Two leading economists weigh in on housing

The drop in home equity values continues to be a major drag on consumer spending.  Also, as more and more homes go into foreclosure, there appears to be no end in sight.  Last week two leading economists from opposite ends of the political spectrum published op-ed columns suggesting some outside the box thinking. 

Marty Feldstein headed the Council of Economic Advisors under Reagan.  In an NYT op-ed, he offers up a plan where the government would write down mortgage principal when it exceeds 110 percent of the home's value.  The government and the holder of the mortgage would split the costs of the writedown.  The homeowner would face the loss of other assets (cars, bank accounts) if there was a subsequent default.  This would be a wash for the government because it already is on the hook for the loans via Fannie and Freddie.  The mortgage holder trades off a loss in return for greater odds of repayment.  All of this would be voluntary. 

Alan Blinder served on the CEA and the Federal Reserve Board under President Clinton.  In his WSJ op-ed he also argues that a program for mortgage writedowns needs to be developed.  He also thinks that steps should be taken to make it easier for homeowners to refinance and that incentives be given to turn vacated houses into rental units.  The politics would be messy because so many oppose bailing out individuals who took on too much debt.  Feldstein, as strong a believer in free markets as one is likely to see, thinks that something needs to be done. 

But failure to act means that further declines in home prices will continue, preventing the rise in consumer spending needed for recovery. As costly as it will be to permanently write down mortgages, it will be even costlier to do nothing and run the risk of another recession.