Subprime Rescue – Where It Will End Up

Yves Smith at Naked Capitalism notes a flaw in Paulson’s Subprime Rescue Plan:

…you still have to evaluate borrower ability to pay. There is no way around it. It has to be done on a case-by-case basis.

OldVet sends me an e-mail on this topic:

Quote from Vice Chairman of the Federal Reserve Board, Mr. Donald Kohn, Nov. 28, 2007. The link is here FRB: Speech–Kohn, Financial Markets and Central Banking–November … .

To be sure, lowering interest rates to keep the economy on an even keel when adverse financial market developments occur will reduce the penalty incurred by some people who exercised poor judgment. But these people are still bearing the costs of their decisions and we should not hold the economy hostage to teach a small segment of the population a lesson.

“Still bearing the costs of their decisions?” Are you kidding? This is an unusual admission that events in financial markets rather than fundamental economic markets are now influencing Fed thinking about whether to lower or keep short term interest rates. What is likely to happen?

If I’m reading the tea leaves correctly, the Fed will lower rates enough so most mortgages don’t “reset” to higher contractual rates that were part of the mortgage agreements. There are other indicators as well that US, Banks Near A Plan to Freeze sub-prime mortgage resets. The Treasury Department is elbow deep in that deal. The deal is also making some analysts cranky as wolverines on a diet.

How are the men and women who were more modest in their financial dealings, and are renting in order to save up a down payment? How about the tens of millions of Americans who bought their house, have made their payments through thick or thin, and who paid attention to the loans they borrowed? How are houses going to become more affordable if the US government props up prices? The US government is certainly doing nothing to increases wages and incomes, which is a much sounder path to health in the housing market.

Here’s the plan, ladies and gentlemen: A government sponsored program. Banks continue to accept “teaser” rates of 2%-5% but beg Dubai to invest and agree to pay Dubai 11%, as did Citibank. Does paying 11% and receiving 5% make sense, unless the Treasury Department is going to offer a bailout to “cooperating banks?”

Once you start the programs and bailouts, where does it stop? Key clue: Who’s running Washington?

I’m probably more cynical than Yves Smith and OldVet put together. And I’m pretty sure how this is going to turn out. Those who made loans they shouldn’t have will get big tax breaks. Those who bought loans they shouldn’t have will get big tax breaks. Those who took out loans they shouldn’t have and manage to keep their homes will get big tax breaks. (Those who took out loans they shouldn’t have and don’t manage to keep their homes – well, they’re being uncooperative, right?)

Those who in no way knowingly or directly participated in this mess will get… the bill for the tax breaks.