Category Public Policy

Justice Sotomayor’s Supreme Court Nomination and Janet Yellen

Danny Vinik 1 Comment

During my brief vacation last week, I read Jeffrey Toobin’s excellent new book The Oath that examines President Obama’s complicated relationship with the Supreme Court. The book gives a background of the justices and analyzes the major cases brought before the Court over the last couple of years. One passage in particular, on Obama’s consideration of Sonia Sotomayor for an open spot on the Court, struck me:

He sensed an authenticity in [Sotomayor], and no one had to remind the president of the political appeal of appointing the first Hispanic to the Supreme Court. If he had a chance to make history in this way, with an impeccably qualified nominee, Obama was going to do it.

What major appointment will Obama make in the near future that has an impeccably qualified nominee who would make history as well? Janet Yellen to head the Federal Reserve of course! The Supreme Court and the Fed are certainly different institutions and Obama has clearly shown an affinity to Larry Summers that he did not have for the other prospective Supreme Court nominee, Diane Wood. But the similarities are still striking.

Meanwhile, more reports are floating around that Obama is leaning towards Summers for the job. As I’ve said before, I’m very skeptical about any reporting on who the next Fed Chair will be. Maybe it’ll be Summers. Maybe Yellen. We’ll know in a short time. The decision will be kept under lock-and-key until the President announces his choice. Until then, we can hold out hope that Toobin’s intuition on Obama’s Supreme Court nominee holds true for his Fed Chair nominee as well.

Eminent Domain and Fair Value

Danny Vinik 2 Comments

It’s a slow news day so I’m going to return to my favorite pet subject: the use of eminent domain to help underwater homeowners. As regular readers know, I believe eminent domain could be used to help such borrowers, but the current plan being implemented in Richmond, California is outright fraud. Most analyses of it that I’ve seen have come to a similar conclusion, but University of Georgia Professor Stephen Mihm wrote a defense of the proposal last week. The piece is actually very good – particularly the history of the use of eminent domain to seize intangible assets (like mortgages). But Mihm misses the reason why Richmond’s plan is such a rip off. He writes:

Richmond’s plan is to seize 624 mortgages valued at more than the homes for which they were written. Relying on a private intermediary, the city would compensate the investor holding a mortgage at a price reflecting the home’s current value rather than an inflated bubble value.

This is the problem. Investors don’t own these homes – they own the mortgage-backed securities associated with him. Those MBS are not worth what the value of the home is. They are worth a certain amount depending on the future stream of payments from the mortgage, the initial par value of the loan, the current value of the home and the likelihood that the borrower defaults. In fact, the worst case scenario for investors is that the homeowner defaults immediately, they foreclose on the home and they only recoup the current value of the home. Thus, the minimum value of the MBS is the current home value. The actual value of the MBS is well above that. Yet, Mihm is arguing that paying those investors the current value of the home is fair value. It’s not at all.

Mihm concludes his piece by saying:

Yet to listen to the hysterical denunciations of the Richmond plan, a proposal to bring 624 mortgages in line with market prices is the epitome of eminent domain abuse. History suggests otherwise.

It may not be the greatest abuse of eminent domain, but it certainly is abuse. The private firm supplying the capital to purchase the securities – Mortgage Resolution Partners (MRP) – makes a tidy profit by buying the securities as well-below fair value. That’s the definition of abuse.

What makes this even worse is that eminent domain could be used to help those borrowers. Richmond would have to pay investors fair value for their investments – and they probably would still file lawsuits against the town – but the plan could work. Unfortunately, using eminent domain in this fraudulent manner prevents it from ever taking off in a legitimate one.

The Housing Recovery Has Stalled

Danny Vinik Leave a comment

Over the past year, everyone has come to agree that a housing recovery is happening. It wasn’t happening everywhere, but overall , the country was seeing a housing revival. But over the past couple of months, this recovery has started to stall and most people haven’t noticed yet.

Look at housing starts:

Housing Starts.
Housing starts increased from the end of 2011 through most of 2012, but have since fluctuated between around 850,000/month and 1,000,000/month. In fact, starts are in a downward trajectory the last couple of months. In July, single-family housing starts fell 2.2%, against expectations of growth, to reach their lowest levels since November of last year. The data may be noisy, but the overall trend in 2013 is clear: housing starts have stalled.

So far, it’s not clear that people have noticed. Take Wonkblog’s Neil Irwin, who wrote about housing starts last week. He noted the dual forces of increased housing starts and rising mortgage rates, concluding:

But the July data is the first real evidence we’ve seen of whether higher mortgage rates will affect the housing industry more broadly. And the early signs, at least, are that builders are not being scared off by higher mortgage rates that make the houses they sell less affordable.

The data seems to tell the exact opposite story.

As Irwin notes, interest rates have risen dramatically since May:MortgageSince then, housing starts have fluctuated. The increase in July was just the result of a poor result in June. Housing starts are still below there May level. So, as mortgage rates have risen, are builders “not being scared off”? The answer is unclear. It’s certainly, not a “yes,” as Irwin writes. It’s also only a couple of months of data. But it’s worrisome data at that. The economy is already recovering at a tepid place and a slowdown in housing would further reduce it.

This is yet another fundamental reason that President Obama should nominate Janet Yellen to head the Federal Reserve. Yellen is more dovish than Larry Summers and at least one economist believes the recent rise in rates is because Wall Street fears a Summers-led Fed would reduce asset purchases faster than a Yellen-led one would. If Obama does select Summers and interest rates rise, it could lead to even further contraction in the housing market and hamper the recovery even more. Given the recent data, that’s not a risk the President should take.