Principal Write-Downs Drive Latest Nomination Dispute.

Joseph A. Smith, formerly North Carolina's Bank Commissioner, is the White House's nominee to run the agency that regulates federally-owned mortgage giants Fannie Mae and Freddie Mac, but he's facing some trouble: If the Senate confirms him for the job, he might adopt policies to help consumers, and that's enough to lead some Republicans to begin another round of obstruction.

The policy in question is a program if principal write-downs for underwater homeowners -- those that owe more on their home loan than their home is actually worth in the wake of the housing bubble's collapse. Many economists think that principal write-downs are key to finding some stability in the mortgage market and halting the on-going wave of foreclosures, but because they involve lenders taking a haircut. But, as we've discussed in other settings, the idea that a lender has no responsibility for the outcome of a loan drives bad decisions. It also makes plenty of economic sense to keep borrowers in a sustainable loan than taking a loss in default or a short sale. Postponing write-downs is a key problem for a financial sector that needs to reset, rather than pretend these losses don't exist.

Republicans argue that Fannie and Freddie have already cost taxpayers enough, and that any principle write-down program would amount to re-distribution of wealth. But that's a rather short-sighted approach, given that Fannie and Freddie are already propping up almost the entire housing market, and that the costs of both foreclosure and consumer debt overhang are a drag on the broader economy. Foreclosure is everyone's problem, especially when many of these borrowers are underwater not because of their own irresponsibility but because of dramatic drops in the price of housing.

-- Tim Fernholz

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