Unlikely ally for Barney Frank's FHA "bailout?"

In what may come as a shock to readers of the conservative Weekly Standard, former Federal Reserve governor and economic advisor to President Bush Lawrence Lindsey thinks Rep. Barney Frank's $300 billion FHA expansion plan is "the best-thought out bill in Washington."

Lindsey, who lost his job advising the president after making one of the first realistic estimate of what the Iraq war would cost, is a guy who likes to look at the big picture. Applying this approach to housing markets, Lindsay sees inventory as the issue to contend with. Not just inventory, but vacant inventory.

"The worst type of inventory is an empty house, which people in the industry like to say has about the same half-life as a head of cabbage," Lindsey says in a piece published in The Weekly Standard and posted on the Web site of the American Enterprise Institute for Public Policy Research.

Vacant homes, Lindsay complains, "are never maintained adequately, depress surrounding property values, and can quickly become temporary retail space for drug lords and a playground for juvenile delinquents. They are also the homes whose owner has the least incentive, and usually the least ability, to service the mortgage or pay the property taxes."

If you include rentals, Lindsey says, there 129 million housing units in the U.S. and 18.5 million are vacant (see also the latest Census Bureau numbers, which says those vacancies include 4.1 million rentals, 2.3 million for-sale homes, and 7.5 million "vacant for a variety of other reasons").

"This vacancy rate is 2.5 percentage points higher than it has been at any point in the half century the data have been tracked, translating into at least 3 million too many empty housing units in the country," Lindsey frets.

Although homebuilders have been hard hit by the downturn, Lindsey says they are still adding nearly a million units of housing a year. If something like 850,000 new households are formed each year (the 1.9 million young people who strike out on their own minus about 1.1 million old folks who "pass from the scene") and another 500,000 units get torn down, score 1.35 million on the demand side. So at the present rate, vacant inventory is only being reduced from at the rate of 350,000 units per year.

Although he thinks futures markets are overly aggressive in betting that national home prices will fall 30 percent peak-to-trough, Lindsey says that if 2007 is remembered as the year that mortgage credit dried up, "2008 will be the year that home prices plummet." Reducing the inventory of empty houses "should be the first economic, social, financial, and political objective," he says -- but how?

It all comes down to expanding the pool of buyers, and Lindsay sees three types of emerging buyers as particular noteworthy: investors seeking a hedge against inflation, bargain-hunting foreigners who have extra buying power thanks to the weakness in the dollar, and Uncle Sam.

Fears of inflation could bring speculators out of the woodwork who are willing to bet that borrowing money at low fixed-term rates to buy real property will protect them from the Fed's monetary policies, he says.

Also, the weak dollar means the cumulative price declines for condos in markets like condominiums in Florida or Las Vegas is equal to at least 50 percent to an overseas buyer, "So even without legislation to encourage them, foreigners are likely to provide some of the solution to the housing overhang."

While the Bush administration and other critics have condemned Frank's FHA expansion plan as a bailout of speculators, Lindsey points out that only borrowers living in owner-occupied homes would be eligible to refinance into FHA-guaranteed loans. Lenders would have to take a considerable haircut -- recovering no more than 85 percent of the currently assessed value of a property. Because premiums collected from borrowers refinancing into more affordable FHA-backed mortgages would pay for the program, the cost of helping 500,000 borrowers is estimated at about $1.7 billion.

If the current tailspin in some hard-hit markets continues unchecked, Lindsey thinks we could see something like the Resolution Trust Corporation from the days of the Savings And Loans crisis created to pick up the slack.

"It is the ultimate last resort, using the balance sheet of Uncle Sam to save the housing market," Lindsey says. "If nothing else works, a new RTC is in the cards, and those who think Barney Frank's bill is a 'bailout' will be shocked by its size."

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