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Principal reduction to save mortgages


Of the 55 million mortgages in America, more than 10 million are reasonably likely to default. That is a staggering number -- and it is, in large part, because so many homes are worth so much less than the mortgage the homeowners are holding. That is, they're underwater.

Her second calculation is that the supply of housing is going to drastically outstrip demand for the foreseeable future; she estimates that the glut of unneeded homes could get as high as 6.2 million over the next six years. The primary reason for this, she says, is that household formation has been very low in recent years, presumably because of the grim economy. (Young adults are living with their parents instead of moving into their own homes, etc.) What's more, nearly 20 percent of current homeowners no longer qualify for a mortgage, as lending standards have tightened.

The implication is almost too awful to contemplate. As Goodman put it in testimony she recently gave before Congress, the supply/demand imbalance means that housing prices "are likely to decline further. This may recreate the housing death spiral -- as lower housing prices mean more borrowers become underwater." Which makes them more likely to default, which lowers prices further, and on and on.

The only way to stop the death spiral is through principal reduction. The reason is simple: "The data show that principal modifications work better" than other kinds of modifications, she says. Interest rate reductions can lower monthly payments, but the home remains just as underwater as it was before the modification. And the extent to which a home is underwater is the single best indicator of whether the homeowner will default. The only way to change the imbalance between the size of the mortgage and the value of the home is to reduce principal.

OPINION
To Fix Housing, See the Data
By JOE NOCERA
Published: November 4, 2011
One expert's data-driven approach to the housing crisis makes it clear that mortgage modifications that reduce principal are the only thing that will work.

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