As the federal stimulus bill takes shape, Republican lawmakers are pushing for the government to drive down rates for home loans to historic lows.
Republicans want to see rates for 30-year fixed-rate home loans cut to about 4 percent for borrowers with decent credit. The national average for a 30-year fixed-rate mortgage is 5.38 percent, according to Bankrate.com.
The move could save millions of homeowners a lot of money if they refinanced. It could also help prop up the housing market. And advocates say it wouldn't cost the government much of anything.
The idea behind the proposal is that it would make it cheaper to buy a house, which could boost sales and help stabilize the housing market. And it would put a lot of extra money in the pockets of homeowners who could refinance.
Potential Savings
"According to this proposal, the average family would see its monthly mortgage payment drop by over $400 a month, which comes out to over $5,000 a year," says Senate Republican leader Mitch McConnell.
Those numbers come from Chris Mayer, an economist at Columbia University who has been pushing for such a plan.
"If you look at the state of Kentucky, where Sen. McConnell is from, more than 500,000 households would refinance their mortgages at an average saving of $250 a month," Mayer says. "In California, there would be almost 4.5 million people refinancing at a savings of almost $700 a month. [In] New York, $530 a month of savings."
Mayer thinks 40 million mortgages could get refinanced — 80 percent of outstanding home loans in the country.
Consumer spending is down sharply. Mayer says all that extra money Americans would be saving on their mortgage payments would get them spending again and would help rescue the economy. He also predicts people would buy more homes.
Impact On Government
So, how much would this cost?
"This isn't a cost to the government," Mayer says. "The government makes money on this," he says, adding that this could be thought of as a "30-year tax break for 40 million households without running up the deficit."
Mayer says this isn't a case of economists manipulating numbers.
He says the financial crisis has just created a situation where it's very cheap for the government to borrow money. Investors of all kinds have been pouring money into U.S. Treasuries because they're seen as being among the only safe bets around.
By issuing securities like 10-year Treasury bills, the government can borrow at less than 3 percent. If the government then in essence lends that money to homeowners by buying mortgage securities, it can lend at 4 percent and even make a little money in the process.
"The government can borrow at incredibly low rates because nobody wants to take risk in the credit markets," Mayer says.
So the government, in effect, is just redirecting the flow of money through the system and not spending its own money.
Alternative Views
Still, some other economists are skeptical that there's a free lunch here.
"I think there's the potential for a very large price tag associated with this, yes," says Joseph Gyourko, a professor of real estate and finance at the Wharton School at the University of Pennsylvania.
He says the plan wouldn't spark enough homebuying to stop home prices from falling further. But he says the new loans for home purchases could go bad as home prices keep plunging, and the government would be on the hook for those loans.
"I don't know that it will happen, but I know that it's wrong to assume it won't, because I personally think house prices are going to keep falling," Gyourko says. "So to encourage citizens to make leveraged bets on a market in decline strikes me as very unwise. I don't understand why the government wants to do this."
As far as those refinancing savings, Gyourko suspects that people would save the money, not spend it. So, it wouldn't help the economy much.
Ongoing Foreclosure Risks
Gyourko says it would be more important for the government to focus on helping homeowners at risk of foreclosure. Millions more home loans could go bad, and those homes would further glut the market.
Columbia's Mayer wants the government to do that, too. But he thinks his 4 percent loan plan would actually limit the government's risk on home loans. That's because the government is already on the hook for 30 million mortgages that it guarantees through Fannie Mae and Freddie Mac, and the lower rates would make all those loans more affordable and less likely to default.
The government has already been pushing home mortgage rates lower by buying up mortgage-backed securities. Rates were in the 6 percent range. But when the Federal Reserve announced that it was buying these securities, rates moved down by about a percentage point.
Now, Republicans basically want to expand that program and push rates even lower to potentially make the loans available to more people. Mayer wants the program to allow anybody with a loan backed by Fannie and Freddie to get access to the lower rates regardless of their credit score or the equity in their home.
And many Democrats are not opposed to the idea of 4 percent loans. The proposal is being taken seriously on both sides of the aisle.
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