Detroit and the Limits to Urban Decline

Since the middle of the 20th Century, no American city has experienced the severe economic shock experienced in Detroit. Analyzing the housing of the city, I found the city’s shrinking housing stock has declined at almost precisely the same amount per year, every year: 1% of the existing stock lost. This underlying regularity, independent apparent yearly fluctuations, created the current landscape of the city and shape possible responses.

The numbers quantifying the cause of urban decline in the American Rustbelt are staggering. Between 1980 and 1990 alone, the Northeast and Midwest lost 1.5 million manufacturing jobs and $40 billion (in 1998 $) in aggregate manufacturing worker earnings. During the same time period, central counties of the 28 metro areas in the Midwest and Northeast regions lost 1 million manufacturing jobs. (Kasarda, 2001) The industrial jobs, generally secure and good-paying, constituted the core of the urban economy. Their departure was magnified many times as it rippled more broadly through the economy, as the service jobs supported by the core industries disappeared. African Americans were particularly hard hit. Millions of jobs left, but new jobs were not easily accessible and often required high education levels. These so-called spatial and skill mismatches resulted in skyrocketing jobless rates among central-city blacks. One economist found that by 1990, four fifths of young inner city school dropouts were unemployed. In Detroit, by 1990 Detroit was 79% black and the surrounding suburbs 79% white. For the uninitiated, Thomas Sugrue’s excellent Origins of the Urban Crisis contains a detailed history of the origins of economic decline.

Metropolitan Context

Before I plunge into an analysis of the City of Detroit’s housing stock, it should be noted that the majority of jobs and people in the metropolitan area live outside of the city limits, and also that within the city there exists many middle class and even upper class neighborhoods. Although containing vacant land and buildings, the city presents the visitors a strange combination of energy and investment with decay and abandonment. (Captured well in this blog post) The map to the right, produced by the Southeast Michigan Council of Governments (SEMCOG), shows the vast scale of the metropolis — only the green central municipality is the City of Detroit.

Housing in Economic Decline

Economists theorize that the rate of urban decline is largely determined by the durability of the housing stock. In short, even if the jobs are gone the physical persistence of homes mean people will continue to live there. In a shrinking city, first the households size decrease as the declined population is spread more thinly among the surviving buildings. After reduced household sizes, the market begins to abandon houses. Homeowners may move to the suburbs or out of state, retaining title to the property. Some default on mortgages or fail to pay taxes, resulting in thousands owned by various units of government. In Detroit, tens of thousands of vacant buildings and lots are owned by the city, state, county, and other public agencies.

The vacant structures are dislike by the remaining population. They shelter criminals and drug users, packs of feral dogs, and pose a physical hazard through collapse and lead paint. A strong demolition policy has become an article of faith for city politicians. “Unbuilding has surpassed building as the city’s major architectural activity,” quipped one architect. Between 1978 and 1990, the city issued 9,000 building permits and 108,000 demolition permits. All told, between 1970 and 2000, over 161,000 houses were demolished, a figure one journalist points out constitutes more than the total number of occupied dwellings in the city of Cincinnati today. Nonetheless the city’s severe lack of funding meant demolition could never keep up with abandonment. The U.S. Census estimated in 2006 that fully 23% of the housing stock still standing, or 85,951 units, were vacant. Since 1970, the city has had a net loss of housing units every year according to SEMCOG permit data:

Economists Edward Glaeser and Joseph Gyourko observed in a 2005 paper that the maximum rate of decline for housing seems to be about 1% per year. Without speculating the causes of this speed limit to housing decline, they observe that no matter how fast the jobs disappear, the housing stock rarely declines at a faster rate. I created a graph showing the number of housing units from 1970 to 2008. The U.S. Census counts show a greater decline than is reflected in the construction and demolition permits, a discrepancy caused by unpermitted activity, record-keeping error, and perhaps different definitions of housing units. However, I defer to the U.S. Census to establish starting and end points. The annual net changes from housing permits are inflated 11% so that the total matches the observed change from U.S. Census data over the same period. This method captures the variability shown above, while ensuring the starting and ending points match the Census. Superimposed on the results is a fixed 1% annual decline from the 1970 housing units.

The correlation is striking. If we extend beyond, we can see what the formula predicts. Again, this is not a projection, but simply an extrapolation of a 1% rate of decline from the 1970 Census. The true rate of decline may vary from the formula thanks to public policies, such as public demolitions, or arson. Of course, at any point if the city started growing again we would expect the actual number of units to level off or even increase.

Planning For Decline

How public authorities can plan during decline is an important and under-studied issue. The Shrinking Cities project has sparked discussions around this topic, and officials in Michigan have become leaders by virtue of their unique circumstances. The Genesee County Land Bank in the Flint area (which has experienced similar decline, albeit at a smaller scale) has become a national leader. Their approach is that a government agency should obtain full title to abandoned properties, demolish or stabilize them, clean the lots, and then sell them back to the private market in a controlled way. By limiting the supply the government can realize market, or above-market prices for vacant land and buildings. There have been discussions for creating a similar land bank for Detroit, or Wayne County, and this 2006 report by students at the University of Michigan is an excellent examination of the issue. Of course, for the land bank model to work some private-sector demand must exist for land, and revenues from property sales must cover the costs of program administration. In the absence of a demand for land for new housing in Detroit, any hypothetical land bank would have to find buyers interested in land for commercial, agricultural, or other purposes.

Another approach with a lot of energy is urban agriculture. One of the most ambitious plans for large-scale urban agriculture was developed by students at the University of Detroit-Mercy. Their Adamah plan proposed resurrecting a buried stream, and creating a dairy, tree farm, vegetable gardens, shrimp farm, and wind power. Although nobody has attempted it as the scale envisioned by the plan, today in Detroit 220 family gardens, 115 community gardens and 20 schools participate in the city’s Garden Resource Program. When BLDG Blog’s Geoff Manaugh published a conceptual proposal for converting vacant property in Philadelphia into agricultural land, it provoked this comment:

“i live in west philadelphia, where there are already dozens of ‘abandoned’ lots in my immediate neighborhood that are being used for both small and large-scale gardening. they have it going on up in northern liberties, too. these were started up without the benefit of instructions from some blogger in his ivory tower. it seems that some things just aren’t brilliant ideas until some mouse-pusher who has never stepped out from his/her fluorescent office ‘imagines’ it.”

The same is true to a lesser extent in Detroit, where even un-planted fields can begin to resemble cultivated ones:

Most troubling is the relationship between economic decline, physical abandonment, and social problems. Economists argue the low housing prices in the city will attract those with low levels of “human capital,” creating a cycle of decline. “If low levels of human capital then create negative externalities or result in lower levels of innovation, this becomes particularly troubling because a self-reinforcing process can result in which an initial decline causes concentrated poverty, which then pushes the city further downward.” The barriers to overcome this cycle of economic decline are great, and renewal in Detroit will mean not only increasing numbers of jobs and residents but a reversal of decades of compounding problems.

Resources
> LOST Magazine: Dissapeared Detroit
> Southeast Michigan Council of Governments
> Planning for Detroit’s Tax-Reverted Properties: Possibilities for the Wayne County Land Bank

(Cited: Kasarda, John D. “Industrial Restructuring and Changing Location of Jobs.” in State of the Union: America in the 1990s, Volume I: Economic Trends. R. Farley, ed. (New York: Russell Sage Foundation, 2001). Glaeser, Edward L. and Joseph Gyourko. “Urban Decline and Durable Housing.” Journal of Political Economy 113:2 (2005).)

Book Review: Rybczynski’s Last Harvest

Witold Rybczynski’s 2007 book Last Harvest: From Cornfield to New Town is truly a unique book: an accessible, detailed narrative of the process of real estate development. The book describes the construction of a subdivision named New Daleville in southern Chester County in suburban Philadelphia. Or exurban, rather, since the development is over 45 miles from downtown Philadelphia. (More on that in a bit) The subtitle, “Real Estate Development from George Washington to the Builders of the Twenty-First Century, and Why We Live in Houses Anyway,” suggests the second major component to the book. Interspersed with the story of New Daleville is variety of asides describing the history of residential real estate development and drawing upon Rybczynski’s extensive expertise on the topic. (He is also the author of a history of homes and biography of Frederick Law Olmsted.)

The book features an account of the wrangling with local officials over the subdivision’s site plan, trade-offs on architectural design, technical challenge of providing utilities in a rural area, and the ever-present developer’s bottom line. This rich detail makes it a particularly good introduction to the topic of land development, and it’s little wonder the author is one of the keynote speakers at the American Planning Association conference in Minneapolis this spring. I’ll leave further description of the book to the many reviews that have already been published, whether by the Where Blog, Business Week, or The New York Times.

Despite the good things about it, I have three main concerns about the conclusions it draws about American urbanism in the 21st Century.

First, the book falls victim to selection bias, presenting a distorted view of the American city and traditional neighborhood design. Although Rybczynski describes New Daleville as “neotraditional” and takes great pains to draw links with well known New Urbanist communities like Seaside, Florida or the Kentlands, Maryland, his subdivision shares little with these famous places. Miles from retail amenities, jobs, water and sewer infrastructure, and any of the myriad of other practical ingredients to actual traditional communities, New Daleville is nothing more than a glorified rural subdivision. It’s much-ballyhooed density (the plan was more dense that other area subdivisions) isn’t very impressive either — 125 homes on 90 acres. Although the developer has proven traditional neighborhood development credentials, this is not the project that embodies them. Furthermore, while I appreciate Rybczynski’s impulse to move beyond the over-studied urban core, he’s far overshot his mark. Located in a rural area far from any city, New Daleville is not characteristic of most residential development.

View Larger Map

Second, Rybczynski omits the powerful role of public policy in shaping the form of American cities. He claims the preponderance of single family homes in America reveal a cultural preference, citing neighborhoods with single-family homes around the world and a cultural tradition traced back to Britain and the low countries in Europe. While I agree that culture has played a role, our policies have shaped urban development in powerful ways. The Interstate Highway System (which at one time meant the federal government funded 90% of state’s cost of new interstate highways) made low-density suburbs an option for urban workers. The federal government single-handedly created the “plain vanilla” 30-year fixed rate mortgage. Before FHA subsidies enforced the type, commercial home mortgages required substantial down payments and short payback periods. The federal government also created the secondary market for mortgages, adding a further incentive for home ownership to the substantial tax benefits. An anecdote in Rybczynski’s chapter on Levittown illustrates this precise issue:

“… at the urging of local government officials, the Levitts offered a two-bedroom rental unit for sixty-five dollars a month. Since the monthly mortgage payment on a Levittowner was sixty dollars, there were few takers, and the so-called Budgeteer was soon discontinued.” (165)

He omits the reason the mortgage was cheaper: FHA insurance. I don’t intend to resolve the culture/policy chicken and egg problem, but a quick international comparison can show how policy can influence the form of housing. The U.S., Britain, and Australia are all relatively wealthy countries sharing historical and cultural ties. As we would expect, they share similar homeownership rates (around 66-69%). However, the profile of their housing stock is quite different: a whopping 31% of housing units in Britain are row homes or semi-detached units, compared to just 5.6% in the U.S. On the other hand, Australia outstrips the home-loving U.S. in its popularity of single-family homes. And the percentage of Americans living in multifamily buildings is a healthy 26.3%, so clearly single-family homes aren’t the full story. Here’s the full table:

These differences are the result of a range of forces: approaches to public housing, transportation policy, geography, environmental protection, and yes, culture.

Lastly, the location of his project means the only form of transportation is the automobile. Although it is true the car is king for most American transportation, the absence of any choice whatsoever is artificial. The American Public Transit Administration estimates only 20% of the country are without some form of public transit service. New Daleville’s residents fall into this minority.

The irony is that I think Rybczynski knows all this, describing in chapter nine in detail why many wouldn’t consider New Daleville “smart growth,” concluding “for hardcore, transit-first, rebuild-the-center-city, regional planning advocates of smart growth, New Daleville is merely more of the same, what they don’t want.” (89) He immediately follows this with a description of how the form of the neighborhood will encourage socialization, reduce stormwater runoff, encourage walking, protect open space, and include shared play areas and public space. These attributes, he writes, “will be small reminders to the people living there that they are not only private homeowners but also members of a community. That will be smarter growth indeed.”

In his 1987 book, historian Robert Fishman described suburbia as “bourgeois utopias,” arguing their cultural origins lay with evangelical Christian men in 19th century London who sought to combine proximity to the city’s jobs with an idyllic, urban residential life free of urban vice. Fishman argues the modern movement of jobs and industry to the periphery has meant the end of true suburbs under his definition. Perhaps Last Harvest is part of the suburban tradition: holding up an idealized, rural, economically unsustainable lifestyle as the best way to live, even if the reality of American cities tells a more complex story.

Fishman observes, “the bourgeois utopia rested on a frighteningly unstable economic base. The bourgeois utopia depended for its survival on market forces that even the bourgeoisie could not control.” It is on this note that emeritus urban planning professor David R. Godschalk closes his generally positive review of Last Harvest in last October’s Urban Land:

It is ironic that Rybczynski, with his magisterial grasp of American development history, did not anticipate fully the impact of the current development downturn. Perhaps the five years that he devoted to studying the project blinded him to the cruel force of the boom-and-bust cycle, especially on vulnerable rural subdivisions remote from an urban real estate market. Today, according to Web and news reports, Ryan Homes is offering a cash-back bonus and up to 60 percent off chosen options, and New Daleville is only about half built out with prices halved to get homes off the market.

In the end, these criticisms aside, Last Harvest opens up the largely mysterious process of land development to a popular audience, laying bare the complex factors that produce urban space. By provoking a dialogue and explaining the contrasting viewpoints of the story’s different actors, Rybczynski does urbanists a service and elevates the conversation around residential development. If it provokes an urban planner to build on the work started by Christopher Leinberger in The Option of Urbanism and pen an equally complex and compelling accessible book in reply, so much the better. That at least is the view of this, “transit-first, rebuild-the-center-city, regional planning advocate of smart growth.”

> Amazon.com: Last Harvest: How a Cornfield Became New Daleville

Mass. Survey Finds Nearly One-Quarter of Distressed Homeowners Obtain Loan Modifications

An intriguing new survey by the Massachusetts Association of Community Development Corporations finds that nearly one-quarter of homeowners facing foreclosure who sought counseling were able to obtain a loan modification from their mortgage lender. Drawing from 1,143 people who have sought assistance from non-profit agencies providing housing counseling, the survey also contains information about the percentage of successful resolutions, an overall satisfaction rating by counselors, and a letter grade.

An interesting study would compare these results with people who have not sought assistance from a counselor to measure the role of this assistance. I’m also curious about the nature of the loan modifications. Nonetheless it presents a window to what’s happening at the local level – thousands of homeowners facing hard choices and negotiating with lenders to find solutions.

> Boston Globe: “Lenders graded on response to troubled homeowners”

The Economics of Redevelopment

The photo above is a beautiful sight. No mere pile of dirt, the picture shows excavation for the foundation of a new house in a formerly vacant lot. Located at 1502 10th Street NW, the lot has been vacant at least as long as I’ve lived nearby (2 years) and most likely much longer. Although estimates range, the city of D.C. has thousands of vacant buildings and lots (the official list of buildings alone has over 3,500). Many other cities have much more – roughly 30% of the land of Detroit is vacant. While perhaps some should be reserved for public use, much of this should return to residential and commercial uses.

Holding aside the related issues of housing cost and neighborhood change, redeveloping vacant property in the center city is a good thing. The address discussed here near public facilities, served by public transit, and served by existing infrastructure. It’s also located close to jobs, and it’s a safe bet the future tenant will drive very little, if they own a car at all. It’s smart growth.

Up the street, another long-vacant property is being converted into housing at the corner of Q and 9th. Neighbors celebrated when a property owner evicted a used car lot at 9th and P, posting a large banner advertising the land for sale. Through a rough economic analysis, I argue these events are related. Vacant property is being developed in this part of Shaw because housing sale prices have reached the cost of construction.

My simple model of redevelopment is this: residential development will happen on vacant land when it can be sold for more than it costs to construct. I assume land costs and taxes are sunk costs, and land owners are rational and build when they can make a profit, not speculators. Luckily both sale prices and building costs are available. Let’s see how the numbers work out. (For simplicity I’ll discuss home and condo sales, however from an economics perspective the reasoning should also work for rental properties through a net present value calculation.)

Sale Prices

A review of recent sales (I used Zillow.com) in the Dupont Circle neighborhood finds sale prices ranging from $500 per square foot to over $710 per square foot for homes and condominiums. Conversely, recent sales in eastern Shaw are less, ranging between $303 per square foot for a property on 7th to $502 per square foot for a condo at 6th and Q. Although there is some variation in each neighborhood, sale prices generally follow a pattern when measured by the square foot.

As for our property, just up the street at 1516 10th Street, a 756-square-foot condo sold in 2005 for $332,000, roughly $439 dollars per square foot.

Zoning

Zoning determines how much housing can be built on our lot. The parcel, measuring 1,285 square feet, is zoned R-4, a standard residential zone in the district for row home neighborhoods. Here’s the summary of what the zone requires:

Permits matter-of-right development of single-family residential uses (including detached, semi-detached, row dwellings, and flats), churches and public schools with a minimum lot width of 18 feet, a minimum lot area of 1,800 square feet and a maximum lot occupancy of 60% for row dwellings, churches and Flats, a minimum lot width of 30 feet and a minimum lot area of 3000 square feet for semi-detached structures, a minimum lot width of 40 feet and a minimum lot area of 4000 square feet and 40% lot occupancy for all other structures; and a maximum height of three (3) stories/forty (40) feet. Conversions of existing buildings to apartments are permitted for lots with a minimum lot area of 900 square feet per dwelling unit.

Note the actual lot size is smaller than the zone’s “minimum” size, this is typical for historic neighborhoods. I’m not sure if this affected the owner’s actual lot occupancy, but I can find no mention of the property on the Board of Zoning Adjustment website. It was subject to historic preservation review but the report does not mention the planned lot coverage. If we assume the owner is allowed the 60% coverage, that results in a building footprint of 771 square feet. Multiplied by the allowed height of three stories we get 2,313 square feet for the new building.

Building Costs

Costs of construction can vary depending on a host of factors and the design and character of the structure. The RSMeans website provides a free calculator for zip-code specific costs for various types of buildings. Each estimate includes the building cost, contractor profits, and architectural fees. Using their free cost estimator, I estimated the cost of a 2,313 square foot wood frame apartment building. The estimates ranged from $806,766 on the low end to $1,120,508 on the high end. Recently contractors have been affected not only by increased costs of gasoline, but also increasing costs for metals, piping, and other raw materials. Furthermore, the historic preservation review process may have resulted in additional architectural fees.

Adding it Up

If the new house sells at $300 a square foot, the going rate for condos farther east in Shaw, the property would net $693,900, over $100,000 below RSMean’s lowest cost estimates. At $400, the property would bring in $925,200, and at $500 the property would be worth $1,156,500. Although the calculations are rough, they do seem to corroborate the theory. According to the RSMeans estimate, housing cannot be profitably built in the neighborhood at $300 a square foot, but at $500 a square foot a small profit looks possible. Of course, there are a host of variables that can make housing profitable in neighborhoods with lower prices, including the greater economy of larger buildings and public subsidies like tax credits. Nonetheless, the exercise serves to underscore the role of construction costs in neighborhood investment patterns. If you’re wondering why nothing’s happening with vacant land in your neighborhood, get calculating. Or ask a developer, since they would likely know best.

Subprime Mortgages and Race

The map to the right shows the overwhelming majority of subprime loans and foreclosures in New York City have been in minority neighborhoods. (Created by NEDAP via NY Times) The map tells an often-overlooked fact: the subprime crisis has hit minority neighborhoods harder than white ones.

The banking industry sometimes claims the differences in lending between whites and blacks and Hispanics are due to differences in credit and income. Although income plays a role, last year the New York Times reported that after controlling for the size of the loan and income of the borrower, blacks were 2.3 times more likely and Hispanics two times more likely than whites to have a high-cost loan. They cite the example of two neighborhoods in Detroit, both with median incomes around $50,000 — 70% of loans in the black neighborhood had high interest rates, while only 17% did in the white neighborhood.

Another study found that homeowners in upper income black neighborhoods (income above 120% AMI) were twice as likely to have subprime loans as homeowners in low-income (income below 80% AMI) white neighborhoods. Almost 40% of the loans in the affluent black neighborhood were subprime, versus 18% in the low income white neighborhood.

One article (PDF) thinks it is precisely that statistic that suggests something more – whether discrimination or a simple lack of prime lenders — is to blame:

The finding that upper income African-American borrowers rely more heavily on the subprime market than low-income White borrowers suggests that a portion of subprime lending is occurring with borrowers whose credit would qualify them for lower cost conventional prime loans. There is also evidence that the higher interest rates charged by subprime lenders cannot be fully explained solely as a function of the additional risks they bear. Thus, a greater presence by mainstream lenders could possibly reduce the high up-front fees and interest rates currently being paid by residents of low-income and minority neighborhoods.

The Times speculates in addition to a lack of prime lenders, other reasons could include aggressive sales in minority neighborhoods, less financial saavy, and lower net worth of minority lenders. Regardless, the stark numbers show that while the worst redlining may be behind us, the problem of equitable housing finance for urban neighborhoods still eludes us.

> NYTimes: What’s Behind the Race Gap?
> W. Post: Subprime Mortgages and Race
> HUD: Subprime Market Growth and Predatory Lending (PDF)

The Equity of Housing Tax Benefits

The wide-ranging housing bill recently passed by Congress includes a program to help homeowners avoid foreclosure, money for community development, and other measures. One of its important provisions is a one-time tax benefit of $7,500 (or 10% of the home’s purchase price, whichever is less). Unlike many of the existing tax benefits of home ownership, there’s an income limit and the benefit must be repaid, although without interest. The income limit is $75,000 for singles and $150,000 for couples.

The National Association of Realtors explains the the pay-back requirements:

It is not a full credit because you do have to pay back this amount over a 15 year time period from the second year. The payback provisions also have many conditions, which we are further researching. But in the worst case, you would need to pay back the $7,500 over a 15 year time span from 2010. So in your 2010 tax filing, you would need to pay $500. Even in the worst case scenario of paying back the tax credit fully over a 15 year time span, the tax credit is still a huge benefit to homebuyers. First, money today is worth more than money tomorrow – far more than money 15 years from now. Money loses value over time due to inflation and from the interest income one would receive on that money before fully paying it back.

Let’s take a look at the effects of the existing homeowner tax benefits.

This 2004 report from the National Low Income Housing Coalition has some interesting analysis. This graph breaks down the estimated size of the various housing tax benefits, including the mortgage interest and property tax deduction and housing capital gains exemption. They point out these three benefits were more than double HUD’s total outlays in 2004.

The particularly interesting things about these benefits is how deeply regressive these benefits are. When housing programs and tax benefits are factored, we spend 2.2 times more money on housing for the richest two-fifths of the population than the poorest two-fifths. The richest fifth of society — with incomes above $86,585 in this 2004 report — get over $50 billion in benefits.

Since the benefit is something of a sacred cow, I don’t expect it to go away anytime soon. We should just keep them in mind when debating funds for affordable housing or the equity of congestion charges.

> National Low Income Housing Coalition: Changing Priorities: The Federal Budget and Housing Assistance 1976 – 2005
> USAToday: Housing rescue bill may fall short; Who benefits?
> The Tax Foundation: Who Benefits From the Mortgage Interest Deduction?

Preventing Another Subprime Mortgage Crisis

I think this article describes the origins of the mortgage crisis as good as any, and outlines the drawbacks of any bailout. However, I’m interested in the root of the problem. What can we do to minimize the number of foreclosures to begin with?

First, a bit on where we are. Although hard facts are hard to come by, the best data indicates the subprime crisis will continue through this year, and perhaps longer. This chart from an IMF report shows that the majority of subprime loans resets will have ended, but the next three years the rates on a number of option adjustable rate and alternative (“Alt-A”) mortgages will also reset. Although considered better quality than subprime loans, option adjustable rate loans can feature increasing minimum payments if borrowers have been choosing to pay the minimum. The worsening economic picture won’t help, and the dry language of the IMF puts it this way: “borrowers experiencing payment difficulties are expected to have fewer refinancing options, since falling house prices reduce the amount of homeowner equity, while tighter lending standards limit the range of mortgages available to nonprime borrowers.”

What regulations could be considered?

Some argue greater disclosure requirements are needed. An Ann Arbor attorney complains the HUD-1 form, the standard disclosure form for all mortgages, needs improvement:

While RESPA has standardized the information available in mortgage transactions somewhat through the familiar HUD-1 or settlement statement, much of the information is still very hard to decipher and true costs of a loan are often obscured. The Good Faith Estimate that RESPA requires is toothless since there are no penalties for errors, and is often used to bait borrowers with attractive terms that are then switched into unfavorable, expensive loans at closing.

Barack Obama also proposes additional disclosure requirements through something he calls a Homeowner Oblication made Explicit (HOME) score, stating “today’s subprime mortgage problem stems in large part from the lack of easy-to-understand information that borrowers receive from mortgage brokers.” His score would

provide potential borrowers with a simplified, standardized borrower metric (similar to APR) for home mortgages. The HOME score will allow individuals to easily compare various mortgage products and understand the full cost of the loan. The HOME score would also help borrowers understand their long-term obligations and would be required to include mandatory taxes and insurance.

Others place blame on brokers who profit from selling mortgages, and propose broker regulations. This report on the racial disparities in mortgage lending describes the problem well:

Brokers do not work on behalf of the borrower or the wholesale lender or investor who funds the loan. Instead they receive compensation from the borrower in the form of origination fees and points, and often they receive an origination fee from the mortgage banker at the time that the loan is funded. A mortgage delivery system wherein brokers are compensated for making loans but have no long-term interest in loan performance is subject to what economists call “principal agent risk.” A broker (the agent) has little or no incentive to worry about whether the information presented in the mortgage application is accurate as long as the information gathered is sufficient to cause the mortgage banker (the principal) to fund the loan, triggering payment of the broker’s fees (which is not to suggest that all mortgage brokers mislead borrowers; many work hard on behalf of borrowers to match them with the best product). Without a long-term interest in the performance of the loan, brokers are immune from the potential adverse consequences of both failing to match the borrower with the best available mortgage and failing to provide accurate data to underwrite the loan. Both affect the odds that the loan will default, which can have devastating consequences for the borrower.

The article continues to explain reports show broker-originated loans are more likely to default than retail loans, even after controlling for credit and income. A separate study concluded setting a higher minimum net worth requirement for brokers is associated with fewer subprime loans and foreclosures. Rules regulating mortgage brokers vary widely by state, which may explain why the foreclosure crisis has been so uneven by state, with some states being particularly hard hit. I found this map a striking illustration of the uneven pattern.

However, even while showing that more regulations is statistically associated with fewer foreclosures, the paper cited above showing regulations cut foreclosures warns against possible “unintended negative consequences.” Here’s the crux of the regulation problem — in a quest to maximize home ownership, the federal government has socialized the risk (through mortgage insurance and occasional bailouts) and cut mortgage regulations to push mortgages out to the maximum number of people. Because no market is self-regulating, when lenders go too far taxpayers are left holding the bag in the form of bailouts of banks or the GSEs.

I support more aggressive measures than are generally discussed. Hard limits should be set on the terms of the most usurious “exotic” mortgages, brokers more tightly regulated, and some loans prohibited. The Center for Responsible Lending is rare in their support of prohibitions of certain loans to people with bad credit.

Of course, many argue additional reforms are needed in the financial markets to restrain the market demand for bad mortgages, but this goes way beyond my expertise. What regulations do you think are needed?