A revived Resolution Trust Corp. could open (front) door to fixing underlying housing crisis

As Augsburg College economics professor Jeanne Boeh jogged through Oakdale the other day, she spied a half-dozen unfinished and weather-beaten townhomes that in her mind exemplify why our economy is not moving forward.  

"They're not finishing these buildings, and if you are living in this neighborhood and trying to sell your home, that’s just not helpful,’" says Boeh, chair of the economics department at Augsburg. "There are all these homes for sale and foreclosure signs on doors. It’s hard for people to move forward, and it just has a demoralizing effect on the economy."

Like other economists, Boeh (pronounced Bay) is looking at the financial meltdown on Wall Street and contemplating fixes. She keeps coming back to what’s happening on the streets of the nation's neighborhoods. The housing market, a cornerstone of our economy, is stuck because people don’t trust the prices and valuations they're seeing. Foreclosures and abandoned developments like the one she saw on her run are a significant part of the problem.

The biggest bailout in history?
On Thursday, the heads of the Treasury Department and the Federal Reserve began discussions with Congress about what could be called the biggest bailout in history – buying hundreds of billions of dollars worth of distressed mortgages and real estate assets, the New York Times reported.

One idea being floated this week by economists, including former Federal Reserve chairman Paul Volcker, is resurrecting the Resolution Trust Corp. The first government-backed RTC was set up to dispose of the bad assets of 700-plus failed savings-and-loan institutions in the late 1980s and 1990s. The idea was to sell the real estate off gradually so as not to flood the market.

The RTC II would buy up the "toxic real-estate paper" (think bundled mortgage securities, subprime loans, etc.) dragging down financial institutions and the housing market.

In an opinion piece in Wednesday's Wall Street Journal, Volcker, former Treasury Secretary Nicholas Brady and former Comptroller of the Currency Eugene Ludwig elaborated on the RTC fix for what they called the "worst financial turmoil since the Great Depression": "The fact is that the financial system needs basic, long-term reform, but right now the system is clogged with enormous amounts of toxic real-estate paper that will not repay according to its terms. This paper, in turn, is unable to support huge quantities of structured financial instruments, levered as much as 30 times.

"Until there is a new mechanism in place to remove this decaying tissue from the system, the infection will spread, confidence will deteriorate further, and we will have to live through the mother of all credit contractions. This contraction will undercut the financial system, and with it, the broader economy that so far has held up reasonably well."

Their proposal: "We should move decisively to create a new, temporary resolution mechanism. … This new governmental body would be able to buy up the troubled paper at fair market values, where possible keeping people in their homes and businesses operating. Like the RTC, this mechanism should have a limited life and be run by nonpartisan professional management."

Real-estate 'toxic spill' harming Twin Cities, nation
In the interim, the toxic spill of bad real-estate paper has a hold in the Twin Cities and across the nation. So-called "lender-mediated" properties (those in foreclosure or awaiting a "short sale" to avoid foreclosure) accounted for almost 22 percent of for-sale listings in the Twin Cities housing market in the second quarter, according to a report (PDF) by the Minneapolis Area Association of Realtors.

Lender-mediated homes accounted for 25.8 percent of closed sales in the second quarter, more than three times what they were a year ago at the same time.

In a two-year comparison of second quarters, the report found that the median home price fell 11.9 percent to $207,000 for the overall market. Other slicing and dicing of the data found that the median price for lender-mediated properties declined 11.7 percent, compared with 3.4 percent for "traditional" properties (those not in foreclosure or up for a short sale).

Edina Realty broker associate Aaron Dickinson, who co-authored the report and tracks the market through his blog, is interested in how the federal bailout would work but says he’s most concerned about keeping distressed properties occupied and maintained and neighborhoods and communities intact.

“It’s very clear that something like this (the bailout) had to happen on the institutional side,” he said today. “But there’s still a problem on the retail side, on the borrower’s side. This might keep banks from failing, but it’s not keeping neighborhoods from failing. … You have to address the problem at the dirt level, too – you can’t just address this from packaged mortgage notes. … If you obliterate values in a neighborhood, even people who are good credit risks and keep their homes up … will up and leave themselves. You can’t forget about people in their homes and the neighborhoods.”

Boeh thinks RTC II could help restore confidence in the housing market.

"It seems to me a reasonable solution because we're never really going to recover until housing prices stabilize and people feel secure about what they're buying," she says. "To say foreclosures are not really affecting housing prices because foreclosed houses are in a different group, that's silly. … Why would I buy a house if it's going to cost me $30,000 more than a house that is in foreclosure? Some people have suggested that the government buy these houses and tear them down. That's silly. A Resolution Trust Corporation would offer an orderly transition."

Enough of the silliness, Boeh says.

"Every piece of evidence says we won't work off this essential 'overhang' of houses for at least another nine months," she says. "If people are not buying houses, they're not buying dishwashers and refrigerators. … This is one reason we pay so much attention to sales of cars and houses – they are important drivers for the whole economy."

Casey Selix is a news editor and writer for MinnPost.com. She can be reached at cselix [at] minnpost [dot] com.