The true story behind the financial crisis.

[Minister_of_Information]

I actually think that deductible interest, especially when rates are very low, could be a large accelerant in an expanding valuation bubble as it directly impacts the affordability of mortgaging higher purchase prices. Without the tax deduction the amplitude of the bubble could never have been as large, probably not even close. The mistake is giving all factors a static weight at all times, while the truth is they interact in unpredictable ways.

[Matthanuf06]

Originally Posted by dangolegators

It played a role in the same way an extra in movie crowd scene of 1000 extras plays a role. Interest deduction on mortgages, which began 100 years ago, isn't worth discussing as a cause of the housing bubble.

If you want to go back far enough, you can say it's Christopher Columbus' fault. If he hadn't discovered America, there never would have been a housing bubble. Maybe there would have been a teepee bubble instead. That's similar to the logic you are using here. It's silly to include every possible factor, no matter how small, when trying to determine the cause of something. In statistics, too many input variables just ruins the usefulness of the model.

So if the mortgage interest deduction doesn't increase demand then why have it at all?

[Lawdog88]

Originally Posted by Minister_of_Information

I actually think that deductible interest, especially when rates are very low, could be a large accelerant in an expanding valuation bubble as it directly impacts the affordability of mortgaging higher purchase prices. Without the tax deduction the amplitude of the bubble could never have been as large, probably not even close. The mistake is giving all factors a static weight at all times, while the truth is they interact in unpredictable ways.

Yeah . . . but . . . that could not have been the sufficient reason to have produced the incentive to purchase beyond one's means, and to have it OK'ed by Fannie, Freddie, Sam, and the Capitalist Greedy Bankers and Instrument Traders.

Slight influence, I would think for some 'thinking" overpurchasers, but not many.

[Matthanuf06]

Originally Posted by Minister_of_Information

I actually think that deductible interest, especially when rates are very low, could be a large accelerant in an expanding valuation bubble as it directly impacts the affordability of mortgaging higher purchase prices. Without the tax deduction the amplitude of the bubble could never have been as large, probably not even close. The mistake is giving all factors a static weight at all times, while the truth is they interact in unpredictable ways.

Exactly right. It is very clear that the government has set up numerous incentives to boost housing demand, before, during, and after the boom. If the folks on the left do not think they increase demand, then why have them at all? You can't on one hand say it played no role in a demand bubble, and then on the other want the incentives to continue to spur demand. Makes no sense.

[Gatormb]

Originally Posted by gatorman_07732

If your saying subprime was low risk your completely wrong. They were by definition high risk because they were made to people that could not ordinarily get loans somewhere else.

Having been in the business 36 years (and NOT an originator of sub-prime loans) the bolded definition above would apply to FHA and VA loans which are higher risk because they require no to low down payments and are available to those with lower credit scores.

These loans (as well as USDA) are not sub-prime loans but do carry higher risk.

Alt-A loans where income verification was not required with substantial down payments and excellent credit carried a slightly higher risk than the same with income verification but are also not considered sub-prime.

True sub-prime was little to no DP with lower credit scores and allowed bank statement cash flow to be considered as income.

Often on refinances the only requirement was equity.

A note on teaser rate loans. Prime adjustables would have margins (added to index at the time of adjustment) of 2-3%. Sub-prime margins were 5-7% with a basement of the start rate.

Oh, and most prime adjustable rate mortgages are presently enjoying rates under 3.5%.

BUT, when the government quits printing money....beware and click on the link below!

[Matthanuf06]

Originally Posted by Gatormb

Having been in the business 36 years (and NOT an originator of sub-prime loans) the bolded definition above would apply to FHA and VA loans which are higher risk because they require no to low down payments and are available to those with lower credit scores.

These loans (as well as USDA) are not sub-prime loans but do carry higher risk.

Alt-A loans where income verification was not required with substantial down payments and excellent credit carried a slightly higher risk than the same with income verification but are also not considered sub-prime.

True sub-prime was little to no DP with lower credit scores and allowed bank statement cash flow to be considered as income.

Often on refinances the only requirement was equity.

A note on teaser rate loans. Prime adjustables would have margins (added to index at the time of adjustment) of 2-3%. Sub-prime margins were 5-7% with a basement of the start rate.

Oh, and most prime adjustable rate mortgages are presently enjoying rates under 3.5%.

BUT, when the government quits printing money....watch out and click on the link below!

And that's another thing to the folks that do not believe the government distorts the housing market...look at how they are distorting interest rates?

[dangolegators]

Originally Posted by Minister_of_Information

I actually think that deductible interest, especially when rates are very low, could be a large accelerant in an expanding valuation bubble as it directly impacts the affordability of mortgaging higher purchase prices. Without the tax deduction the amplitude of the bubble could never have been as large, probably not even close. The mistake is giving all factors a static weight at all times, while the truth is they interact in unpredictable ways.

When rates are low less interest is paid, making the mortgage deduction less of an incentive.

[Gatormb]

Originally Posted by Matthanuf06

The short answer is a lot of things, which can be traced to increased demand.

Low interest rates (FED), Govt incentives and loans and certain policies, irrational exuberance (everyone wants on a rocket ship), poor financial modeling (correlation and tail risk analysis mainly), moral hazards, simple speculative buying, etc.

Lots of those things fall into the chicken or the egg type of problem. So the key is what started it? I'd say really owning vs renting. The price to rent ratio was low, essentially saying you are better off to buy than rent. This increased demand, which set off the irrational exuberance even when it was technically better to rent than buy because everyone thought home prices were a rocket ship, so even if you couldn't "afford it" you'd gain equity via appreciation.

Good stuff matt. Spot on.

[Matthanuf06]

Originally Posted by dangolegators

When rates are low less interest is paid, making the mortgage deduction less of an incentive.

It is still an incentive. Do you not realize it distorts the market? That is like saying FHA, VA, USDA don't distort the market.

I'm living proof of government distortion. My county gave me 7k on top of a USDA loan to love where I live. If I didn't get that, I would not be living where I am today.

[dangolegators]

I am not saying that government doesn't distort the market. But 'distorting the market' is not necessarily a bad thing.

As for the actual impact of the interest deduction on the housing market, there's this:

To begin with, most taxpayers do not benefit from the deduction at all. This is because they do not itemize deductions on their federal income tax returns. According to Joseph Rosenberg, a research associate at the Urban-Brookings Tax Policy Center, only about 30 percent of taxpayers itemize, rather than take the standard deduction. And the majority of these itemizers are upper-middle and upper-income households.

http://www.nytimes.com/2012/10/28/re...eductions.html

[Minister_of_Information]

Originally Posted by dangolegators

When rates are low less interest is paid, making the mortgage deduction less of an incentive.

Lower interest leads to higher purchase price and same net payment. Then this equity is monetized and added to the bubble.

[dangolegators]

Originally Posted by Minister_of_Information

Lower interest leads to higher purchase price and same net payment. Then this equity is monetized and added to the bubble.

Thus balancing out the effect of the interest deduction you were claiming was an 'accelerant' in times of low interest rates.

[Minister_of_Information]

Originally Posted by dangolegators

Thus balancing out the effect of the interest deduction you were claiming was an 'accelerant' in times of low interest rates.

False, as interest and therefore the interest deduction is weighted to the front end of the mortgage its importance to the expenses of homeownership is outsized and any incremental tax loss due to lower rates is more than offset by the chain of equity passed to the seller (who then reseeds the market with, in all probability, at least a portion of this capital gain via his own purchase). You would have a better point if most mortgages were paid to maturity.

[baygator1]

Originally Posted by Swampmaster

big difference: student loans are not dischargeable in bankruptcy and mortgage debt is.

Incorrect.

http://www.studentloanborrowerassist...rg/bankruptcy/

[Row6]

Originally Posted by Matthanuf06

Exactly right. It is very clear that the government has set up numerous incentives to boost housing demand, before, during, and after the boom. If the folks on the left do not think they increase demand, then why have them at all? You can't on one hand say it played no role in a demand bubble, and then on the other want the incentives to continue to spur demand. Makes no sense.

Of course governmental action has macro-effects, otherwise why do it. One may recall that after the market crash of 2000-2001 and then 9/11, the economy was shaky and most were eager to see something help it. Low interest rates were part of that reaction and so were the Bush tax cuts, which amounted to a windfall for high earners, a group more likely to invest their bundle then the lower and middle classes who would spend it. By themselves we probably don't have a problem, but confidence it the market was low and real estate was deemed a good and conservative place to put capital. There would have been a bubble without the subprime element, but it wouldn't have been the disaster it turned into without those toxic mortgages being lost in new investment "products" from the boy wonders on Wall Street.

[dangolegators]

Originally Posted by Minister_of_Information

False, as interest and therefore the interest deduction is weighted to the front end of the mortgage its importance to the expenses of homeownership is outsized and any incremental tax loss due to lower rates is more than offset by the chain of equity passed to the seller (who then reseeds the market with, in all probability, at least a portion of this capital gain via his own purchase). You would have a better point if most mortgages were paid to maturity.

This is nonsense. You yourself said 'Lower interest leads to higher purchase price and same net payment.'. With the same net payment, there is little or no change in the incentive to buy a house that the mortgage deduction provides. You are claiming that in times of low interest rates, the mortgage deduction 'accelerates' the market. I'd say the exact opposite. The lower the interest rate, the less the incentive is to take advantage of the mortgage interest deduction.

[Matthanuf06]

Originally Posted by dangolegators

I am not saying that government doesn't distort the market. But 'distorting the market' is not necessarily a bad thing.

As for the actual impact of the interest deduction on the housing market, there's this:

http://www.nytimes.com/2012/10/28/re...eductions.html

You do realize that the only people that can realistically itemize are people that are paying mortgages?

So saying only 30% itemize isn't relevant in this discussion. It's more about the % of homeowners itemize.

But even still, it makes homes more affordable. It increases demand. It was a very minor contributor to the bubble. Just like no or minimal down mortgages backed by the govt increases demand. That's a larger contributor to the bubble than the mtg interest deduction, but also just a factor.

[dangolegators]

Originally Posted by Row6

Of course governmental action has macro-effects, otherwise why do it. One may recall that after the market crash of 2000-2001 and then 9/11, the economy was shaky and most were eager to see something help it. Low interest rates were part of that reaction and so were the Bush tax cuts, which amounted to a windfall for high earners, a group more likely to invest their bundle then the lower and middle classes who would spend it. By themselves we probably don't have a problem, but confidence it the market was low and real estate was deemed a good and conservative place to put capital. There would have been a bubble without the subprime element, but it wouldn't have been the disaster it turned into without those toxic mortgages being lost in new investment "products" from the boy wonders on Wall Street.

I agree with this. Though I don't think the Bush tax cuts were a reaction to the shaky economy. That's something Bush and the Repubs were hellbent on doing, as there was actually a surplus at the time and rather than use the surplus to pay down the debt, they wanted to give it back in the form of tax cuts.

[dangolegators]

Originally Posted by Matthanuf06

You do realize that the only people that can realistically itemize are people that are paying mortgages?

So saying only 30% itemize isn't relevant in this discussion. It's more about the % of homeowners itemize.

But even still, it makes homes more affordable. It increases demand. It was a very minor contributor to the bubble. Just like no or minimal down mortgages backed by the govt increases demand. That's a larger contributor to the bubble than the mtg interest deduction, but also just a factor.

We are talking about the change in demand. Mortgage deduction played no measurable role in the sudden increase in demand we saw in the mid 2000s. To my knowledge, the rules of the mortgage deduction did not change prior to the bubble. If they had changed to create more incentive for home ownership prior to the bubble, you would have a point. But, and correct me if I am wrong, the rules did not change.

Extremely easy credit, low interest rates, and a speculative ponzi-scheme-like craze were the drivers.

[Row6]

Originally Posted by dangolegators

I agree with this. Though I don't think the Bush tax cuts were a reaction to the shaky economy. That's something Bush and the Repubs were hellbent on doing, as there was actually a surplus at the time and rather than use the surplus to pay down the debt, they wanted to give it back in the form of tax cuts.

That's true. The state of the economy was not the main driver of the tax cuts.