“Either you bring the water to LA or you bring LA to the water.”

– Noah Cross, Chinatown

“‘Course I’m respectable.  I’m old.”

Someday I’ll post in detail about Chinatown, because it (and its spiritual cousin, True Confessions) is a great film about housing development and municipal infrastructure, whose economic power did much to define Los Angeles – a city that grew where it wanted to grow.

Self-gerrymandered with self-interest in mind: Los Angeles

In a similar way, the typhoon-battered city of Manila is now proposing to grow by relocation, moving those who lived on its squalid and polluted river banks out to a new city a-building.  As reported in Bulatlat:

16 Oct 2009: Relocation Solution Poses a Dilemma to Slum Dwellers Made Homeless by Ondoy

Days after Ondoy struck, the government declared that it would no longer allow these poor Filipinos to return to their shattered homes.

Manila waterway slums before the typhoons

What is the ‘home’ to go back to?  Disaster can create an urban palimpsest, wiping away everything but the land itself.  So, as in Joe Slovo in Cape Town, we have the tension – an urgent need to do something very quickly, and a unique opportunity to do something very profound.

MANILA – In the aftermath of typhoon Ondoy, many were quick to blame the urban poor living along the creeks, waterways and riverbanks of Metro Manila. Their shanties and their garbage block these sewage systems, hence worsening the impact of the typhoon, so goes the familiar criticism.

Nonsense.  While I have not toured the now-destroyed riverbank slums, the pictures I saw at the Asia-Pacific Housing Forum, coupled with the scale of flooding, make this claim just about impossible. 

Days after the disaster, the government declared that it would no longer allow these poor Filipinos to return to their shattered homes.  Vice President Noli de Castro, who also chairs the Housing Urban Development Coordinating Council, confirmed in a news report that the families who were living along waterways and riverbanks would no longer be allowed to rebuild their homes in those areas.

Mr. de Castro’s long been interested in housing and slums

Anti-poor, or another reason?

He said government-acquired lands outside of the metropolis are more than enough to give homes to the displaced victims of Ondoy.

A good idea … if built fast enough.

De Castro offered 1,400 houses that may be utilized as relocation sites for displaced victims of Ondoy.

Sounds better …

Of these, 400 units are located in Towerville Resettlement in San Jose del Monte, Bulacan; 250 units in Southville 4 in Sta. Rosa, Laguna; 500 units in Southville 5 in Biñan, Laguna; and 250 units in Southville 5-A, also in Biñan.

Metro Manila – growing like Los Angeles

That’s the alternative offered – not a return to the insecure, filthy, disease-ridden rabbit warrens you knew, but to cleanly blocked and properly built new house.  There’s a powerful case for it.

“Our cities are so bad I sometimes wonder if we should just build completely new ones from scratch.”

– Quote from a Mexican expert at the AHI symposium

Mexico City, 28-30 October, 2009

Manila waterway slums before the typhoons

Imagine if you could de-densify the slums by expanding the city.  Can you?

He said there are 5,721 lots that may be developed to accommodate the displaced families.

Reblocking – Solly Angel’s arterial grid of dirt roads, plus security of tenure in your own plot of land – is a powerful combination.  Give people s plan and confidence in their piece of it and they will build.

“Technically, there is nothing wrong with the relocation of the families living along the areas that the government deems as danger zones,” Jon Vincent Marin, spokesman of the urban-poor group Kadamay, told Bulatlat.

A group worthy of your support

I bumped into Kadamay at Asia-Pacific.  I liked their thinking and tend to trust their perspectives.  Nor is he an unthinking doomsayer:

Marin emphasized that their organization understands the direct and immediate threat that storm surges could bring to these families.

Yet he’s a further realist:

“But if they will be relocated to areas where there is no social services and job opportunities, then there is something wrong with the relocation,” he pointed out.

Ay, there’s the rub.

Will the government follow through by creating not just a relocation camp but an actual city beyond the city?

“The government thinks that the only solution to the problem is to relocate urban-poor communities outside Metro Manila where they would not survive,” Marin said.

People move to cities in search of a better life.  Relocating them to the far countryside without income opportunities is like pulling up weeds and transplanting them to the desert; they’ll die, and your city will still have weeds.

He said these families would eventually return to the metropolis and live along the riverbanks and waterways because their condition in the relocation areas are worse than what they would be leaving behind in Metro Manila.

One cannot repatriate people into the rural poverty and expect them to stay here.  But you can bring the city to the country.  Paging Noah Cross.

Or should we?

“I’m going to bring LA to the water.”

As a participant at AHI’s recent Mexico City symposium on land irresolution commented, “People can become urbanized without moving.”

Manila waterway slums before the typhoons

Chinatown’s Noah Cross wanted the valley to become Los Angeles simply to boost the value of its land.  He had no thought of affordability except insofar as it could be achieved by building blocks and locks of houses.  “The future, Mister Gitts, the future!” 

Marin said the mere location of the resettlement areas pose problems to the families. “Most of these relocation sites are located in remote areas. They would have no source of income there. Naturally, they would want to go back to the metropolis, where at least they would have something to eat.”

He didn’t foresee that LA would grow so vast that even the valley would be built-up and dense, or that its most enduring feature would be the marvelous grid of streets, not the boxy bungalows he scattered like a human orchard.  He can be excused his lack of foresight regarding the need for social infrastructure, but the Manilans have no such excuse.

“At the right time, and in the right place, a man is capable of just about anything.”

In a recent relief operation, the Citizen’s Disaster Response Center found that most of the houses in the resettlement area in Marilao, Bulacan, had been washed away. “The houses there were made from substandard materials,” deputy executive director Carlos Padolina told Bulatlat. He said the walls were mere layers of hallow blocks and without the thick metal braces inside that would have supported these.

You must fix the houses.  You must fix the income-generation possibilities.

Should the “relocatees” choose to continue working in Metro Manila, they would have to spend so much for their fares to go home to their new homes, the transportation cost eating into the little income they have.

Manila waterway slums before the typhoon: bathing

In such a case, the families would solve their problem by geographically dividing: the earner in the city, his or her family in the country.  That’s family-destabilizing.  So is this:

Marin added that most of the relocation sites do not have access to basic services such as hospitals and schools.

City-building involves building new economies.  If you want people to come, you must build it.  Build a social infrastructure: homes, schools, jobs, shopping, safety.  Expand the city; bring it to the country.

And since the framework of the housing services of the government is profit-oriented, the resettlement units are not given free.

That’s sound policy: People value only what they pay for.

Be it ever some humble, you should pay something for it

Only this week, de Castro said that the resettlement for the victims of Ondoy will be offered at an “affordable” package of two-year moratorium on their payments, with a monthly amortization of roughly P200 at 6% per annum that is payable in 30 years.

That’s an extremely affordable monthly payment. 

But Marin said that “even if it’s just P300 to P500 a month, we have to consider the kind of jobs that they have. They have children to feed and to send to school.”

Yes, affordability is measured relative to income.  It has to be.

“For a genuine housing service for the poor,” Marin said, “a big fund is needed.” But he told Bulatlat that these projects of the government only receive 0.4 to 0.6 percent of the total budget for the expenditure of the government.

Affordable housing is expensive for government.  Money is a gating factor. 

No entry into housing without money

More money is better – but some money is much better than no money, and smart money is best of all.

 “Relocation should not only include houses. It should include social services and livelihood for the people,” Marin said.

In a statement, Kadamay reiterated that the devastation that Ondoy has brought could be the perfect opportunity for the government to change their housing projects for the poor.

Yes, if one can move quickly and wisely.  Not easy.

“We should all remember that the poor communities living along the riverbanks and waterways are only there because of too much poverty, lack of job opportunities, source of livelihood and social services,” he said. “They are not dusts that the government can sweep under the rug.” (Bulatlat.com)

If that happens, it will be as Noah Cross put it:

“‘Course I’m respectable.  I’m old.  Politicians, ugly buildings, and whores all get respectable if they last long enough.”

– Noah Cross, Chinatown

“And I lasted long enough”

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I’ve given you every chance to move, Black

As revealed in a recent Guardian (UK) article, if the private participants don’t move, the government can find itself stalemated.

Why aren’t you moving?

It was a £1.5bn cash injection that was supposed to make a dent in England’s 5m-strong housing waiting list.

Five million waiting list?  In a country of 60 million total? 

The NHF, which represents housing associations, estimates that households on the waiting list in some areas would have to wait 280 years for a home.

I’ve got a good chance to be next up

Chief executive David Orr says: “What was already a significant problem [of demand for affordable housing] is getting worse on a day-by-day basis.”

Doesn’t that signal there is something powerfully wrong with the UK’s housing production system?

“In the short term, we have got to do as much as we can [to build], given the circumstances.”

So when housing minister John Healey announced the government’s new affordable housing drive this summer, first reactions were positive.

Want a billion pounds?

“The cash was a bit of a surprise and very welcome,” says Richard Capie, policy director at the Chartered Institute of Housing (CIH). “When was the last time you saw money coming from education, health and transport into housing?”

Capie can’t remember seeing money flowing from education into housing

But now the excitement has subsided, questions are being asked about the government’s new plans and its attempt to spend its way out of the house-building slump. Can the money really do anything to ease waiting lists?

Depends on how many homes the money builds, and at what affordability level.

And how can we provide enough affordable homes for the future once the funding runs out?  Such issues will be at the heart of the National Housing Federation (NHF) annual conference starting in Birmingham today [23 Sep 09 – Ed.].

Certainly, plenty of cash is going into addressing the development downturn: the new £1.5bn comes on top of £1bn in the Budget, including a special fund to restart stalled development projects. Housing associations are building, despite:

[1] Tougher access to finance

[2] Tightening land supply

[3] The collapse in demand for ownership that makes it impossible to cross-subsidise schemes with homes for sale.

You’re out of the building business

Tell again why they’re building?

Keith Exford, chief executive of one of the biggest developing housing associations, Affinity Sutton, says his association “is whole-heartedly open for business.”

Of course they are.  Sharks gotta swim, and bats gotta fly.  Developers gotta chase the next deal ’til they die.

But he warns that the recession is straining the system. “If you are going to do social housing without the benefit of cross-subsidy, then you need more grants and you build fewer houses out of available resources,” he says.

Cross-subsidy, which I liken to the unicorn – much pursued and seldom captured – is predicated on selling market-quality homes at market prices without having to spend  market costs (usually for land) to develop them.  Then the ‘excess’ profits resulting are plowed back in to greater affordability on the other apartments.

“We need to start thinking about the current development model as I can’t see how it can survive.”

That development model is precarious.  More than precarious.

Must answer me, these questions three

Ere the other side he see

In the US, we’ve seen that the LIHTC delivery system has been disrupted, and although it is slowly repairing, it has some ways to go.  The British system is under different but no less profound stress.

The NHF also argues the government is undermining social housing growth by insisting that housing association rents be cut by 2% because of falling inflation.

First case of mutual stalemate.  It’s tempting to scale back resident rent increases, but every dollar so saved is a dollar less of free cash flow to the Housing Associations – which, as non-profit MEEs, deploy their excess capital into building new homes.  By easing the stress on current residents, they prevent other people from becoming residents in the new homes Housing Associations would otherwise develop.

Orr estimates the cut would cost associations £260m a year, slashing development by up to 4,000 homes a year.

To save the many 2% a year, we leave 4,000 out in the cold.

If it were up to me, I’d charge them 2% more

And this is self-defeating; in the long run, lack of supply will push up rents.

“When we are expecting to see public capital investment reduce, reducing associations’ revenue capacity just makes development more and more difficult.”

What would make a real difference, associations say, is a readier supply of mortgages for those wanting shared ownership.

Certainly – but if the overall interest rates go lower, that will also push up prices.  Stalemate again?

They also urge more flexibility from councils on planning to make it easier for developers to build. Councils, associations believe, should not expect as much from planning gain – where developers incorporate affordable housing in return for planning permission – as they once did.

As I’ve previously posted, the UK’s form of inclusionary zoning, Section 106, is a zero-sum game.  Whatever the locality wins, the sponsor loses.  Every dollar of affordability grasped by the locality is a dollar less profit, land value, or risk cushion.

Councils themselves have now been put centre stage in developing new social housing. Earlier this month, the government confirmed 47 councils will share £127m to build more than 2,000 homes, with more money up for grabs in the autumn.

That’s £63,500 per home of permanent sunk (non-recoverable) cash equity out.

One per new affordable home?

There are also planned reforms to the way council housing is funded, allowing councils to keep money from rents. The Local Government Association (LGA) is urging the reforms to be pushed through quickly. LGA chair Margaret Eaton says: “Councils could build up to 300,000 new homes and improve conditions for millions of tenants if there is root-and-branch reform of the housing finance system and the government takes away the barriers to building.”

Like the love affair with greenfield preservation.

But some authorities are unhappy about the house-building drive, since it means the funding they need to improve their existing stock is on hold.

Another stalemate?  Spend more to build new and you have less to rehab existing? 

That’s the consequence of the public housing dependency trap.

The authorities affected – around a dozen that have set up arm’s-length management organisations (ALMOs) –

In addition to housing associations, UK public housing is operated by local authorities.  Under the Labour government, strong coercion was applied to compel those authorities to set up professional management operations (Arm’s Length Management Organizations, or ALMOs).

I’m tickled to be an ALMO

Having relied on the government for funding, the ALMOs find themselves in the position of Flounder in Animal House: “You effed up.  You trusted us.”

– now stand to lose hundreds of millions in decent homes programme funding. Gwyneth Taylor, policy director of the National Federation of ALMOs, says the government should not renege on its promises to existing tenants.

Taylor doesn’t believe in reneging

“They are throwing all their eggs into one basket, when there’s no guarantee all the £1.5bn will be spent,” she says.

Catch the subsidy!

Block that metaphor!

For the Conservatives the answer lies in scrapping current house-building targets, which, according to shadow housing minister Grant Shapps, are just imaginary numbers. “In many ways it’s not through lack of money that we are not building enough homes… [the government] has got the wrong approach, with: 

[1] Too much targeting

[2] Inefficient ways to spend money

[3] Lots of schemes that add little, and

[4] Cumbersome administration.”

(”Other than that,” he added, “they’re swell fellows.”)

For Exford, recently appointed to the Joseph Rowntree Foundation’s new housing taskforce, which aims to develop policy options, the solution could lie in more homes for intermediate and market rent.

Basic principle: if you add supply anywhere on the income/ cost continuum, you will ease stress throughout the system.  That would be a move to loosen the stalemate.

More flexible options could bridge the gap between those who can afford ownership and those who qualify for scarce social housing. “We need a more sustainable, mixed-income, mixed tenure product range,” he says.

The CIH’s Richard Capie argues that, in the wake of a government pledge to make the allocation of social homes fairer – councils are being urged to inform communities better about who gets housing, for example – there should be a range of “price points” for affordable housing.

“Someone in a social home on £65,000 and someone next door on housing benefit both pay exactly same rent. It’s not about them being in the properties – that’s a good thing – but should we be looking at rent geared to income? That would give you more rental income and that’s how you build more homes.”

Means-testing is another form of poverty trap.  Another possible mutual stalemate.

The time is ripe, many feel, for change, and this is acknowledged by Sir Bob Kerslake, chief executive of the Homes and Communities Agency: “It is critical that the sector actively joins the debate and is open to new models. Who knows what the process will bring, but we are more likely to succeed through collaborative thinking across the housing and regeneration world.”

To make a move, you’ve got to break the mutual stalemate.

At least it’s not stalemate

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Who ordered the large?

That’s the sinking feeling probably being experienced by the government public-private team trying to recruit developers into their Herculean effort to redevelop Mumbai’s Dharavi slum, as the global credit crunch thins the ranks of potential development consortia.  As reported on Live Mint:

Six consortia opt out of Dharavi project bidding

Bangalore: Six of the 14 teams in the fray to bid for a Rs15,000 crore [$3.2 billion – Ed.] Dharavi makeover project have opted out, jeopardizing the scheme.

Five consortia have to be chosen to develop one sector each of the 535-acre shanty town in Mumbai, to make it a part of the growing residential and commercial development within Mumbai.

It always looks so easy on the maquettes

With only eight candidates in the bidding, it will be hard to create the sense of government leverage necessary to extract a favorable deal for each parcel.

“I am going to raise this issue with the committee of government secretaries that the number of participants does not give scope for adequate competition,” said Gautam Chatterjee, chief executive of the authority. “The committee will take a final call on what should be done with the bidding process.”

When it negotiates with the private sector on a macro project, government is usually out-traded: for several reasons: the talent updraft, government’s slow OODA loop, their information/ analytical disadvantage, and the necessity for government to have a consensus outcome.  [And that's even omitting entirely the possibility of corruption and bribery in the award process – Ed.] 

Will Dharavi disappear in favor of high-rises?

It’s been a particular challenge at Dharavi, which, as I’ve posted, has been politically contentious from the beginning. 

On Friday, the Dharavi Development Authority asked the 14 short-listed groups to submit to it the memoranda of understanding among the team members.

A very good idea – it flushes from cover who is actually a team and who is simply a mob hoping to win the beauty contest and then plunder the opportunity.

We had fourteen, but six of us were shams

This was asked after rumours that many of the international and local companies wanted to opt out of the project in the wake of the global economic downturn.

The DDA asked a question, and got an answer it didn’t like to hear, but needed to hear:

Lanco’s flame has gone out

Some lead members of teams that are not a part of the project any more are Unitech Ltd, K Raheja Universal Pvt. Ltd, Lanco Infrastructure Ltd, RNA-Videocon, Runwal group and Kalpataru group.

Videocon tuned out

Runwal ran away

Kalpataru got lost

Normally when you’re negotiating, you assume that any offer the other side makes will be on the table indefinitely.  Public-sector and pro-poor groups conducting such negotiations, who are at an information and analytical disadvantage, tend to play their cards by instinct, judging what they can squeeze more by how the other side behaves than by their own internal analysis.  Most of the time that works, especially when there are multiple private bidders competing for the same business. 

When the number of bidders shrinks, the public sector’s disadvantage gets worse.

Among the remaining teams are Lodha Developers Pvt. Ltd and DB Realty Pvt. Ltd. The two firms recently filed their draft red herring prospectuses to raise money through initial public offerings.

Financing their Dharavi development through an IPO??  You’re kidding, right?

That’s a joke, right?

Lodha has tied up with a Malaysian construction firm, LBS Bina Group Berhad, as its technical partner, and DB Realty has teamed up with its subsidiary, Conwood Agencies Pvt. Ltd.

Slum redevelopment is challenging, because it is so much more than simply large-scale construction.  Further, the public-private negotiations are extensive, time-consuming, and fraught with uncertainty.  The private sector converts uncertainty into cost, and cost reduces profit/ equity potential. 

Less profit to work with

The value of urban land depends on the net residual profit to be derived from developing it; as a result, land price is the most volatile line item in the total uses of funds.  To that uncertainty, add the uncertainty inherent in dealing with government.

Looks yummy but perishable

Then put another scoop of uncertainty for the slumdwellers themselves, who have an effective voice and are not shy about using it.

“Developing slums in Mumbai needs expertise because such projects have serious socio-political complications,” said an analyst with an international property consultancy, who didn’t want to be identified.

At some point it becomes unstable

With slums being hard to redevelop, the surprise is less than some opted out, but that that so many have stayed in so long:

In March, following a harrowing six months of liquidity crunch and slow property sales, five out of 19 teams had opted out, leaving only 14 in the fray. Some the prominent firms that exited were Housing Development and Infrastructure Ltd (HDIL), and Reliance Engineering Associates Pvt. Ltd and Urban Infrastructure Venture Capital Ltd.

Big bids always have big consortia – and if one or two team members get cold feet, the team can disintegrate.

HDIL, one of the country’s biggest slum redevelopers, was forced to opt out after its US-based partner Lehman Brothers Holdings Inc. went bankrupt in September 2008.

Sorry, Lehman

“We had been getting a little jittery about the project and don’t want to be a part of the project anymore,” Sandeep Runwal, director of Mumbai-based Runwal group, had said in September.

Don’t throw me out with the bath water, okay?

Property consultants who have tracked the Dharavi project closely said the biggest problem with the participants now is that none of them really has experience in redeveloping slums.

Said an analyst with an international property consultancy, who didn’t want to be identified, “besides DB Realty, no other team is equipped for that.”

Dharavi is still the fixable slum.  Still, government may have played its cards too slowly, and there may be much less financial ice cream.  If I were advising government, my advice would be move quickly and designate some developers.  The ice cream cone is melting fast, and you may be contending over nothing.

The way to think about development opportunities

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[Continued from yesterday's in Part 1.]

In yesterday’s post, we compared the public pronouncements of two enormous governmental lenders whose financial viabiltiya nd liquidity are in question: FHA in the US, from the New York Times (in plain text) and the World Bank, from the UK Telegraph (in indigo palatino).  The World Bank, which wants more capital from its member nations, says it’s not broke but illiquid, while the FHA told Congress that even though it can never be illiquid (because it’s guaranteed by Treasury), it’s not broke.

The hearings on Thursday came on the same day that the federal agency charged with overseeing Fannie Mae and Freddie Mac provided a somber assessment of those giants’ health. In the year since the government stepped in to rescue them, the companies have taken $96 billion from the Treasury, and may need more.

Since the bottom fell out of the mortgage market, the FHA has assumed a crucial role in the nation’s housing market. Created in 1934 to help lower-income and first-time buyers purchase homes, the agency now insures roughly 5.4 million single-family home mortgages, with a combined value of $675 billion.

While those figures are well short of what Fannie and Freddie have been financing, they represent a large and rapidly rising inventory.

 “It appears destined for a taxpayer bailout in the next 24 to 36 months,” Edward Pinto, a former Fannie Mae executive, said in testimony prepared for the hearing. Mr. Pinto, who was the chief credit officer from 1987 to 1989 for Fannie Mae –

I can’t find out much about Edward Pinto.  His December, 2008 testimony describes his background this way: “real estate financial services consultant … left the company in 1989 and since then I have specialized in providing mortgage finance related consulting services.  Since leaving Fannie Mae, I have followed the GSEs closely.”  He thinks CRA is toxic – and I don’t.  Color me cautious in accepting his opinion as gospel.

I suspect no one … and everyone

– went further than most housing analysts and predicted that FHA losses would more than wipe out the agency’s $30 billion of cash reserves.

Mr. Pinto seems to be dining out on these gloomy predictions, which to be sure doesn’t necessarily make him wrong.

The troubled loans are nevertheless weighing on the agency’s capital reserve fund, which has fallen to below its Congressionally mandated minimum of 2%, from over 6% two years ago.

The optimism expressed by Mr. Stevens, the FHA commissioner, places him at odds not only with some outside experts but with Kenneth Donohue, the inspector general of the Housing and Urban Development Department, who is also FHA’s watchdog. Mr. Donohue said the drop in reserves was “a flashing red light” that the agency was not taking seriously enough.

“It might be we’ll get ourselves out of this and that everything will be fine, but I don’t paint that rosy a picture,” Mr. Donohue said. “They’re banking on the fact that the economy will continue to improve, that the housing market will begin to sustain itself.”

We are in unknown territory; all actions involve risk. 

Anywhere you go, hic sunt dracones

Maybe I’m parsing too carefully, but Mr. Donohue’s warnings – entirely appropriate ones, he’s the Inspector General – are not the same as claiming that FHA “appears destined for a taxpayer bailout.” 

Rather, he’s sounding a warning similar to Mr. Zoellick’s World Bank warning:

Mr Zoellick, speaking at the opening of the IMF and World Bank annual meetings in Istanbul, said the Bank needed a capital increase of $3bn-$5bn, though others suspect the eventual need could be higher still.

The increased capital will represent hard equity that will provide the first-loss cushion for future lending.

Think of hard equity as the lender’s air bag

He said he hoped that its shareholders, including the UK and other leading nations, would decide on resources before its spring meeting next April.

Mr Zoellick said: “We recognise that all countries are under budgetary strain and it is not an easy time to be asking for these things”. He said that a shortfall of cash for the IFC was a cause for particular concern, Mr Zoellick added, “because one of the issues in this recovery is the hand-off from government stimulus programs to private-sector development.”

He’s reminding us of a point all too often forgotten: government should be a catalyst, stimulating first-mover activity on the bankable frontier, colonizing the space and then vacating it when it has been formed and stabilized.  Government must boldly go where no private market has gone before.

“To seek out new loans and new innovations”?

The World Bank intends to lever that $3-5 billion in new equity 95-97%:

Critically, the Bank’s three-year $100bn programme, committed to last year because of the virulence of the financial and economic crisis, is expected to fall short of the eventual demand from struggling economies. The majority of the money has been spent ensuring the survival of the most vulnerable nations.

If $3-5 billion of new equity will lever $100 billion in new lending, that’s a 3-5% ‘down payment.’ Oddly enough, that’s the same ratio at which FHA is now lending:

The government has stepped into the breach, facilitating loans with down payments as low as 3.5% and offering other incentives to stabilize the market. Real estate agents in some hard-hit areas say every single one of their clients is using the FHA.

Anyone with a PhD in Common Sense knows that the more hard equity a borrower has in the investment, the lower the default risk, both because of favorable loan-to-value ratios and because

people care more when they’ve put their own money in. 

“They’re counting their pennies, scraping up that three point five percent,” Bonni Malone of Prudential Americana in Las Vegas said. “Mostly they’re buying foreclosed homes from banks, although I had one client who bought from a guy that was dying. It’s turning around the market.”

Houses cost more than people can afford unless they borrow.  So the withdrawal of credit from real estate lending can easily collapse prices, and its replenishment can help stabilize them. 

You need a lot of green to keep the nation from sinking further into the red

The Depression was brought on in part because credit fled to the sidelines, starving businesses and homeowners of capital to enable them to keep their businesses open.  It’s why FHA was born in the Depression; why FDIC and FSLIC came out of the Depression; why, in short, the government entered the lending-liquidity business 75 years ago. 

One of the cards was labeled, FHA

While the government’s actions have helped avert full-scale economic disaster, there is growing concern that it might have doled out its favors with too generous a hand.

Many of the loans the FHA insured in 2007 and last year are now turning delinquent, agency officials acknowledge. The loans made in those two years are performing “far worse” than newer loans, dragging down the whole portfolio, Mr. Stevens of the FHA said in an interview.

This is unsurprising.  Older loans having been seasoned, they establish a performance history.  And if you lend into the teeth of a recession, as we now know FHA (and others) did, you have to brace for higher losses.

You want to lend into this?

How high can we afford?

The number of FHA mortgage holders in default is 410,916, up 76% from a year ago, when 232,864 were in default, according to agency data.

Anyone with an ounce of sense would be worried by these figures, not just the numbers but the spike in percentages:

Despite the agency’s attempt to outrun its fate by insuring ever-larger amounts of new loans [snip] — the current rate is over a billion dollars a day — 7.77% of the portfolio is in default, up from 5.6% a year ago.

Observe that the default rate is up only 40%, whereas the default numbers are up 76%, simply because FHA is insuring so many more loans.  In other words, it’s not quite as bad as the default numbers would suggest.

Meanwhile, statements like this don’t help, even making due allowance for Mr. Frank’s propensity to give the super-compressed response with the subject-to’s and qualifiers omitted:

If you misunderstood me, you forgot to hear the words I left unsaid

Barney Frank, the Massachusetts Democrat who is chairman of the House Financial Services Committee, said in an interview that the defaults were, in essence, worth it.

“I don’t think it’s a bad thing that the bad loans occurred,” he said. “It was an effort to keep prices from falling too fast. That’s a policy.”

He can’t have meant that the way it sounded (can he?).  Mr. Frank must have meant that if you are going to liberalize lending, so as to keep liquidity flowing and to prevent a credit-crunch asset collapse, you must accept that some bad loans occur.  The question, as I posed a month ago, is, how liberal is too liberal?

[HUD Inspector General Donohue] noted that if private lenders had raised their down payment requirements in the last two years, it raised the question, “what does the FHA think it is doing by asking only 3.5%?”

It thinks it’s taking a prudent risk because the private lenders have a liquidity crunch that compels them to tighten capital, whereas FHA does not.

As the number of loans has soared, random quality control checks have decreased sharply, FHA staff members say.  [Ah, the ultra-reliable 'unnamed sources. – Ed.]

Is FHA headed for a crackup?  Is the World Bank?  Nobody knows for sure, because prediction is very difficult, especially about the future.

The future, Wener, is uncertain

Mr. Donohue, the inspector general, cited numerous examples of organized fraud in testimony to Congress earlier this year.

“They need to stop taking bad loans in the door,” he said in an interview. “They’re taking on all this volume, they have to have very active underwriting standards.”

Nobody will argue with that.

“No man of sense could dispute that.”

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Can a government bank fail? 

Something a little less visible than that

In the space of a week, that question’s surfaced about two governmental banks – FHA in the US and the World Bank – in stories in the New York Times (which I’ll excerpt in plain text) and UK Telegraph (in indigo palatino), but as we’ll see, the source of the evidence, and hence the threat credibility, vary extraordinarily.  Let’s start with the World Bank:

The World Bank is close to ‘running out of money’, its president, Robert Zoellick, has disclosed.

World Bank president Robert Zoellick has launched a major campaign secure more funding from rich nations

Mr. Zoellick succeeded the brilliant blockhead Paul Wolfowitz (brilliant economist, blockhead manager) and has evidently brought stability and a renewed sense of organizational worth to the World bank staff (full disclosure: I know many incredibly good people who work there).  He’s in a position to know the bank’s financial position.  However, in saying that the bank could ‘run out of money,’ he does not mean bankruptcy, but rather lack of liquidity:

The Bank, whose job it is to support low-income countries, has had to hand out so much cash in the wake of the financial crisis that it faces a shortfall in what it can spare for new projects within 12 months.

“By the middle of next year we will face serious constraints,” said its president Robert Zoellick, as he launched a major campaign to persuade rich nations to pour more money into the Washington-based institution.

Formerly open for business

The bank gets its capital from developed nations, and then makes loans to developing nations.  If those nations do not repay as timely as expected, the bank may have capital (loans receivable) without cash.  Should those loans go bad – as commercial and residential loans do, as we have discovered – then the World Bank could become insolvent, but since its creditors are sovereign nations who as a general rule are not seeking repayments to pro up their own liquidity, a more practical outcome is an inability to lend further.

Lack of liquidity or total insolvency?

That’s less serious than the problem being alleged about FHA:

A year after Fannie Mae and Freddie Mac teetered, industry executives and Washington policy makers are worrying that another government mortgage giant could be the next housing domino.

Problems at the Federal Housing Administration, which guarantees mortgages with low down payments, are becoming so acute that some experts warn the agency might need a federal bailout.

As we’ll see, this appears to mean ‘one expert.’

Running questions about the FHA’s future — underscored by interviews with policy makers, analysts and home buyers — came to the fore on Thursday [October 8, 2009 – Ed] on Capitol Hill. In testimony before a House subcommittee, the FHA commissioner, David H. Stevens, assured lawmakers that his agency would not need a bailout and that it was managing its risks.

Stevens says he’s managing the risks

Unlike most of his recent predecessors at FHA, Mr. Stevens’ background is in single-family, not multifamily.  That’s logical since the HUD secretary, Shaun Donovan, has a stronger background in multifamily, and as FHA is integral to then continued flow of housing finance capital.  Roughly a month ago, I posted about the declining FHA loan reserves; at the same, HUD Secretary Donovan said there was a better than even chance of staying above the 2% capital ratio statutorily required.  That, however, is less significant than it may seem, since, as I noted then:

The Federal Housing Administration is the original government lender and hence the precursor to Fannie Mae and Freddie Mac; as a forerunner, FHA’s government connection was and is more direct.  It’s an arm of HUD, hence its securities carry the full faith and credit of the United States.

Nevertheless, if it proves true that FHA’s loan book goes sour – badly sour – then the government will be further on the hook.  Worse still, the World Bank could stop lending without calamity ensuing; FHA basically cannot. 

Maybe we shouldn’t have braked so hard

The government is giving as many people as it possibly can the chance to buy a house or, if they are in financial difficulty, refinance it. The FHA is insuring about 6,000 loans a day, four times the amount in 2006. Its portfolio is growing so fast that even FHA backers express amazement.

I don’t understand the Times’s phrasing there – what does being an FHA backer have to do with observing that its activity growth is a remarkable byproduct of our remarkable times?

Many Democrats insist the FHA is playing a vital role in the housing market, which is only just starting to stabilize.

Would that elected officials and journalists could refrain from politicizing what should be bipartisan evaluations of entity performance and importance.

“FHA has stepped into the void left by the private market,” Representative Maxine Waters, Democrat from California, said at the hearing. “Let’s be clear; without FHA, there would be no mortgage market right now.”

Together with Fannie and Freddie, FHA is the credit backstop for about 80% of all US residential lending right now.  While it’s terrifying to think of that much lending being concentrated behind the government, it’s more terrifying to think of any one of the three stopping cold.

No more lending?

But [Stevens] acknowledged that some 20% of FHA loans insured last year — and as many as 24% of those from 2007 — faced serious problems including foreclosure, offering a preview of a forthcoming audit of the agency’s finances.

This shouldn’t be entirely surprising, recognizing that in 2008 FHA was the lender of last resort, and as we have chronicled, many of these refinancings were done hopefully.

“Let me simply state at the outset that based on current projections, absent any catastrophic home price decline, FHA will not need to ask Congress and the American taxpayer for extraordinary assistance — we will not need a bailout,” Mr. Stevens said in his testimony.

That is a direct and clear statement.  Let’s hope it’s true. 

If I’m wrong, strike me dead

Conversely, Mr. Zoellick wants money so he can reopen for new business. 

Zoellick conceded that such a task [Raising money from member nations – Ed.] was likely to be extremely difficult, given the difficulties facing countries in the wake of the developed world’s biggest recession since the Second World War.

Said in plain English, when you’re worried about domestic lending to your own homeowners, you’re highly unlikely to ship precious capital overseas to facilitate lending to foreign homeowners.

Make no mistake: we have reason to be watchful.

Superhero Sentry at your service

[Continued tomorrow in Part 2.]

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