USA – The Land of Deadbeats?
The Wall Street Journal had an article advising homeowners who were upside down on their mortgage to just throw in the towel and walk away from their mortgage. Here’s the abridged version:
Millions of Americans are now deeply underwater on their mortgage. If you’re among them, you need to stop living in a dream world and give serious thought to walking away from the debt.
No, you shouldn’t feel bad about it, and you shouldn’t feel guilty. The lenders would do the same to you—in a heartbeat. You need to put yourself and your family’s finances first.
If you are reluctant to give up on “your” home, realize that it isn’t “yours.” If you are in negative equity, it’s the bank’s home. You’re just renting it. And right now you may be paying way above market rates. You need to be ruthless about your cash flow.
Still, when it comes to the idea of walking away from debts, many people are held back by a sense of morality. They feel it’s wrong to abandon their obligations. They don’t want to be a deadbeat.
Your instincts, while honorable, are leading you astray.
The economy is fundamentally amoral.
Whether we like it or not, walking away from debts is as American as apple pie. Companies file for bankruptcy all the time, and their lenders eat the losses. Executives and investors pocketed millions from the likes of Washington Mutual, Lehman Brothers and Bear Stearns when the going was good. They didn’t have to give back one cent of that money when the companies went into bankruptcy.
Wow, I’m speechless. It seems the greed of Wall Street has permeated down to the lower rungs of society and it’s perfectly okay to socialize your debts and losses. (By socializing, I mean the bank or taxpayer or a large group of people who are not affiliated to you end up paying for your debts/losses/mistakes/greed). Apparently its as American as apple pie. Is this the change I didn’t vote for? If everyone in all sections of society thinks its perfectly okay to default on your obligations, logically, the next question is
How much longer until the US Government starts defaulting on its debts?
Of course, the US Government cannot default, since it can keep printing US Dollars to pay for its debt. Which it is already doing. The only problem is that this increases the number of dollars in circulation and causes the currency to devalue. Sooner or later, we’re going to see a large of amount of inflation. No we may not see hyperinflation like Brazil or Zimbabwe, but we sure might see 10-12% inflation for a few years.
But 12% inflation for only 6 years would cause the price of everything to double. If you don’t think that’s possible, just look at a country which isn’t currently in deep recession, like India. Inflation in India is currently running at 9%. And over the past decade it has been running at a similar rate.
So what’s the effect on the average Indian? Highly skilled workers saw their salaries jump 10 times, while salaries for unskilled labor is up about 5 times. So everyone is better off, right? Not exactly, people living on fixed incomes basically got screwed as prices for everything else went up 5-10 times as well. It was great if you owned real assets like real estate, gold and to some extent stocks, but terrible if you owned bonds or cash. Just make sure your investments are tailored towards those investments that happen to do well during inflationary times.
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March 9th, 2010 at 8:29 am
I’m usually a fan of your writings, but today I lost the thread between the Wall Street Journal and President Obama. The only “change” that I’m aware of at WSJ is the change in ownership, and Mr. Murdoch is hardly a fan of hope or change. Is there some reason you believe they would have printed a different story if Senator McCain were President? While I agree the sentiment of the piece is detestable, I hardly think a single editorial constitutes a permeation down to the lower wrungs of society- you may be overestimating who’s reading the Wall Street Journal.
But enough of politics, what’s going on in the passive income business?
March 9th, 2010 at 9:53 am
I vote yes on walking away if you are significantly underwater. More Americans are paying a higher percentage of their income than ever on mortgages that may never regain their value.
If they stop paying, they get 12+ months of “free rent”–money which can then be spent elsewhere. They also become free of the shackles of a house and can move to where jobs are.
Walk away…it’s a business contract and there is no morality involved.
-Erica
March 9th, 2010 at 11:17 am
I was just being facetious with the Obama jab. The WSJ has become more like a Wall Street cheerleader – started reading the FT instead. Passive income is doing ok. I really need to post my numbers for last year – they should be quite impressive.
March 9th, 2010 at 11:23 am
Hi Erica,
I agree and disagree with at the same time.
The ability for businesses to walk away from their debts is what stimulates business and job creation in the US and makes it sooo much better than Europe and most other places on the planet. Giving everyday people the ability to walk away from their debts and obligations with minimal consequences bodes bad for the general business climate as a whole.
If you’re underwater and can’t afford the payments, you really don’t have a choice. But if you’re well capitalized and can get a loan for another home – do you take that loan, buy another house and then default on the first one?
As an aside, I fear its this 18 months free rent which is stimulating the economy. Tradermark on Seekingalpha calculated the effect on the GDP and it was pretty astounding. What will happen when this “stimulus” drys up?
March 11th, 2010 at 9:23 am
Sure, people can walk away from the mortgages.
However, in the future, banks and other lenders will need to price the increased risk of homeowners walking away and increase mortgage rates as needed. Businesses usually had a higher higher interest rate than a homeowner’s mortgage because of increased risk. It sounds like these models would have to be re-examined.
Also, should the government then be able to step like they just did with credit card interest rates and tell lenders what the maximum rate is and other restrictions. Isn’t it a “business transaction” after all.
Will the government step in and have a maximum mortgage rate at some point as well.
March 16th, 2010 at 1:22 pm
I second Beardog, asking about the passive income business. I am currently buying long-term treasuries, earning between 3% for 6 year treasuries to 4.7% for 26 year maturities.
March 19th, 2010 at 8:56 pm
How is defaulting on your loan, which the bank made the decision to loan you, socializing losses? The mortgage contract is simply an agreement, if the bank made a poor choice and you end up underwater, that is a risk they took. Now, what they did with the loan afterwards is another matter..
March 20th, 2010 at 1:49 pm
the banks are currently in a great spot. they make money originating the loans and all the losses are borne by the US government AKA the US taxpayer. that’s what I meant by socializing losses.