IDEAS home Printed from https://ideas.repec.org/p/pra/mprapa/61970.html
   My bibliography  Save this paper

The evil force of borrowing and the weakness of Quantitative Easing

Author

Listed:
  • De Koning, Kees

Abstract

The U.S. housing market crash in 2007-2008 was not caused overnight by an over-supply of new homes that could not be sold. It was caused by the new money flows into mortgages ever since 1998. What changed in 1998 was that mortgage funds were not only used for building new homes at a price in line with CPI inflation, but the volume of such funds injected allowed the housing stock to appreciate in price over and above the CPI inflation level. In 1998 still only 16.3% of funds provided were used to increase the housing stock prices over CPI inflation, while 83.7% was used to build new homes. By 2004 and 2006 the percentage allocated to housing stock prices had grown to 68% of all new mortgage funds injected in the housing market. Such poor allocation of funds had two effects. It lowered the efficiency of money used as economic growth only occurs as a consequence of economic activities: the building of new homes. Secondly for those households that needed to borrow funds to enter the housing market, the inflated house prices required a higher and higher percentage of incomes to be allocated for an acquisition, leaving less disposable income for other consumption. Median incomes generally only grow at or slightly above CPI levels. Banks, Fannie Mae and Freddy Mac showed no restraint in volume control, while the fragmented banking supervision authorities also did not see the need to interfere to manage the volume of lending. No single individual household could possibly control the volume of such lending. In 2007 the bubble burst when the liquidity for mortgage-backed securities dried up. The consequences were dramatic. Overfunding turned into underfunding. Over the period 2006-2013 22.1 million households faced foreclosure proceedings over their home loans. This equals more than one out of every six U.S. households. 5.8 million homes were repossessed, affecting one out of every 8-mortgage holder. Over the period January 2008- October 2009 7.8 million Americans lost their jobs. In 2013 the real median household income was 8% lower than the 2007 pre-recession level of $56,435. Notwithstanding the lowering of interest rates to historically its lowest level, individual households reduced their mortgage portfolio by $1.2 trillion over the period 2008-third quarter 2014. The U.S. government (Federal, State and local) saw its tax revenues drop by $1.5 trillion or 29% over the period 2007-2009. The main action of the Federal Reserve apart from lowering interest rates was its program of Quantitative Easing. At the end of 2014 it had $2.461 trillion of U.S. government debt on its books and another $1.737 trillion in mortgage bonds. Prevention through volume control measures on the lending side would have been the most effective method to avoid the recession and all its consequences. However this did not happen. The experience of lower interest rates combined with QE can only be described as having a very slow impact. The reason was and is that individual households were hit where it hurts most: in their disposable income levels. A different type of QE could have been applied, which directly would have addressed such income levels. It is based on paying out a fixed amount per household by the Fed over a period of two to three years and repayment would be made out of future tax revenues over a ten year period. In this paper this method has been called: the Economic Growth Incentive Method (EGIM). The poorer households would have benefitted the most from such measure. QE in its current form has benefitted the banks and the wealthier individual households.

Suggested Citation

  • De Koning, Kees, 2015. "The evil force of borrowing and the weakness of Quantitative Easing," MPRA Paper 61970, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:61970
    as

    Download full text from publisher

    File URL: https://mpra.ub.uni-muenchen.de/61970/3/MPRA_paper_61970.pdf
    File Function: original version
    Download Restriction: no
    ---><---

    More about this item

    Keywords

    Quantitative Easing; U.S. housing market; housing stock inflation; economic growth; individual households; mortgage borrowing; Fannie Mae; Freddy Mac; banking supervision; over and underfunding; foreclosure; unemployment; government tax revenues; economic growth incentive method.;
    All these keywords.

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:pra:mprapa:61970. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Joachim Winter). General contact details of provider: https://edirc.repec.org/data/vfmunde.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.