Best of the Exchange: Walking Away, Three Bs and Into the Woods!
Minyans weigh in on Wall Street volatility.
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(Editor's Note: Some of the following posts have been modified slightly from their original form.)
Professor Shedlock took on the sensitive subject of homeowners walking away from burdensome mortgages, and Minyans discussed the implications of this troubling trend.
Mish, you are right that when people bought these overpriced houses, both lender and buyer knew that the house was overpriced and the payment was artificially low. BUT, both expected the market to keep going up and the buyer was making a bet that would pay off big if it did. They lost that bet. Why should they be exonerated from the obligation of paying their loss? Why should the bank be required to assume all of the loss -- there were two parties to that contract.
Whatever the law says, if we allow people to 'walk away' from contracts in this country with no downside effect, we are destroying the basis of contract law which is what all legal commerce is based on. If you can't trust the counterparty with whom you make an agreement, not to 'walk away' from that agreement when he doesn't like the effect of his side of the bargain, there is no basis for trade. That's a country I don't want to live in or do business with.
I did walk away, and while I wish I could of done something different, I chose to walk.
Franky in my situation, a couple Mortgage bankers (now Bankrupt) put me in the position of siging away my financing contingency under the pretense of a solid loan to finance a property here in California.
However, when I sat down to sign the loan it was completely different then what I had been told the terms were. It was one of those Countrywide specials with a lousy rate and a three year pre pay penalty of 25K. I ether could sign at that point or lost my title deposit of 22K.
So from were I sit, the folks in the banking industry played it risky and got was was coming to them.
The question is where to draw the line in terms of personal responsibility.
Banks have an obligation to price money relative to the risk that it won't be paid back. Debtors have an obligation to borrow what they know to be reasonable and to pay it back on time.
Both parties are obligated to make full and fair disclosure.
The previous three years saw both banks and borrowers fail to live up to their respective standards of responsibility. Society cannot operate without some basic level of trust. Trust is a function of truth. The more the truth is bended, the more unstable the system becomes. When it gets to the point that everyone trusts no one, the system collapses.
And so is has been. And so it will be.
Mr Practical would rather trust the free markets than the government to sort out problematic issues, and that government meddling prevents markets from removing imbalances required for healthy growth.
Engineers who design dams and bridges think in terms of 100 or 1000 year floods. They're always thinking about the "what ifs" and how to compensate for them.
Eventually, when enough water falls from the sky and the force becomes too great for the containment, the water breaks free, finding its own way through or around your obstruction.
The truly brilliant hydrologist understands this concept and provides escape paths for the overflow, saving his creation from total destruction.
He/she also understands that the longer you hold water back, the greater the destructive force becomes. Eventually, your structure collapses and catastrophic damage ensues.
Sound like anything you know?
I agree that the Fed has made it's share of mistakes and its dual mandates of price stability and maximum employment are of questionable long-term value.
On the other hand, the Fed does have an important role to play even if sometimes they don't do it well. In recent years, for example, I suspect the way the CPI is calculated encourages the Fed to keep rates lower than it should. If the Fed had tightened sooner we might have avoided the housing bubble or at least stunted its growth.
That said, though, the Fed has had a important role (until recent years) in helping prevent the extreme leveraging of risk that causes economic meltdowns. I don't think our current problems are because of the Fed doing its job, but because the Fed was NOT doing its job.
The Fed has blundered, but I wouldn't be too quick to throw out the baby with the bathwater.
Government and political intervention stretches far beyond just the Fed and monetary policy. In the United States, we love to talk about our freedoms (and certainly we have more than most places on earth) but in our country, the government determines the currency and what it's worth, tells us how to educate our children, forces us to pay into the government-sponsored retirement plan, and is gaining increasing control over health care. The list could go on and on.
The idea behind this, of course, is that politicians are smarter than us and know better than we do how to allocate resources. Most times, however, aren't government institutions the worst, most inefficient places on earth?
I would probably agree that free markets are not perfect, but aren't they certainly better than the alternative?
Professor Depew's always though provoking Five Things saw a woeful ISM survey sending bulls and bears alike back into the woods. Next thing you know we're talking about Zen and the Art of Motorcycle Maintenance!
Kevin, great article. What would be a great subject to discuss is the elasticity of sectors to disposable income and the willingness to spend there.
My hypothesis is that people will be scared enough by this deflationary cycle that it will change behaviors regarding all the services they buy. Reviewing my already prudent budget shows our family can easily lop off another 14% of spending with only mild inconvenience if push came to shove. I suspect I am on the low side here in So Cal.
I would like to see some real studies or evidence of such an incredible change in human behavior. One can find articles anywhere to support any thesis these days.
I just can't wrap my mind around everyone reading 'Zen and the art of motorcycle maintenance' and immediately tossing all material goods.
This dramatic shift may happen, but it might take much longer than you seem to believe, perhaps so long that it doesn't matter to you and I. Human greed is deeply ingrained. Inertia is a powerful force. Keep an open mind. Remember it is a theory, not fact.
I think we are closer in agreement than you think.
You are correct that no one is going to simply stop buying goods overnight. Or next year. No one really much noticed how far our credit appetites expanded throughout the 1980s and 90s.
Similarly, I think this change could take just as long to play out. And this is most certainly just a theory, not fact. It could certainly be wrong.
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