Economic policymakers continue to fight an uphill battle against the forces that threaten to tip the economy back into recession. The new jobs initiative from President Obama faces stiff resistance in Congress, and Federal Reserve officials are beset by internal conflict and a dwindling basket of options. In the meantime, one powerful policy option remains dormant, despite several recent studies that show its potential to lift the economy.
The Federal Reserve is widely expected to embark on new efforts to lower long term-interest rates at this week’s policy meeting on Sept. 20-21. The problem is that the housing crisis is blocking a traditional avenue by which lower interest rates have lifted the economy in the past: Despite historically low mortgage rates, homeowners cannot refinance because their mortgage exceeds their home value and because the refinance process is cumbersome and costly. “We believe that efforts to unclog the mortgage refinancing pipeline would have the most bang for the buck,” says Morgan Stanley economist David Greenlaw.
“The bottom line is that market conditions have
created a potentially costless windfall that is not
As of June, more than 75 percent of Fannie Mae and Freddie Mac mortgages with 30-year fixed rates have a rate of 5 percent or more, while market rates have been at or below 5 percent for two years, says a new study by mortgage consultant Alan Boyce and Columbia University economists Glenn Hubbard and Chris Mayer. With current mortgage rates just above 4 percent, normal credit conditions would have created three times the current amount of refi activity, they say, which means tens of millions of homeowners are not taking advantage of a historic opportunity. The authors offer a plan they say could reduce mortgage payments by about $70 billion that would act like a long-lasting tax cut for some 25-30 million homeowners.
The basic idea is that the principal value of mortgages backed by Fannie and Freddie are already guaranteed by the government. However, the refi process is fraught with disincentives, including regulations that increase borrowing rates, bank premiums for riskier borrowers, complications from second-mortgage holders, and unnecessarily high closing costs. Several studies show that simply recognizing the implicit loan guarantee could eliminate these inefficiencies and facilitate a streamlined refi process that could have a major economic impact. “The bottom line is that market conditions have created a potentially costless windfall that is not being used,” Morgan Stanley’s Greenlaw wrote in a note to clients last year.
Policymakers share a new urgency that more efforts are needed, but they continue to take a broad focus, with no mention of refi reform in Obama’s plan. House Republicans are sure to pick apart Obama’s $447 billion American Jobs Act, but a return to their bull-headed approach during the debt-ceiling debate seems unlikely. In an NBC/Wall Street Journal poll on Aug. 27-31, 71 percent of Americans had an unfavorable opinion of the way those negotiations were handled. In a speech on Sept. 15, House Speaker John Boehner was critical of Obama’s plan but in a much less strident tone.
Even without any GOP opposition, would Obama’s jobs act lift job growth? Based on the plan’s likely impact on GDP, the answer is yes. Analysts at J.P. Morgan say that if the package were passed in its entirety it could add 1.9 percentage points to economic growth next year. That boost would more than offset the 1.7 percentage point drag that would result from programs set to expire at the end of 2011, the waning stimulus from the 2009 Recovery Act, and the spending cuts from the debt-ceiling deal.
Morgan’s current forecast of only 1.2 percent GDP growth in 2012 assumes no new fiscal stimulus next year and thus includes that entire 1.7 percentage point drag. Morgan’s Michael Feroli says the boost from the entire Obama package would lift Morgan’s forecast to 3.1 percent. If so, that pace would be consistent with stronger payroll gains in 2012 than in 2011.
That’s a lot of ifs, but the analysis makes a key point: Whatever fraction of Obama’s jobs bill that Congress does pass will offer an important offset to the fiscal drag that would otherwise weigh heavily on an already fragile economy next year. Half of that 1.7-point drag on growth next year would come from the expiration of the 2011 payroll tax cut and the end of emergency unemployment benefits, programs that are extended and expanded in Obama’s plan.