Monetizing Envy and America's Housing Bubble
by Eric Englund
by Eric Englund
Envy is the basis of democracy. ~ Bertrand Russell
It is claimed that home ownership is the American dream. In days gone by, married couples would save enough money to make the once-standard 20% down payment on a house. Unless one could obtain financial assistance from a relative, there were typically no shortcuts to building up the savings necessary to make the aforementioned down payment on a starter home. Therefore, a future-oriented mindset would become the order of the day (a wonderful and measurable side-effect, of future orientedness/low time preference, is that of low interest rates). Americans would sacrifice some current consumption and set aside the savings necessary to reach that home-ownership goal. The virtues of hard work, thrift, and discipline were rewarded when the day came that the local banker approved the mortgage loan — naturally, the local banker approved the loan as he took the time to get to know his customers and felt that hard-working, thrifty, and disciplined people were good credit risks. If you didn't have the work ethic and discipline to save for a house, then too bad; envy be damned.
Alas, these days are long gone. America has devolved from a republic to a social democracy. Politicians exploit, and pander to, the basest of human feelings: envy. In turn, everyone is now entitled to own a home. Indeed, even if the federal government needs to redistribute wealth, to help Joe and Jane Slackard buy a home, then redistribution it will be. If interest rates are too high, because of a present-oriented American populace (i.e., Americans don't save anymore due to high time preferences), then the Federal Reserve will lend a helping hand by creating billions upon billions of dollars — right out of thin air — in order to drive down interest rates. In essence, the Federal Reserve is monetizing envy (or should I say unleashing "animal spirits") so that everyone can borrow and spend to buy a home, furnish it, put two new cars in the garage, and live the American dream. Of course, the United States' housing bubble is going to end in an economic nightmare.
With key factors falling into place, it appears this housing bubble has come about as an accident of history. For example, as alluded to above, the Federal Reserve has driven down interest rates (through its massive monetary pumping) to levels not seen since Eisenhower was in office. Keep in mind that even the Maestro, Alan Greenspan, cannot know where the dollars will flow. Credit has been "democratized" — i.e., if you have a pulse you can qualify for a home loan. The United States has devolved from a republic to a social democracy in which its citizens, for the most part, have become rude, lazy, stupid, and hedonistic (all characteristics of a people with high time preferences — refer to page 68 of Democracy: The God That Failed). Finally, let's add in to the mix several gargantuan federal housing assistance/redistribution programs that serve to reinforce high time preferences. When combining all of these factors, a volatile cocktail has been concocted. Inevitably, when a high-time-preference populace collides with artificially low interest rates, something unsavory is going to happen. In this case, the monetary "energy" unleashed — as directed by the raging animal spirits of monetized envy — is flooding into the housing market. What has ensued is a housing bubble destined to go supernova.
How in the world have we gotten here? I'll try to explain.
ENVY AND PRIVATE PROPERTY
A society that is peaceful and prosperous is one that absolutely respects private property rights. Private ownership, in the means of production, is the cornerstone of capitalism. The high standard of living, enjoyed in the U.S., would not have come about had our founding fathers not understood the fundamental importance of protecting private property rights. Such protection served to suppress mankind's natural envy and was crucial to the formation of a civil society.
James Madison understood that one man's property ownership could spark envy in another. He wrote the following in The Federalist #10:
So strong is this propensity of mankind to fall into mutual animosities, that where no substantial occasion presents itself, the most frivolous and fanciful distinctions have been sufficient to kindle their unfriendly passions and excite their most violent conflicts. But the most common and durable source of factions has been the various and unequal distribution of property. Those who hold and those who are without property have ever formed distinct interests in society.
The framers of the U.S. Constitution purposely crafted this document to insulate the federal government from the passions, envy, and impulses of the populace. By all means, a pure democracy was to be avoided. This is why only members of the U.S. House of Representatives would be elected by a direct popular vote. Senators were selected by the state legislatures. The President was selected by an electoral college, while Supreme Court justices were appointed by the President. Accordingly, to paraphrase Benjamin Franklin, our founding fathers gave us a republic if we could keep it.
One may ask why democracy and direct accountability to the populace were feared by the framers of the Constitution? James Madison addresses this in The Federalist #10: "Hence it is that such democracies have ever been spectacles of turbulence and contention; have ever been found incompatible with personal security or the rights of property; and have in general been as short in their lives as they have been violent in their deaths." Democracy does not pave the way for peace, prosperity, and civility. Democracy endangers private property rights and therefore liberty itself.
Helmut Schoeck's research, pertaining to the topic of envy, bears out the importance our founding fathers put on insulating the federal government from the whims and political pressures brought forth by the citizenry. Dr. Schoeck stated the following in his masterful book Envy: A Theory of Social Behaviour: "Most of the achievements which distinguish members of modern, highly developed and diversified societies from members of primitive societies — the development of civilization, in short — are the result of innumerable defeats inflicted on envy, i.e., on man as an envious being." To defeat envy is essential for liberty to flourish.
LOSING THE REPUBLIC
We have not kept the republic. America is now a social democracy. Politicians shamelessly pander to envy by constantly promising and undertaking massive redistributions of wealth. This has come about due to the unconscionable degradation of the Constitution. Although the following list is far from complete, it should be instructive as to how we have lost our republic:
- With the right to secession abolished, for now, as a result of the Confederacy's defeat in its bid for independence (mistakenly called the Civil War), the stage was set for our decentralized federal system to become the vast centralized leviathan of today.
- In 1913, the 16th Amendment was ratified allowing the federal government to directly tax your income.
- Also, in 1913, the 17th Amendment was ratified providing for the direct election of Senators.
- In late 1913, the Federal Reserve was established. In turn, the fractional reserve banking cartel was born and the destruction/depreciation of the dollar began.
- FDR brings us the New Deal (of which many ideas were stolen from that social engineer, Herbert Hoover). Wealth redistribution firmly takes root. As part of the New Deal, the Federal Housing Administration (FHA) was established in 1934.
- LBJ's Great Society further expands the welfare state.
- The 1964 Civil Rights Act
- In 1971, Richard Nixon completely severs the dollar's link to gold. The dollar becomes nothing more than a fiat currency.
- The Patriot Act
- The Homeland Security Act
Regrettably, this list could be expanded exponentially. Clearly, the U.S. has become a social democracy. In fact, it is now a welfare-warfare state. As John Adams wrote in a letter to Thomas Jefferson "…democracy will envy all, contend with all, endeavor to pull down all, and when by chance it happens to get the upper hand for a short time, it will be revengeful, bloody, and cruel." (This remarkable quote was found in the footnotes of page 103 in Hans-Hermann Hoppe's spectacular book Democracy: The God That Failed).
Yes, we have lost our republic. If we must judge the Constitution our founding fathers so carefully crafted, to protect our liberties (thereby attempting to prevent the emergence of democracy that John Adams so forcefully described above), then the Constitution must be judged a failure.
DEMOCRACY AND HOUSING FOR ALL
With the New Deal came federal government intervention into the private housing market. The Federal Housing Authority (FHA) was established in 1934 with the objective of rescuing a housing industry that "...was flat on its back." The following reasons were given for the creation of this federal monstrosity during the Great Depression (as found on the Department of Housing and Urban Development's website):
- Two million construction workers had lost their jobs.
- Terms were difficult to meet for homebuyers seeking mortgages.
- Mortgage loan terms were limited to 50 percent of the property's market value, with a repayment schedule spread over three to five years and ending with a balloon payment.
- America was primarily a nation of renters. Only four in ten households owned homes.
In 1965, the FHA became a part of HUD. On a combined basis, the "FHA and HUD have insured almost 30 million home mortgages and 38,000 multifamily project mortgages representing 4.1 million apartments, since 1934." Undeniably, the federal government's intervention into the housing market has been enormous.
Since 1934, an alphabet soup of government agencies and government sponsored enterprises (GSEs) have intervened in America's housing market with the objective — as stated on Ginnie Mae's website, using this agency's statement as a proxy — to "...help make affordable housing a reality for millions of low-and-moderate-income households across America by channeling global capital into the nation's housing markets." In addition to Ginnie Mae, other federal agencies involved in the housing market include the Department of Veteran Affairs, the Department of Agriculture's Rural Housing Service, and HUD's own Office of Public and Indian Housing. Not to forget the GSEs, Fannie Mae and Freddie Mac have become behemoths in providing liquidity to the housing market.
If the truth be told, this massive bureaucracy of federal and quasi-federal agencies is nothing more than an intellectually-bankrupt monument to political pandering focused on property envy. With the Federal Reserve's accommodation, this envy can be monetized so that even the poorest credit risk can qualify for a mortgage loan.
Unfortunately, such federal intervention into the marketplace creates the illusion that the free market is not to be trusted when it comes to housing. The argument goes that, without government, people would be either homeless or lifetime renters with no prospects for home ownership or even basic shelter. In essence, only the wealthy would own homes. Such intervention actually serves to further mold people into high-time-preference sloths unwilling to work hard and to save in order to buy a home.
POLITICAL PANDER BEARS
With a presidential-election year upon us, shameless political pandering is in full view. John Kerry is promising universal health care as we hear the tired old assertion that health care is a right. Not to be outdone, President Bush is playing the envy card when it comes to housing. Even if the Federal Reserve Bank of New York denies there is a housing bubble, the Bush Administration certainly has taken notice of America's red-hot housing market. So, of course, President Bush is going to take credit for this "success." Nevertheless, he is tweaking his message with a twinge of envy as more Americans deserve to own homes — which of course means more government "help" is on its way. What follows is an excerpt from President Bush's March 27, 2004 radio address:
Good morning. This week brought good news about home ownership in America. The Census Bureau reported that new home sales in February rose to an annual pace of 1.16 million homes, a 24 percent increase over the past year. This success follows one of the most impressive years in America's housing industry. More homes were sold in 2003 than ever before. Housing starts last year were at their highest level in a quarter century. Rising home values have helped take the wealth of American households to a new record level.
In our growing economy, more Americans can afford a new home. Incomes are rising. The unemployment rate is falling. Mortgage rates are low. And because of tax relief, Americans have more to save, spend and invest — and that means millions of American families have moved into their first homes.
Our nation's 68 percent homeownership rate is the highest ever, and our government is taking steps to make owning a home a reality for more Americans, especially minorities and those with low incomes. In June 2002, I set the goal of adding 5.5 million new minority home owners in America by the end of this decade. Since then, more than 1.5 million minority families have moved into houses of their own. And for the first time, most minorities own their own home.
To this end, President Bush and Congress have been playing the property-envy card that must warm the hearts of all redistributionists. On December 16, 2003 "The American Dream Downpayment Assistance Act" was signed into law. For first-time homebuyers, this act will provide $200 million of federal funding to assist lower income and minority households to make a downpayment on a home. The amount of the downpayment assistance — i.e., redistributed money — may not exceed $10,000 or six percent of the home's purchase price, whichever is greater. Here again, the message is why work hard and save for a downpayment when the federal government will provide you with a shortcut? High time preference certainly is being fostered here.
As if this wasn't enough, Congress is pushing legislation named the "Zero Downpayment Act." According to Congressman Ron Paul (of Texas), this "...legislation is considered completely uncontroversial by both political parties, and will breeze through the full congress later this summer with the blessing of the administration. Nobody in Washington thinks twice about another welfare scheme that further entrenches the something-for-nothing mentality so prevalent today in America."
Dr. Paul went on to state the "…Zero Downpayment Act, as its name suggests, creates a federal program that allows some homebuyers to obtain federally-insured mortgages without making a down payment. ‘Federally-insured' really means taxpayer-insured, as taxpayers like you foot the bill for defaults. So while Congress congratulates itself on yet another program that supposedly helps the poor, it is taxpayers who pay for the inevitable defaults."
Perhaps President Bush, and current members of Congress, see new homeowners as a voting block. Predictably, these political pander bears claim that government-assisted home ownership strengthens our democracy by allowing increasing numbers of American families to live in homes they can call their own. So the message goes thusly: "Hey, I helped you buy your new house, so give me your vote." Pandering indeed.
THE HOUSING BUBBLE
The Federal Reserve Bank of New York published a report stating that it found little evidence of a nationwide housing bubble. Such a report lacks any credibility in light of the Federal Reserve's inability to identify the dot.com and telecom bubbles that eventually burst and brought the NASDAQ crashing down. Evidence, of a housing bubble, abounds.
Doug Noland, of The Prudent Bear, has performed excellent research with respect to the United States' housing bubble. The following excerpt comes from Mr. Noland's June 25, 2004 Credit Bubble Bulletin — subtitled The Mortgage Finance Bubble:
As I have argued for some time, the mortgage finance bubble is the crucial issue. And the evidence of historic credit excess is anything but inconspicuous. Over the past seven years (Q1 1997 to Q1 2004), total home mortgage debt has surged 94% to $7.376 trillion. Total mortgage debt, including commercial and multi-family, is up over the same period by 93% to $9.618 trillion. Looking at the source of mortgage finance, bank real estate loans have doubled in seven years to $2.386 trillion. Over the past 53 months (for which I have data), combined Fannie and Freddie books of business have surged 78% to $3.677 trillion. Over the past six years, Federal Home Loan Bank assets have surged 140% to $857 billion.
Mr. Noland also points out that total mortgage credit increased by $1 trillion in 2003 alone. His research also found that, over the past six years, prices for new and existing homes have increased by about 50%. The Federal Reserve Bank of New York's denial of a housing bubble is a denial of reality.
Other excellent information is available with regard to the housing bubble. For example, the Ludwig von Mises Institute has published three excellent essays, about America's housing bubble, and are listed as follows:
As Dr. Shostak stated in his most excellent aforementioned essay: "We can define a bubble as activities that spring up on the back of loose monetary policy of the central bank. In other words, in the absence of monetary pumping these activities would not emerge. Since bubble activities are not self-funded, their emergence must come at the expense of various self-funded or productive activities."
To buttress Dr. Shostak's analysis, I also offer up the following analysis from Francois Sicart of Tocqueville Asset Management: "…prices first reflect real-life observations, and then project them into the future. In the process, there is a point at which market prices start incorporating more hope than reality but, to the ignorant and insecure crowd, price rises merely serve as confirmation of the original concept. As a result, the more prices become disconnected from reality the more the crowd feels compelled to join in — and we then have a bubble." Although Mr. Sicart was referring to the stock market, in this essay, his analysis applies to the housing market as well.
To say the least, the amount of money that has flowed into housing is shocking. In a compressed time span, Americans have spent trillions of dollars on new and existing homes. When housing prices rise by 50%, in such a short period of time, to call this phenomenon anything other than a housing bubble defies logic.
BRIEFLY: THE FREE MARKET AND HOUSING
Under a 100% gold standard, a housing bubble would not emerge. In fact, a house would be nothing more than a consumer durable that depreciates over time. Moreover, under a 100% gold standard, the prices of goods and services would decline over time as mild deflation would be a welcome part of everyday life.
Just think of it, the value of savings would increase while housing prices gradually decreased. The free market itself would bring about affordable housing. When planning for home ownership, such virtues as working hard, saving, and thrift would once again emerge in our thought processes. The mere thought of needing government intervention, to make housing affordable, would be laughable.
THIS WILL NOT END WELL
What George W. Bush, Alan Greenspan, and nearly all politicians don't understand is that they are encouraging millions of Americans to commit financial suicide. Government intervention into the marketplace has driven interest rates to artificially low levels while also making it childishly easy to secure the credit necessary to buy a house. Such low rates have enticed people to purchase homes at ridiculously high prices. However, these low rates are not sustainable in a social democracy which inherently is populated by people with high time preferences. High interest rates go hand in hand with high time preferences (for more about this, refer to pages 62—65 of Democracy: The God That Failed). The Federal Reserve cannot keep a lid on interest rates forever. Thus, as interest rates rise, interest-rate sensitive "investments" will decline in value. This does not bode well for homeowners.
So what is going to happen? It certainly appears that Alan Greenspan's loose monetary policy has done more than inflate a housing bubble. Prices of goods and services are rising as well now (even though the grossly manipulated CPI indicates only mild price inflation). Should the bond market get a whiff of real inflation, then an inflation premium will be priced into long-term bonds — i.e., interest rates will rise sharply and bonds will fall. At this point, the bond market will show that Alan Greenspan is behind the curve and he will be forced to dramatically increase short-term interest rates in order to slay the inflation dragon. Such a scenario, of rising interest rates, will pummel the housing market and will leave millions of homeowners with negative equity in their homes. Mortgage defaults will rise, especially on adjustable rate mortgages, and this will be a financial disaster that will make the S&L crisis pale in comparison — keep in mind that we are talking about trillions of dollars in home loans and federal mortgage guarantees.
Without a doubt, America's social-democratic homeowners won't take personal responsibility for their own financial recklessness and will demand that heads roll. Should the publicly held (and quasi-governmental) companies such as Fannie Mae and Freddie Mac require government bailouts, then the public may demand that Franklin Raines — Fannie Mae's CEO — and others do the perp-walk and face trial like Martha Stewart and Kenneth Lay. Fannie Mae's and Freddie Mac's financial auditors may face the same fate as Arthur Andersen. Senators, House Members, and the President will all be demanding investigations and public hearings. In spite of their implicit culpability, while America's financial system teeters on the abyss, these politicians will go on the offensive and somehow lay blame on all private companies involved with real estate — and call them "fat-cat, capitalist exploiters." In the end, politically-motivated pandering to envy may leave us with a nasty, brutish, and impoverished democracy. For envy truly is the basis of democracy and thus can never provide a stable foundation for peaceful self-governance let alone the housing market.
July 19, 2004
Eric Englund [send him mail], who has an MBA from Boise State University, lives in the state of Oregon. He is the publisher of The Hyperinflation Survival Guide by Dr. Gerald Swanson. You are invited to visit his website.
Copyright © 2004 LewRockwell.com