It didn't get much attention, but on Wednesday the Obama administration announced its latest initiative to encourage more risky mortgage lending by cutting the insurance premiums the Federal Housing Administration charges for low downpayment loans. These steps could save you a lot of money if you're in the market for a highly leveraged loan. And that should mean more business for banks and homebuilders. It also means a somewhat higher risk of a replay of the housing finance catastrophe we saw unfold in 2007 and 2008.
Welcome to the struggle to revive subprime lending.
FHA premiums cut
The way this works is that the Federal Housing Administration is willing to insure various classes of risky loans. The insurance means banks will get paid back even if the homebuyer isn't able to repay the loan. The availability of insurance makes banks willing to offer loans at cheaper rates than the objective risks involved would allow. But the FHA doesn't offer the insurance for free. Instead, they charge a premium that gets tacked onto your monthly mortgage payment.
The idea is that the premium should be high enough to cover the cost to the government of offering the insurance, while still being low enough to offer a net subsidy to risky lending. How does that work? For a long answer, read our explainer on federal credit programs. The short answer, however, is that this magic is possible because the US government can print money.
What the Obama administration did is cut the premiums charged on low downpayment loans. If you make a downpayment of at least 5 percent of the purchase price of the house, your annual insurance premium will be cut from 1.3 percent of the value of the loan to 0.8 percent. For riskier loans with less than 5 percent down, the payment is cut from 1.35 percent to 0.85 percent.
How much money will people save?
The White House says, broadly, that about 800,000 people should see lower payments as a result of this initiative and perhaps 250,000 more people will borrow money and buy a home under the new rules.
The real estate mavens at Zillow offer these calculations on the money involved.
This is not an earth-shattering amount of money, but a few hundred extra dollars in the pocket per year is nice.
What's the downside?
None. None whatsoever. I mean, using the federal government to offer non-transparent subsidies designed to encourage risky mortgage lending by assuring banks that in the event of a huge disaster and a massive wave of defaults and foreclosures it's Uncle Sam who'll pay the tab — what could go wrong?
The whole thing is a reminder that even as much of the plumbing of the financial system has been overhauled through the under-appreciated Dodd-Frank bill, the fundamentals of housing policy remain broadly similar. Rather than increasing the supply of houses as the key means of generating housing affordability for the middle class, policy consistently aims to find innovative new ways to get people deeper in debt. As long as house prices go up, that's a sustainable cycle. But the pain during downturns is severe.