ElectionWatch: Clinton's Rate Foreclosure Freeze Could Cause 'Chaos'

     The Democratic presidential race is still going strong and both candidates have latched on to the housing market as a key issue. Both want to bail out mortgage holders, but the news media have given little in-depth attention to concerns about either plan. Warnings that Hillary Clinton’s proposals could devastate the economy have gone almost unnoticed.

     Clinton (D- N.Y.) has proposed a 90-day moratorium on foreclosures and a five-year interest rate freeze.

     “On the nation’s credit crunch, she [Clinton] stood by her proposal to declare a 90-day moratorium on mortgage foreclosures and a five-year interest rate freeze on existing, adjustable-rate mortgages, despite withering criticism from economists – and from Obama – that the plan would wreck the housing market and send new mortgage rates into the stratosphere,” The Washington Post reported February 22.

     That “withering criticism” could have come from Jerry Bowyer, chief economist of Benchmark Financial Network. “It would be a trigger event which would set off chaos in every financial market of consequence on planet Earth and would be a disaster for the U.S. economy,” Bowyer told the Business & Media Institute.

     Yet when NBC’s Tim Russert interviewed Clinton for “Meet the Press” January 13, he did not challenge the senator’s claim that “What I have proposed would begin to stabilize the situation as it is today.”

     The Economist magazine termed Clinton’s plan “deeply unsound” in its March 1-7 issue and said it “would surely result in higher rates and scarcer credit for future borrowers.” Even Washington Post business columnist David Ignatius called the moratorium “one of the truly bad ideas of our time” in a piece on February 21.

     In contrast, Sen. Barack Obama (D-Ill.) has said he wants to offer $10 billion in bonds to homeowners and give them a tax credit. While both plans have been mentioned by many news print and broadcast outlets, there has been little explanation of the potential economic consequences.

     “This seems to be the only area where Obama is not as far to the left as Hillary,” said Bowyer. “The downsides are still there, though: bailing out people for high-risk behavior encourages them to do it again – economists refer to this as ‘moral hazard.’ Also, of course, this is tax money taken from productive uses in the private sector to buy votes from people who don’t like to pay their debts. So, not a very good idea, but nothing like the disruption to capital market transactions under the Hillary plan.” 

     The Washington Post highlighted the candidates’ “protections” for “struggling working-class voters,” including tax increases on others, on February 24.

     “Especially important in Ohio, both Democrats have foreclosure relief plans. Obama’s offers $10 billion in bonds to help homeowners avoid foreclosure. He also would give a tax credit to struggling homeowners to cover 10 percent of the interest on their mortgages each year. Clinton would temporarily freeze foreclosures and interest rates on adjustable rate mortgages,” wrote the Post’s Michael Fletcher. The article didn’t include any questions about the plans.

     The New York Times reported from the campaign trail in Ohio on March 4. “Their [Clinton and Obama] speeches are also brimming with pledges to revive industry and halt foreclosures …” wrote Andrew Jacobs. Jacobs’s story didn’t explain what Clinton or Obama planned to do in order to “halt foreclosures,” or offer any analysis or criticism of the plans.

     Dr. Gary Wolfram, a professor of political economy at Hillsdale College and a BMI adviser, was critical of both plans. Clinton’s plan, he explained, would dry up credit and “put downward pressure on housing prices which is exactly what they don’t want to.” 

     Obama’s plan wasn’t quite as bad, “so he would just steal from us,” said Wolfram sarcastically. “I saved and paid my mortgage off. So now I would be taxed” to pay for people who couldn’t afford their houses, he continued. “That’s fair.”

Bush plan ‘not enough,’ Clinton plan ‘more interventionist’

     Clinton’s and Obama’s proposals came after the Bush administration’s own efforts with “Project Lifeline” and “Project Hope.” Project Lifeline included a voluntary 30-day foreclosure delay for seriously delinquent borrowers – with six lenders who agreed to the terms. Project Hope, upon agreement with the same six lenders, would freeze adjustable rates for five years on “some subprime loans.”

     That voluntary freeze was criticized in the press as not going far enough.

     CBS’s Bill Plante also knocked the Bush plans. According to Plante’s February 12 “Early Show” report, “This may not be enough. Last year, 4 percent of even the good mortgages, the prime mortgages, were overdue. Consumer groups say you need more. Consumer groups would rather have these refinanced at lower rates.”

    A New York Times editorial also complained about the Bush plan – from the left. The editorial called the plan “flawed it its scope.”

    “And since it is voluntary, if it doesn’t work, there is nothing the administration can do,” continued the Times editorial on February 11.

     The Obama plan was also criticized in the Los Angeles Times as “too marginal.” The newspaper wrote on February 21, “Economists question whether Obama’s $10-billion ‘foreclosure prevention fund’ would cover the thousands of Americans who already have lost homes and the thousands more who are in danger.”

     Then the LA Times quoted economist L. Josh Bivens of the liberal Economic Policy Institute, who called Obama’s plan “a drop in the bucket.” But at least the paper included Obama’s criticism of Clinton’s plan, which he termed “disastrous.” Obama’s criticism was that it would benefit “people who made this problem worse” – banks and lenders.

     According to Austan Goolsbee, the lead economic advisor to the Obama presidential campaign, the senator “has not opposed freezes on rates or freezes on foreclosures … He has, however, emphasized that we should not give blanket freezes to everyone such as to the people who have made this problem worse.”

     But Peter Schiff, president of Euro Pacific Capital, said freezes have the opposite problem. In the January 21 International Edition of Newsweek, he said mortgage freezes don’t benefit lenders; rather, they “unilaterally shift the financial pain to lenders.”

     Schiff was specifically criticizing the Bush administration’s freeze, but concluded that “damaging as the plan may be, it is nothing compared with what some presidential candidates and members of Congress are cooking up.”

     Prominent economist and columnist Walter Williams agreed.

     “President Bush’s plan to deal with the subprime crisis is to freeze interest rates on adjustable rate mortgages. Freezing interest rates would stop people’s mortgage payments from increasing. That is a gross violation of basic contract rights and would appear to be a Fifth Amendment violation,” Williams wrote in a January 23 column.

     “The long run effect of the Bush plan is to make lending institutions even more selective in choosing borrowers,” Williams wrote. “Then there’s the question: If government can invalidate the terms of one kind of contractual agreement where the borrowers can’t pay, what’s to say that it won’t invalidate other contractual agreements where the borrowers encounter hardship and what will that do to financial markets?”

     Williams was talking about Bush’s plan, which was a voluntary agreement with lenders. A mandatory rate freeze, like Clinton’s proposal, merits even more scrutiny.

     “A mandatory program would have some real constitutional problems,” said Ted Frank, an attorney who directs the Legal Center for the Public Interest at the American Enterprise Institute. He said Clinton’s proposals sounded like “rewriting contracts after the fact,” which would “damage the credibility of American financial markets.”

     “The Clinton plan rewrites contracts that would not have been offered at all had the lenders known that the government would be dictating the interest rate later,” Frank said.

     Wolfram added that undermining contracts could have economic consequences.  “Markets don’t work real well when you don’t have contracts,” Wolfram said. “Sanctity of contract is really what came out of the Middle Ages.  That’s why England became the center of the Industrial Revolution because it had rule of law and it had contract law. That’s why people wanted to trade in England. This little island in the middle of nowhere becomes the center of world commerce. People liked to trade there because they knew they would protect their contract.”

      That would become an ongoing problem, he said. “Once you set the precedent, how do I know you’re not going to come along and violate other contracts? If you want to do it that way – that’s fine.  The market will respond, housing prices will go down, people will be foreclosed on – they can’t sell their house. And all the people that thought they were going to be better off are going to find out that they’re worse off.”

‘More Aggressive’ Plan Could ‘Destroy’ Lending

     The news media did occasionally admit flaws with the Clinton plan, but certainly understated them.

     CNBC’s Carl Quintanilla called “the risk” of Clinton’s “more aggressive” plan the fact that “freezing interest rates may scare lenders away.” NBC “Nightly News” February 25.

     According to Don Luskin, the chief investment officer for Trend Macrolytics LLC, the freeze wouldn’t simply “scare lenders away” – it would “destroy an industry.”

     “Right now the mortgage lending business in this country is in the process of shutting down. And you do this to it you’re going to kill them. They’ll never come back,” said Luskin, “so that’s going to actually worsen the crisis it is designed to ameliorate.

Staff writer Jeff Poor contributed to this report.