“Remember, anyone can do it.  Not everyone will.  The only question is:  Will you?” — Gary Keller, The Millionaire Real Estate Investor

Yesterday, President Obama pledged $75 billion to help alleviate the financial hardships caused by the decreasing value of a single asset class — residential real estate.  The goal is to ameliorate the unfortunate burden of homeowners having to pay monthly mortgage payments that the government says could cause them “financial ruin.”

Among other things, the scheme calls for allocating this $75 billion to as many as 9 million homeowners (less than $139 per family per month, spread over five years – the length of time this program is scheduled to remain in effect).  Call The Lamb naive (he’s been called worse), but does this really do anything to solve the long-term dilemma that home prices remain far above their long-term average of two-and-a-half times median household income?

Quoting a summary of the plan:

“This initiative is intended to reach millions of responsible homeowners who are struggling to afford their mortgage payments because of the current recession, yet cannot sell their homes because prices have fallen so significantly” (emphasis added).

Responsible?  Many of these borrowers purchased an asset, real estate, at a price that was three to four times the amount of their gross annual incomes!  Exacerbating their financial risk (which is now being dispersed to more responsible taxpayers to foot the bill for them), many of these borrowers were leveraged more than the usual four to one (via a 20% down payment).  In fact, some (euphamistically described) “brave” souls even went with the then-ubiquitous (for 2005-2007) no-money-down or negatively amortizing mortgages. 

Responsible, indeed.

Can it really be that surprising to these borrowers that they can no longer afford the payments on that asset?  Several of the bobble heads on CNN and CNBC have posited that banks and other mortgage lenders bear the brunt of the responsibility for homeowners taking on such large debt burdens — if the money wasn’t offered to them, these homeowners would not have borrowed it.

The Lamb calls B.S. here.  That argument is akin to a policy holder blaming a life insurance company for costing him money because he didn’t die in a timely manner!

As long as money is being transferred from the responsible to the irresponsible (or from the economically fortunate to the economically unfortunate, if that is more tasteful), why not give taxpayer money to those that suffered losses in other markets?  Raise your hand if you lost money in the stock market in the past few years.  At least these investments were not nearly as highly levered.  And why stop with equity investments?  How about those that were burned in corporate bonds, commodities, or even art?

Why is real estate being held out above all others as a sacrosanct investment in which people are insulated against loss?  Do we really want a system in which the most leveraged investment opportunity available to most people is insured against loss by other taxpayers?  Is this not the very definition of moral hazard?

Many argue that “you gotta live somewhere.”  Fair enough.  But despite its spelling, RENT is not a four-letter word.  Let’s look at renters for a moment.  Here is a group of people that, for whatever reason, chooses not to purchase a home.  Maybe they can’t afford the down payment (although that certainly was not the issue earlier this decade when a down payment was apparently only for suckers).  Maybe they don’t want to take the risk of fixed monthly payments for thirty years.  It doesn’t really matter why.

What matters is that by not targeting real estate prices as they zoomed skyward for a decade, and then unilaterally attempting to stop their rational descent, government is essentially punishing renters for making what in hindsight was the correct economic decision.  Renters who did not chase irrational (or “unaffordable” if that term is friendlier) prices earlier and could otherwise afford to purchase a home today, are being unfairly kept from doing so by government’s artificial price floor.

“Everyone wants a piece of land.  It’s the only sure investment.  It can never depreciate like a car or a washing machine.  Land will double its value in ten years.  In less than that.  Land is going up every day.” — Sam Shepard, Curse of the Starving Class

Over fifty years have passed since Ayn Rand penned her classic criticism of government interference in economic matters,  Atlas Shrugged.  For those unfamiliar with this seminal work, it illustrates how government’s proliferation of myriad programs and regulations sabotages the creativity and production of the very economic well-being it desires to improve.

Friday, Congress ratified, and the President is about to sign, the $787 billion economic stimulus bill.  Concealed in the bowels of this 1,000+ pages of legislation is a restriction on executive compensation — thank you, Senator Christopher Dodd of Connecticut.  Proudly announcing his vanquishing of Wall Street gluttony, Dodd crowed:

“The decisions of certain Wall Street executives to enrich themselves at the expense of taxpayers have seriously undermined public confidence in efforts to stabilize the economy.  These tough new rules will help ensure that taxpayer dollars no longer effectively subsidize lavish Wall Street bonuses.”

While at first blush, curtailing pay packages for employees at firms receiving government (taxpayer) funds might make sense, a closer examination reveals more problems than solutions.

James F. Reda, an independent compensation consultant, responded to the new legislation (via The New York Times):

“These rules will not work.  Any smart executive will (a) pay back TARP money ASAP or (b) get another job.”

This highlights just two of the major difficulties with government dictating how companies compensate their employees.  Talented workers will abandon a company shackled by government handcuffs for greener pastures at hedge funds or foreign banks.  This exodus would occur at the very time when their abilities are most needed to help ensure that TARP money is protected and paid back to the government.

Perhaps more importantly, do we really want to incent banks to return TARP money before it is fiscally optimal for them to do so?  Prematurely returning TARP funds carries with it the dual disadvantages of weakening banks’ capital structures and reducing the amount of money available for lending.  The latter cancels out the very purpose of replenishing bank capital — ameliorating the dearth of credit in the system, thereby turning off the lending spigot.

Many of the banks that received TARP funds did not want the funds to begin with.  Back in October when nine bank CEO’s were summoned to Washington, then-Treasury Secretary Paulson stuck a $125 billion gun at their collective heads, ordering them to take the funds.  Furthermore, the money was not given to the banks.  Uncle Sam received preferred stock, paying a 5% dividend (for 3 years, then stepping up to 9% for as long as the firms retained the funds).  Given that the government’s 3-year cost of capital at the time was less than 3%, taxpayers stand to earn more than 2% annually on their money.

If bonuses are limited, companies will be forced to pay higher salaries in order to lure the top professionals to their firms.  This will simultaneously raise banks’ fixed costs, increase their risk, and diminish the incentive for employees to work harder to maximize shareholder value as well as their own remuneration.  Commission-based employees such as loan officers will have little reason to maximize credit availability once their commission compensation approaches the government imposed ceiling.

Dagny Taggart knows how they feel.