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In their much-praised new book, House of Debt, economists Atif Mian and Amir Sufi argue the 2000s housing crash caused a much worse recession than the tech-stock crash because asset losses were more heavily concentrated among the 99% — who then stopped spending. The burst Internet stock bubble, on the other hand, “concentrated losses on the rich, but the rich had almost no debt and didn’t need to cut back their spending.”
Which raises the following counterfactual: what if Washington had pushed massive relief for underwater homeowners?
Former Obama Treasury Secretary Timothy Geithner doesn’t think something like a principal reduction scheme would have helped much. As he wrote in his new book, Stress Test: “We did not believe, though we looked at this question over and over, that a much larger program focused directly on housing could have a material impact on the broader economy.”
Mian and Sufi disagree. Their research suggests $700 billion in principal forgiveness of underwater mortgage debt in 2009 would have produced a $126 billion spending boost. And that is just the direct economic impact. In addition, write-downs “would also have had the indirect positive effect of drastically reducing foreclosures and the associated negative effects of foreclosures on the economy.”
Along the same lines, Columbia University economists Glenn Hubbard and Christopher Mayer cooked up a mass refinancing plan a few years back where homeowners with a GSE mortgage could have refinanced their mortgage with a new mortgage at low rates. This could have helped as many as 30 million borrowers save $75 billion to $80 billion a year for the duration of their mortgage; in effect, a long-term tax cut.
And there was this proposal from economist Martin Feldstein: “To halt the fall in house prices, the government should reduce mortgage principal when it exceeds 110 percent of the home value. About 11 million of the nearly 15 million homes that are “underwater” are in this category. If everyone eligible participated, the one-time cost would be under $350 billion.”
But the Geithner “save the banks, save the economy” view, as Mian and Sufi put it, won over President Obama and the day. Mian and Sufi: “The fact that Secretary Geithner and the Obama Administration did not push for debt write-downs more aggressively remains the biggest policy mistake of the Great Recession.”
Back to the counterfactual: imagine a plan like the ones Feldstein, Hubbard, and Mayer proposed, along with a Fed that was far more active in supporting spending starting in 2008. And now imagine no TARP and no stimulus. Under which scenario does the economy perform better?