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Friday, March 11, 2011

Principal Reduction Will Not Cure What Ails the Housing Market

Research by the Federal Reserve Bank of Atlanta states that mortgage principal reduction as a cure for what ails the housing market has serious logical flaws.

The Obama Administration, in conjunction with the state attorneys general, have floated a settlement agreement that would have large mortgage servicers write down borrower principal balances by $20–$25 billion to address procedural problems in foreclosure filings.

The problem with the principal reduction argument is that it erroneously assumes that all borrowers with negative equity will default on their mortgages. This clearly is not supported by the empirical evidence. Many homeowners with negative equity continue to make their mortgage payments.

The research concludes that "only the borrowers have all the information about whether they really can or want to repay their mortgages, information that lenders don’t have access to."

Read The Seductive But Flawed Logic of Principal Reduction.

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