CEPR - Center for Economic and Policy Research


En Español

Em Português

Other Languages

Home Publications Blogs Beat the Press Martin Feldstein Strikes Out Again: Big Time

Martin Feldstein Strikes Out Again: Big Time

Thursday, 13 October 2011 07:41

Harvard economics professor Martin Feldstein, who made himself famous by predicting in 1993 that Clinton tax increases would not raise any revenue, strikes out big time in his proposal for the housing market in today's NYT. He tells readers:

1) House prices are continuing to fall because of the wave of foreclosures;

2) That consumers are not spending because they are losing housing wealth;

3) That a major reason that unemployment is high is that underwater homeowners can't move to place with jobs;

In response, he proposes a plan that could bail out banks from underwater mortgages while leaving millions of homeowners as near indentured servants.

Let's deal with each of these points in turn.

First, house prices are falling for the same reason that the price of Pets.com stock plummeted in 2000. The housing bubble has not fully deflated. If Feldstein bothered to check the data he would know that real house prices are still about 8-10 percent above their long-term trend. Consistent with over-valued prices we see that there is still a near record vacancy rate in housing (topped only by the levels hit in 2010). In other words, the main reason for house prices to decline is simply excess supply. There are certainly areas where foreclosures have blighted communities and thereby caused prices to fall further, but this is not the main story of house price decline.

Second, consumers actually are still spending at an above normal rate. The savings rate out of disposable income is still just 5 percent. This is above the near zero rate at the peak of the housing bubble, but it is well below the 8 percent average of the pre-bubble years. It is strange that Mr. Feldstein appears to be unaware of the lower than normal saving rate (and higher than normal consumption) since he has done a great deal of work on precisely this topic and his original claim to fame was a paper showing that Social Security lower household savings.

We should actually anticipate that savings will increase further when the bubble has fully deflated and, according to Feldstein's pas writings, this would be a good thing. It is striking that he now seems to view saving as bad.

Feldstein's third claim is simply not supporting by any evidence. There have been several studies that examined the extent to which being underwater has prevented job losers from moving to new jobs (including one by John Schmitt and Kris Warner). They all have found little or no effect. People are prepared to leave their homes or two-earner couples separate so that one earner can move to a job. This is simply not a major cause of unemployment.

So Feldstein has no real basis for his claims about the disastrous impact that the housing market is having on the economy. However, his policy solution is a disaster. He proposes to have the government pick up half of the loss on seriously underwater mortgages. In exchange, if the homeowner consents, the lender can track them to the ends of the earth for their remaining debt.

There are two really really big problems with the Feldstein plan. First, it is completely voluntary for lenders. This means that they will not take up the deal with people who they think are likely candidates to repay their mortgage. There are many underwater homeowners who are struggling to pay their bills. Feldstein's plan offers them nothing. The bank knows that they will pay, so they will not put their mortgage in the program.

However, there will be more questionable loans that will go into the program. Some of these people may be able to make their payments after the principle write-down. They will then get to live in their home until they move and in all probability never accumulate a dime in equity (but the bank got half of its loss picked up by the government).

Others will take the deal and then find themselves still unable to pay their mortgage -- remember we still have 9.1 percent unemployment and most people in Washington don't seem to give a damn. Under the Feldstein plan the debt will now become a recourse loan, which means that the bank can hound foreclosed homeowners until the day they die for any portion of the mortgage that is not repaid by the sale of the house.

So there you have it, a solution for a non-problem that gives banks tens of billions of dollars for bad mortgages and makes foreclosed homeowners debtors for life. What could be better than that?

Comments (24)Add Comment
About David Brooks
written by Pablo, October 13, 2011 9:22
Check out this:
written by Jim In Panama, October 13, 2011 9:34
It would be an improvement to this plan if under water home owners could opt out of their debt and remain in their homes by selling themselves into indentured servitude to the mortgage holder. The bank would provide them shelter (their house) and a food allowance in exchange for labor. I know, I know slavery is a tough sell in the 21st century, but its certainly a tried and true practice.
written by Kat, October 13, 2011 9:52
I was awaiting your critique of this disastrous plan. Excepting the banker class, it seems to contain enough details to make people of all ideological stripes angry. In short, it is exactly the sort of program that Obama would waste political capital promoting.
Martin Feldstein should retire.
written by Ralph Musgrave, October 13, 2011 10:08

Pretty well every time Martin Feldstein opens his mouth he puts his foot in it. The only occasions on which this is not true is when he comes out with some statement of the blindingly obvious where he cannot possibly go wrong.

When Being Rich Makes Us Poor, People Should Occupy Wall Street
written by gotgold, October 13, 2011 10:24
you were on the mark till the last but one para in which you advocate govt spending as a solution for all the problems. Thus far the only folks who have benefited immensely from govt spending are the super rich. The poor get 'visible' jobs briefly. The long term govt employees act like the Greek.

I am not against govt expenditure but they need to stay out of all the sectors you had mentioned in your article. The govt is the reason that these sectors turned to be inept or corrupt.
Debtors for life?
written by LSTB, October 13, 2011 10:25
Mortgage deficiencies due to foreclosure are dischargeable in a Chapter 7 bankruptcy, so these homeowners wouldn't be debtors for life.

Student loans on the other hand ... Well, let's just hope they're federal loans that're eligible for Income-Based Repayment. That way Uncle Sam takes the loss for overpriced degrees.
Better solution
written by bakho, October 13, 2011 10:42
The US govt can borrow at near zero interest rates. A better option would be for the US govt to buy the mortgages at the underwater price and make back most of the difference by financing the housing at a fixed 6 percent rate.

The mortgage could be attached to the property so the seller could sell to a buyer who would take over interest payments. Over 30 years, the government would more than make back its investment in interest payments.

There are many other ways to "free" the market due to the low costs of BigG borrowing that do not involve gouging consumers. They necessarily cut out the banks from profiting on their bad loans.
Housing Supply
written by criv, October 13, 2011 11:03
Is there excess housing supply? Census data shows a lot of "doubling up" in homes: Unemployed college grads moving in with parents, two and three generations in what was a single family dwelling. If prices fell 8-10% back to trend, could these families really buy more housing? It looks more like a problem of deferred demand due to a lack of jobs and income.
..., Low-rated comment [Show]
Real Home Prices Are Near Long-Run Trend
written by Joe Seydl, October 13, 2011 1:28
I agree with most of what you say. However, real home prices are almost back down to trend, only about 2 percent above trend. See this graph (http://img842.imageshack.us/im...prices.png), which shows real home prices using CoreLogic data.
Dean Goes Over to the Dark Side
written by Paul, October 13, 2011 1:34
"In other words, the main reason for house prices to decline is simply excess supply."

Really? Nobody wants to buy houses because prices are 10% above their historical trend? Has nothing to do with the fact that prices are falling?

Obviously Dean has completely abandoned Keynesian principles for classical supply side theory. If housing prices fall another 10%, consumer demand will stagnate if not collapse and unemployment will increase.

Keynes advocated increasing consumer demand (The General Theory, p.325) in order to reduce unemployment, but Dean thinks housing prices should fall which will depress demand as consumers wait to buy at the bottom, which may well end up below the historical trend line.

Having the government pump up consumer demand is pure Keynesian, but Dean has joined the Evil Empire of supply siders, i.e., supply drives demand.
written by skeptonomist, October 13, 2011 2:30
As I said before, DeLong and some others have claimed that there is actually an undersupply of houses. This is consistent with the ratio of housing starts to populations growth:


The rate of house construction was excessively high only for about 2 years at the very peak of the bubble, and for the 5 years since it has been well below normal. Construction is severely depressed and there is no reason to think it is because there was grossly excessive building during the bubble.

The objective should be to get the construction rate back near normal, without creating another bubble in prices. I don't have a magic formula to do this, but it seems that serious efforts to clear up the mortgage situation - which must be part of the solution - have been thwarted by bank influence. They don't want to take a short-term hit although reviving housing would be good for them in the long term.
The Formula Isn't Magical, It's Logical
written by Paulo, October 13, 2011 2:49
Give buyers tax incentives for a limited time to buy houses. Jump start the market and get prices rising again to create a virtuous cycle instead of the vicious cycle of price deflation that we now have.
written by joe, October 13, 2011 4:17
So what is Dean's entire picture of what's wrong with the economy? Bubble popped, check, now what? Consumers have to repair their balance sheets (BSR, Richard Koo and MMT position), but Dean keeps insisting that consumer spending is still rather high. But median income is down 9.6% from Dec 2007 to June 2011, so it seems that many people must spend a larger share of their income just on necessities and/or debt servicing.

Dean had a previous piece about consumer spending a % of disposable income. But that figure is useless without knowing how real income has changed.
Hey Joe, Where You Goin'
written by Paul, October 13, 2011 5:13
Dean is a classical supply sider now. Since supply creates its own demand, for him there is no reason for the government to stimulate demand for housing. Rather, house prices must fall to clear out the "excess" inventory. At that point, the market will achieve "equilibrium" and prices will stabilize.
Of course unemployment by then will be double digits, but then when wages fall, the market will clear out the "excess" inventory of workers too. So the minimum wage, unions and all other impediments to wages falling must be eliminated to solve unemployment and we all become Chinese.

David Ricardo explained this all a long time ago.
Quackery at Harvard is not new.
written by Scott ffolliott, October 13, 2011 9:38
Harvard economics professor Martin Feldstein is a fine example of of this quackery.
The 2% Solution
written by Earlybird1, October 13, 2011 9:41
The federal government should offer all Americans a 2% interest rate loan for their primary home.

One Big Hidden Agenda - Better Profit
written by James, October 13, 2011 10:36


One thing not commented on is that bankers pursue this "recourse" option to circumvent what many states have a "single-action" on foreclosures.

The way I understand is for "single-action" like California, bankers could decide judicial foreclosure or trust deed sale (both are foreclosures). In TD sale, bankers don't go after borrowers for the deficient amount. In judicial, they could and likely will.

The time frame between judicial and TD sale is night and days. Just google and you will see it takes over a year to do judicial while TD sale could be done half of that, even if that.

So, if the plan is made into law, bankers could foreclose much quicker and go after borrowers as well.

What a deal...
Housing Starts
written by Dean, October 14, 2011 2:00
The data cited by DeLong is inconsistent with the Census data on starts, available here http://www.census.gov/const/ww...ndex.html.
The population has not been growing more rapidly in the 00s than in the 90s and certainly not 30-40 percent more rapidly as his graph implies. I think he misunderstand a correction to the data that was put in with the 2000 Census.
written by skeptonomist, October 14, 2011 9:39
Here are plots of yearly data from the FRED (St. Louis Fed) site:


The black line is total housing unit starts over total population increase and the red line is 1-unit (single-family) starts over non-institutional population increase (like the one I cited before except with yearly data). I think the red curve is more germane since people in jail don't buy houses (and the difference between the two population numbers is large), and I assume that total starts includes apartments - demand for apartments is mostly complementary to that for houses.

The FRED data come from the Census, and seem to agree with what the Census has, but not to the exact number (?). I have not seen what DeLong has done lately. Iglesias has also had some graphs, one apparently the same as the black curve.

The current price increase in gold has probably led to an increase in gold mining. When the inevitable crash occurs, will that prove that excessive gold was mined? Asset bubbles transcend supply and demand.
3rd point
written by Bill, October 14, 2011 10:13
I don't think it is a major reason for unemployment but it is undeniably true that the market has dissuaded people from moving to new jobs unless those jobs pay much more because of the difficulty of selling homes. if the study doesn't account for this, then it is flawed.
Hey Skepto, Keynes Loved Gold Mining
written by Paul, October 14, 2011 10:37
While Keynes rightly thought of gold as a "barbarous relic" he applauded gold mining as a way to increase employment. He particularly liked the idea that bankers would loan money to mine gold without much regard to the actual ROI.
Sharing the losses
written by FGS, October 15, 2011 2:51
Instead of complicated principle reductions for a small handful of people, it would be far better for home owners to repay the full amount they borrowed and for banks to forgive or rebate the interest. And this relief should be available to everyone, not just the unemployed and the under "water."
Skepto -- Census Didn't Get it Wrong, DeLong Did
written by Dean, October 15, 2011 2:41

if you look at the Census population data you will see that it jumps by 2.6 million from December of 1999 to January of 2000. They don't actually think that we had a huge end of the century baby boom or flood of immigrants. They were correcting for undercounting over the prior decade. This means that the ratio of housing units (they should have total, not single family) to population was over-stated through the 90s and hugely understated for the year 2000. Census warns people about this adjustment, but apparently Brad did not take the warning.

Write comment

(Only one link allowed per comment)

This content has been locked. You can no longer post any comments.


Support this blog, donate
Combined Federal Campaign #79613

About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.