The government-imposed lockdown of the economy has proven to be a significant misstep. While the threat of Coronavirus persists, the economic fallout from these restrictions has been devastating.
Take the housing market as a crucial example. According to a report from Black Knight, 4.3 million homeowners in the U.S. were more than 30 days late on mortgage payments in May. Alarmingly, over 8 percent of all mortgages across the country were either delinquent or in foreclosure.
The sequence of events is straightforward: first, the government shut down the economy; second, approximately 47 million individuals filed for unemployment over a span of 14 weeks; and third, many ceased paying their mortgages.
In California, the situation is similarly bleak. In May, an estimated 6.85 percent of mortgages were classified as “non-current.” This category encompasses both missed payments and those in the foreclosure process. When the year began, only 2.1 percent of California mortgages fell into this category, illustrating a staggering 228 percent increase in just six months. Nationally, the rate stands at 7.76 percent.
The troubles in the housing market vividly illustrate the fallout from an overextended economy. With many individuals heavily in debt, even a slight disruption in cash flow could lead to a collapse of this precarious structure. Ironically, this predicament is exacerbated by government policies.
What Comes Next?
The intertwined workings of Fannie Mae and Freddie Mac, government-sponsored enterprises, create a continuous demand for mortgages. These entities acquire mortgages from lenders and either hold them or repackage them into mortgage-backed securities (MBS).
Recall that during the 2008-09 financial crisis, Fannie and Freddie received a bailout amounting to several hundred billion dollars. Now, just over a decade later, whispers of another bailout are surfacing, with the CARES Act serving merely as a preliminary measure.
As highlighted earlier, the fundamentals of mortgage payments have quickly deteriorated. In the coming months, we can expect a progression from late payments to outright defaults and foreclosures.
Undoubtedly, a significant bailout will be on the horizon. However, this initiative will encompass more than just Fannie and Freddie or the major banking institutions. This time, it involves a desperate attempt to combat the escalating crisis of homelessness and poverty in America. But what will follow?
Few have contemplated the potential ramifications of yet another large-scale bailout. Will it trigger inflation? What will be its effect on the economy? On the stock market? How might it influence gold prices or the yield on the 10-Year Treasury note?
These inquiries do not yield straightforward answers. We have pondered them for years without arriving at satisfying conclusions. The best approach is to reference past occurrences, evaluate present circumstances, and speculate on potential future impacts.
How the Bottom Up Bailout Will Impact the Future
The mortgage bailout of 2008-09 kicked off a significant bull market in U.S. stocks. This was partly due to the Federal Reserve lowering the federal funds rate to zero and exchanging cash for toxic assets from securitized mortgage debt, effectively injecting liquidity into the financial system.
The future is approaching rapidly. Yet the pivotal question remains: what kind of bailout will the Fed, in collaboration with the Treasury, orchestrate? Will it mirror the top-down approach of 2008-09, or will it adopt a fundamentally different strategy?
We believe this time will be profoundly different. The political landscape no longer allows only government-sponsored enterprises and large banks to benefit from a bailout. The public has recognized the Fed’s monetary maneuvers and is demanding their share of support.
Thus, this impending bailout will be more grassroots in nature. The Treasury may issue cash stimulus checks or directly credit bank accounts of renters and homeowners, ensuring they also benefit from government intervention.
Fannie and Freddie currently have CARES Act programs designed to assist those affected by the COVID-19 pandemic, including a moratorium on foreclosures and evictions until at least August 21, 2020. Notably, this moratorium has already been extended twice, and it may continue to be prolonged until the government starts distributing monthly stimulus checks to the American people.
We anticipate that this type of bottom-up bailout will be less beneficial for stock prices. However, it could lead to a more pronounced rise in consumer price inflation, diminishing the dollar’s purchasing power in relation to real goods and services, ultimately straining American living standards.
Moreover, the idealistic vision of a government that covers everyone’s rent, mortgage, education, and basic needs may not be as flawless as portrayed. History has shown that such ambitious endeavors often culminate in disappointment.
Sincerely,
MN Gordon
for Economic Prism
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