. However, I wonder if the government is spending it in the right way. For instance, if you have a billion to spend, is it better to bail out homeowners, or put it into inner-city schools to try to better educate the kids? One is a short term solution, the other long term. I just think that if there is money to be invested in the US economy, there are better places than investing in homes that are not even in financial trouble yet.

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Kevin@InvestItWisely September 9, 2010 at 11:49 am

With that choice, I would try to help the inner city kids myself, but I would put 0% trust in the government to do a good job of it.

Instead, I would put the money directly in the hands of the parents in the form of school vouchers, and let them send the kids to any school they wish, no matter where. If the community wanted to start their own school run by community members, I would support that.

One of the problems of the school system is that there simply is no competition between schools. They all teach the same things in the same way. If you live in a wealthier area, you may get better service, but there is really no guarantee that you’ll get teachers that actually give a damn.

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Debt settlement Attorneys October 27, 2010 at 4:24 am

Every plan has got some good and bad effects but isn’t it necessary to accept that the government is at least taking the initiative to ease out the people who are struggling with their finances.

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refinance mortgage January 23, 2011 at 7:27 am

Look at their connection in the administration. Goldman Sachs is a good example. They did not need to be bailed out, but they liked the money than and they find that directors wages will be limited they just paid back.

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Mortgage Refinance August 13, 2011 at 3:57 pm

I believe what government does to relieve people in financial bases is fine, but of course every plan has also bad effects.

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