Tag Archives: United States

Renters and Natural Disasters

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Bill Huntington

Avvo quoted me in What Do Renters Need To Know in A Natural Disaster? It opens,

From hurricanes in the East to wildfires in the West, the past few months have seen an on-going slew of natural disasters in the United States. Fires and floods don’t care whether a property is inhabited by owners or renters. However, most states have laws that  address how landlords and tenants deal with a rental property in the aftermath of a natural disaster.

Renters’ recourse in a natural disaster? Leases and local laws.

Check the lease first

The first source of authority on the obligations of landlords and tenants is found in the lease agreement, which should spell out the terms of what happens in case of a natural disaster. But not all leases clearly address this situation. According to Michael Simkin, managing partner of Simkin & Associates in Los Angeles, in cases where the lease is “burdensome or unfair,” local or state laws will govern what happens.

Landlord and tenant responsibilities vary by state

Every state has different laws regarding landlord and tenant obligations after a natural disaster strikes. Here are examples of answers to common tenant questions from some of the states recovering from recent natural disasters.

Can a lease be terminated if a natural disaster makes a rental property unusable?

California: If a rental property is destroyed in a natural disaster, the lease is automatically cancelled. The landlord must refund the rent for that rental period on a prorated basis.

“Many times, the city can come in and condemn the property and effectively force out tenants in unsafe situations. It is also the landlord’s responsibility to terminate a lease when they have knowledge that their rental property is unusable or unsafe,” notes Monrae English, a partner at Wild, Carter & Tipton in Fresno.

Florida: If the premises are “damaged or destroyed,” the tenant may terminate the rental agreement with written notice and move out immediately.

Louisiana: According to the Louisiana attorney general, if a natural disaster damages a property to the point that it is completely unusable, the lease is terminated automatically.

New York: If a rental becomes unfit for occupancy due to a natural disaster, the tenant may quit the premises and is no longer liable to pay rent. Any rent paid in advance should be returned on a prorated basis, according to David Reiss, law professor at Brooklyn Law School.

Texas: Either the tenant or the landlord can terminate the lease with written notice. Once the lease is canceled, tenants’ obligation to pay rent ceases and they’re entitled to a prorated refund of any rent paid during the time the home was not usable.

If the lease is terminated due to a natural disaster, does the renter get the security deposit back?

California: The landlord must return the security deposit within three weeks of the tenant vacating, with any deductions accounted for in writing. The landlord is not allowed to deduct disaster damage.

Louisiana: The landlord is required to return security deposits within one month, as long as the tenant fulfilled the lease obligations and left a forwarding address, according to Brent Cueria, an attorney with Cueria Law Firm, LLC in New Orleans. The landlord cannot deduct for natural disaster damage.

New York: The security deposit must be returned to the tenant, according to Reiss.

Texas: The security deposit must be refunded.

The Economics of Housing Supply

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chart by Smallman12q

Housing economists Edward L. Glaeser and Joseph Gyourko have posted The Economic Implications of Housing Supply to SSRN (behind a paywall but you can find a slightly older version of the paper here). The abstract reads,

In this essay, we review the basic economics of housing supply and the functioning of US housing markets to better understand the distribution of home prices, household wealth and the spatial distribution of people across markets. We employ a cost-based approach to gauge whether a housing market is delivering appropriately priced units. Specifically, we investigate whether market prices (roughly) equal the costs of producing the housing unit. If so, the market is well-functioning in the sense that it efficiently delivers housing units at their production cost. Of course, poorer households still may have very high housing cost burdens that society may wish to address via transfers. But if housing prices are above this cost in a given area, then the housing market is not functioning well – and housing is too expensive for all households in the market, not just for poorer ones. The gap between price and production cost can be understood as a regulatory tax, which might be efficiently incorporating the negative externalities of new production, but typical estimates find that the implicit tax is far higher than most reasonable estimates of those externalities.

The paper’s conclusions, while a bit technical for a lay audience, are worth highlighting:

When housing supply is highly regulated in a certain area, housing prices are higher and population growth is smaller relative to the level of demand. While most of America has experienced little growth in housing wealth over the past 30 years, the older, richer buyers in America’s most regulated areas have experienced significant increases in housing equity. The regulation of America’s most productive places seems to have led labor to locate in places where wages and prices are lower, reducing America’s overall economic output in the process.

Advocates of land use restrictions emphasize the negative externalities of building. Certainly, new construction can lead to more crowded schools and roads, and it is costly to create new infrastructure to lower congestion. Hence, the optimal tax on new building is positive, not zero. However, there is as yet no consensus about the overall welfare implications of heightened land use controls. Any model-based assessment inevitably relies on various assumptions about the different aspects of regulation and how they are valued in agents’ utility functions.

Empirical investigations of the local costs and benefits of restricting building generally conclude that the negative externalities are not nearly large enough to justify the costs of regulation. Adding the costs from substitute building in other markets generally strengthens this conclusion, as Glaeser and Kahn (2010) show that America restricts building more in places that have lower carbon emissions per household. If California’s restrictions induce more building in Texas and Arizona, then their net environmental could be negative in aggregate. If restrictions on building limit an efficient geographical reallocation of labor, then estimates based on local externalities would miss this effect, too.

If the welfare and output gains from reducing regulation of housing construction are large, then why don’t we see more policy interventions to permit more building in markets such as San Francisco? The great challenge facing attempts to loosen local housing restrictions is that existing homeowners do not want more affordable homes: they want the value of their asset to cost more, not less. They also may not like the idea that new housing will bring in more people, including those from different socio-economic groups.

There have been some attempts at the state level to soften severe local land use restrictions, but they have not been successful. Massachusetts is particularly instructive because it has used both top-down regulatory reform and incentives to encourage local building. Massachusetts Chapter 40B provides builders with a tool to bypass local rules. If developers are building enough formally-defined affordable units in unaffordable areas, they can bypass local zoning rules. Yet localities still are able to find tools to limit local construction, and the cost of providing price-controlled affordable units lowers the incentive for developers to build. It is difficult to assess the overall impact of 40B, especially since both builder and community often face incentives to avoid building “affordable” units. Standard game theoretic arguments suggest that 40B should never itself be used, but rather work primarily by changing the fallback option of the developer. Massachusetts has also tried to create stronger incentives for local building with Chapters 40R and 40S. These parts of their law allow for transfers to the localities themselves, so builders are not capturing all the benefits. Even so, the Boston market and other high cost areas in the state have not seen meaningful surges in new housing development.

This suggests that more fiscal resources will be needed to convince local residents to bear the costs arising from new development. On purely efficiency grounds, one could argue that the federal government provide sufficient resources, but the political economy of the median taxpayer in the nation effectively transferring resources to much wealthier residents of metropolitan areas like San Francisco seems challenging to say the least. However daunting the task, the potential benefits look to be large enough that economists and policymakers should keep trying to devise a workable policy intervention. (19-20)

The Economic Implications of the Housing Supply

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Ed Glaeser and Joe Gyourko posted The Economic Implications of the Housing Supply which is forthcoming in The Journal of Economic Perspectives. In it, they

review the basic economics of housing supply and the functioning of U.S. housing markets to better understand the impacts on home prices, household wealth and the spatial distribution of people across markets. Section II documents the state of housing affordability in the U.S., and begins with three core facts about housing supply. First, when building is unrestricted by regulation or geography, housing supply curves seem relatively flat, meaning that we can approximate reality by referring to a single production cost. Second, both geography and regulation severely restrict the ease of building in some parts of the country. These constraints raise building costs both directly, by increasing time delays and reducing the amount of available land, and indirectly, by ensuring the homes are produced more on a one-by-one basis rather than in bulk. Third, the supply of housing is kinked and vertical downwards because housing is durable. (2, citation omitted)

These are themes that Glaeser and Gyourko have touched on before, but this essay does a service by updating them ten years after the financial crisis.

Glaeser and Gyourko have consistently hit on some important points that can garner attention at the national level , but there has been no real action on them as of yet:

  • where supply is regulated, housing costs more;
  • heavy land use regulation in places like NYC and SF reduces the nation’s overall economic output; and
  • existing homeowners tend to oppose new projects, which is consistent with their financial self-interest.

Glaeser and Gyourko do not give up hope that policymakers can craft solutions that deal with the political economy of housing construction. One first step would be to develop a toolkit of carrots and sticks that can be employed at the national and state level to incentivize local governments to take actions that are in the interest of their broader communities and the nation as a whole.

We know we need more housing in highly productive regions. We just need to figure out how to build it.

Is $321 Billion The Right Amount?

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Whipping Post and Stocks

The Boston Consulting Group has released its Global Risk 2017 report, Staying the Course in Banking. Buried in the report is Boston Consulting’s calculation of the amount of penalties paid by banks since the financial crisis:  $321,000,000,000. The report states,

Strict regulatory enforcement has now been place for several years, with cumulative financial penalties of about $321 billion assessed since the 2007-2008 financial crisis through the end of 2016.

About $42 billion in fines were assessed in 2016 alone, levied on the basis of past behavior. While postcrisis regulatory fines and penalties appear to have stabilized a lower level in 2105, with US regulators remaining the most active, we expect fines and penalties by regulators in Europe and Asia to rise in coming years.

As conduct-based regulations evolve, fines and penalties, along with related legal and litigation expenses, will remain a cost of doing business.  Managing these costs will continue to e a major task for banks. They will have to create a strong non-financial framework around the first, second, and third lines of defense — business units, independent risk function, and internal audit — to avoid continued fallout from past behavior.

*     *     *

[C]onduct risk and the prevention of financial crime remain high on regulators’ agendas. (16-17, references omitted)

Readers of this blog know that I have called for aggressive enforcement of wrongdoing in the consumer financial services sector. But I have also have trouble figuring out if the penalties assessed were properly scaled to the wrongdoing. Now that ten and eleven figure settlements have become routine, we may have forgotten that they were unheard of before the financial crisis. Many of these settlements were negotiated by federal prosecutors who were constrained only by their own judgment and the possibility that a defendant would call the government’s bluff and go to trial.  Now that post-crisis litigation is winding down, it makes sense to study how to make sure that the financial penalty fits the financial crime.

What Is at Stake with the FHA?

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The Hill published my column, The Future of American Home Ownership Under President Trump. It reads, 

One of the Trump Administration’s first official actions was to reverse the Federal Housing Administration (FHA) mortgage insurance premium cut that was announced in the last days of President Obama’s term.  This is a pretty obscure action for Trump to lead with in his first week in office, so it is worth understanding what is at stake with the FHA and what it may tell about the future of homeownership in the United States. 

The FHA has roots that stretch back to the Great Depression.  It was created to provide liquidity in a mortgage market that was frozen over and to encourage consumer-friendly practices in the Wild West mortgage and home construction markets of the early 20th century.  It was a big success on both fronts

After the Great Depression, the federal government deployed the FHA to achieve a variety of other social goals, such as supporting civilian mobilization during World War II, helping veterans returning from the War, stabilizing urban housing markets during the 1960s, and expanding minority homeownership rates during the 1990s. It achieved success with some of these goals and had a terrible record with others, leading to high rates of default for some FHA programs.

In the last few years, there have been calls to significantly restrict the FHA’s activities because of some of its more recent failures. Trump’s policy decisions for the FHA will have a big impact on the nation’s homeownership rate, which is at its lowest in over 50 years. This is because the FHA is heavily relied upon by first-time homebuyers.

We do not yet have a good sense of how President Trump views the FHA because he had very little to say about housing policy during his campaign. And his choices to lead the Department of Housing and Urban Development, Ben Carson, and the Treasury Department, Steven Mnuchin, had little to add on this subject during their Senate confirmation hearings.

The 2016 Republican Party Platform does, however, offer a sense of where we might be headed: “The Federal Housing Administration, which provides taxpayer-backed guarantees in the mortgage market, should no longer support high-income individuals, and the public should not be financially exposed by risks taken by FHA officials.”

This vague language refers to two concrete policies that have their roots in actions taken by the FHA during the Bush and Obama administrations. The reference to the support given to “high-income individuals” refers to the fact that Congress significantly raised FHA loan limits starting in 2008, so that the FHA could provide liquidity to a wider swath of the mortgage market. The GOP is right to question whether that the FHA still needs to provide insurance for $500,000 and more mortgages now that the market has stabilized.

The GOP’s statement that taxpayers “should not be financially exposed by risks taken by FHA officials” refers to the fact that the FHA had a lot of losses as a result of the financial crisis. These losses resulted in the FHA failing to meet its statutorily-required minimum capital ratio starting in 2009. In response to these losses, the FHA increased the mortgage insurance premiums it charged to borrowers.

While the FHA has been meeting its minimum capital ratio for the last couple of years, premiums have remained high compared to their pre-crisis levels. Thus, the GOP’s position appears to back off from support for homeownership, which has been a bipartisan goal for nearly 100 years.

The FHA should keep its premiums high enough to meet its capital requirements, but should otherwise promote homeownership with the lowest premiums it can responsibly charge. At the same time, FHA underwriting should be required to balance access to credit with households’ ability to make their mortgage payments over the long term. That way the FHA can extend credit responsibly to low- and moderate-income households while minimizing the likelihood of future bailouts by taxpayers.

This is the most responsible way for the Trump administration to rebuild sustainable homeownership for a large swath of Americans as we recover from the brutal and compounding effects of the subprime crisis, financial crisis and foreclosure crisis.

Can Fannie and Freddie Be Privatized?

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Kroll Bond Rating Agency posted Housing Reform 2017: Can the GSEs be Privatized? The big housing finance reform question is whether there is now sufficient consensus in Washington to determine the fate of Fannie and Freddie, now approaching their ninth year in conservatorship.

Kroll concludes,

The Mortgage Bankers Association sends a very clear message about privatizing the GSEs: It will raise rates for homeowners and add systemic risk back into the financial system. Why do we need to fix a proven market mechanism that is not broken? KBRA believes that if Mr. Mnuchin and the President-elect truly want to encourage the growth of a private market for U.S. mortgages, then they must accept that true privatization of the GSEs that eliminates any government guarantee would fundamentally change the mortgage market.

The privatization of the GSEs implies, in the short term at least, a significant decrease in the financing available to the U.S. housing market. In the absence of a TBA market, no coupon would be high enough to support the entire range of demand for mortgage finance, only pockets of higher quality loans as with the jumbo mortgage market today. Unless the U.S. moved to the Danish model with 100% variable rate notes, no nonbank could fund the production of home mortgages efficiently and commercial banks are unlikely to pick up the slack for the reasons discussed above.

In the event of full privatization of the GSEs, private loans will have significantly higher cost for consumers and offer equally more attractive returns for financial institutions and end investors, a result that would generate enormous political opposition among the numerous constituencies in the housing market. Needless to say, getting such a proposal through Congress should prove to be quite an achievement indeed. (4)

I disagree with Kroll’s framing of the issue:  “Why do we need to fix a proven market mechanism that is not broken?” To describe Fannie and Freddie as “not broken” seems farcical to me. They are in a state of limbo with extraordinary backing from the federal government. It might be that we would want to continue them with much the same functionality that they currently have, but we would still want this transition to be done intentionally.  Nobody, but nobody, was thinking that putting them into conservatorship was the end game,

While the current structure has some advantages over privatization, the reverse is true too.  The greatest benefit of privatization is getting rid of the taxpayer backstop in case of a failure by one or both of the companies.

We shouldn’t be saying — hey, what we have now is good enough. Rather, we should be asking — what do we expect out of our housing finance system and how do we get it?

There appears to be a broad consensus to reduce taxpayer exposure to a bailout.  There also appears to be a broad consensus (one that I do not support as broadly as others) to protect the 30 year fixed rate mortgage that remains so popular in the United States.

Industry insiders believe that a fully private system would not provide sufficient capital for the mortgage market. They are also concerned that a fully private system would put the kibosh on the To Be Announced (TBA) market that provides so much stability for the mortgage origination process.

A thoughtful reform proposal could incorporate all of these concerns while also clearing away the sticky problems built into the Fannie/Freddie model of housing finance.

“If it ain’t broke don’t fix it” is not a good enough philosophy after we have lived through the financial crisis. We should focus on the big questions of what we want from our 21st century housing finance system and then design a system that will implement it accordingly.

The Jumbo/Conforming Spread

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Standard & Poor’s issued a research report, What Drives the Variation Between Conforming and Jumbo Mortgage Rates? It opens,

What drives the variation between the conforming and jumbo mortgage rates for the 30-year fixed-rate mortgage (FRM) product offered in the U.S. residential housing market? While credit and interest rate risk are the main factors at play, S&P Global Ratings explores how these risks relate to capital market execution and whether this relationship translates into additional liquidity risk. In our study, we compare the historical spreads between the two average note rates over time, and we also examine the impact of certain loan credit characteristics. Our data indicate that the rate difference grows in periods for which the opportunity for securitization declines as a viable exit strategy for lenders. (1)

S&P also finds that “[r]isk-based pricing trends also appear to influence the jumbo-conforming spread” and that “[t]he currently narrow spread suggests that a combination of g-fee increases and jumbo credit migration has, to some extent, counteracted the lack of liquidity in the non-agency market.” (1)

The report offers some concise background:

The 30-year FRM is a product unique to the U.S. residential housing market. Lenders in other countries typically offer adjustable-rate or balloon mortgages, which serve as the primary debt tools for housing finance. The 30-year FRM has not been globally adopted, partially because the long-term amortization schedule can saddle a lender with substantial interest rate risk in addition to potentially prolonged credit risk. However, the structure of the mortgage financing system in the U.S. provides an exit strategy: lenders can typically sell loan pools into a reasonably deep market if they are averse to the credit, duration, or convexity risks posed by these long-term assets.

In the U.S., the majority of mortgage financing is channeled through government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac, which have a mandate to buy mortgages for their own portfolios and securitize loan pools, which are subsequently sold to investors. Mortgages that are not financed via the GSEs are often either securitized in the non-agency market or held in institutional portfolios. Both agency and non-agency securitizations optimize funding sources and liquidity, thereby allowing homeowners to enjoy relatively low mortgage rates across the U.S. (1)

My main takeaways from the report are that (1) the decrease in securitization since the financial crisis has contributed to a wider spread between jumbo and conforming mortgages; (2) the high guaranty fee for conforming mortgages pushes down the spread between jumbo and conforming mortgages; and (3) the credit box appears to be loosening a bit, which should mean that jumbos will become available to more than the “super-prime” slice of the market.