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Monday Smackdown Weblogging: Tim Geithner Is Wrong, by Atif Mian and Amir Sufi

Atif Mian and Amir Sufi: Tim Geithner Is Wrong: "We published our post over at WaPo’s WonkBlog...

...one of our favorite sites.... As a quick follow up, here is a quote from a research paper by Richard Disney and others:

However, we do find a strong asymmetry in the response for households in “negative equity”—households in negative equity experiencing a surprise gain exhibit a consumption response five times stronger than households that had initially positive equity values in their housing stock.”

Again, the MPC estimate that Geithner uses is absurdly small, outside of the range that most economists use...."

And:

Amir Sufi and Atif Mian: Why Tim Geithner is wrong on homeowner debt relief: "Tim Geithner has a problem with helping underwater homeowners...

We’re not sure why.... He claims... the economic effects of helping underwater homeowners would have been small. But that is dead wrong.... From his book....

Even if the federal government had borrowed and spent $700 billion to wipe out every dollar of negative equity in the U.S. housing market—a “principal reduction” program of utopian proportions—it would have increased annual personal consumption by just 0.1 to 0.2 percent.”

Let’s evaluate... to be as charitable as possible... suppose that the only benefit of principal reduction would be the spending by the underwater homeowners.... The answer depends critically on the marginal propensity to consume (MPC) out of housing wealth.... This is a very well-researched question. Most place the MPC out of housing wealth between $0.05 and $0.10 per dollar.... [But] Geithner is assuming an MPC out of housing wealth of $0.02 per dollar, or 0.02.

Now let’s just stop right there. We have an established body of research that suggests that the MPC out of housing wealth is between $0.05 to $0.10 per dollar. And Mr. Geithner’s uses an estimated MPC that is less than half the lower bound....

We have estimated the housing wealth effect in our own research.... It is crucial to use the MPC for the right population.... The effect is twice as large for the most leveraged zip codes relative to the median... the MPC estimate closer to $0.12 per dollar for zip codes with many underwater homeowners.... Scale up the $0.12 estimate by dividing through with the homeownership rate in 2009, which was 67%. This gives us an MPC for underwater homeowners of $0.18 per dollar.... Multiplying $700 billion by 0.18 gives us a spending boost to the economy in 2009 of $126 billion, which is 1.3% of PCE, 10 times larger than the estimate Secretary Geithner asserted in his book....

But remember, the effects are far larger than just this direct effect... areas with many underwater homeowners also experienced more foreclosures and higher unemployment. Therefore write-downs of underwater debt would also have had the indirect positive effect of drastically reducing foreclosures and the associated negative effects of foreclosures on the economy.... Debt forgiveness would have had an enormously positive effect on the economy....

It’s not just us that make this assertion. Economists from all backgrounds overwhelming agree with us, contradicting the claims of Mr. Geithner.... "A former Federal Reserve vice chairman, a Nobel laureate, one of the world’s foremost experts on financial crises and the chief economist of the International Monetary Fund, among others. Nearly all said Obama should introduce a much bigger plan to forgive part of the mortgage debt owed by millions of homeowners who are underwater on their properties."... Here is Martin Feldstein, former economic advisor to President Reagan: "Homes are the primary form of wealth for most Americans. Since the housing bubble burst in 2006, the wealth of American homeowners has fallen by some $9 trillion, or nearly 40 percent. In the 12 months ending in June, house values fell by more than $1 trillion, or 8 percent. That sharp fall in wealth means less consumer spending, leading to less business production and fewer jobs. But for political reasons, both the Obama administration and Republican leaders in Congress have resisted the only real solution: permanently reducing the mortgage debt hanging over America."

Whatever reasons he had for opposing assistance to underwater homeowners, a careful evaluation of the policy effects was not among them.... The fact that Secretary Geithner and the Obama administration did not push for debt write-downs more aggressively remains the biggest policy mistake of the Great Recession.

And:

Richard Disney et al.: House Price Shocks, Negative Equity, And Household Consumption In The United Kingdom: "We examine the impact of unanticipated housing capital gains...

...on consumption behavior using data from the British Household Panel Survey and county-level house price data.... We find little evidence of heterogeneity in responses of young and old homeowners, but differences between owners and renters. We also find asymmetric behavior between house price rises and falls, and a disproportionate impact on saving if the household had negative housing equity at the start of the period...

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