Category: Economy


The nationwide decline in house prices has created a vacuum in the U.S. mortgage market. Private financing for home loans has all but dried up and the U.S. government is now guaranteeing almost every new mortgage. Fannie Mae and Freddie Mac have received most of the media’s attention, but policy makers need to focus on the third leg of the housing- support stool: the Federal Housing Administration.

The FHA has some major accounting problems. Left unaddressed, they could spook the markets, lead the FHA to seek a federal cash infusion and further enrage taxpayers. These outcomes can be avoided — but only if policy makers are more transparent about the risks involved in guaranteeing mortgages.

The FHA provides private lenders with a 100 percent guarantee against defaults on home mortgages that meet certain underwriting criteria, such as a minimum down payment and credit score. Traditionally, the FHA has served first-time homebuyers and low- to moderate-income families who pay an insurance premium for this loan guarantee.

As private-financing options have disappeared, the role of the FHA has grown. Its market share has increased to about 30 percent today from 3-4 percent in 2007. That’s because the agency is now practically the only game in town, accepting borrowers with down payments of as low as 3.5 percent. As the last few years have made clear, sizable down payments — or “skin in the game” — are the key to avoiding defaults in the near term and to achieving a stable housing market in the long term.

FHA’s Bottom Line

So how has the FHA fared financially in serving borrowers with low down payments? As the housing bubble burst in 2007, and the number of mortgage-related defaults started to climb, the FHA’s capital reserves declined to $3.5 billion from $22 billion.

This means that the FHA is on the verge of requiring a bailout to support its outstanding mortgage guarantees, which are projected to exceed $1 trillion in 2011.

The credit quality of FHA lending can be improved with better underwriting standards, such as requiring higher down payments and premiums. Unfortunately, it’s difficult to sound the alarm because flawed accounting measures show that new FHA loans will be profitable for the government. As a general rule, each year the government sets insurance premiums high enough to give the appearance that they will more than cover any losses from homeowners who default.

Budgetary Illusion

But no one should take comfort in the FHA’s projected profit. It’s purely a budgetary illusion.

According to the Federal Credit Reform Act of 1990, federal-budget analysts must strip out any costs that the government incurs when it bears market risk in guaranteeing loans, including mortgages. Market risk is the likelihood that loan defaults will be higher during times of economic stress and that those defaults will be more costly. Excluding costs for market risk is particularly irresponsible at a time when foreclosure rates are elevated and doubts remain over whether home prices will fall further.

If the rate of loss on the FHA’s new guarantees ends up higher than expected, that will probably be because the overall economic recovery has stalled. In such a scenario, any entity guaranteeing mortgages — be it the taxpayer-backed FHA or a private company — will suffer bigger-than-expected losses.

Taxpayer Risks

Skeptics might dismiss warnings about the FHA’s ballooning market share. They would defend the government’s current accounting rules and argue that the growth in FHA loans (at the expense of private-sector lending) is a perfectly logical policy goal. In their view, the government is a more efficient provider of mortgages because it can borrow at lower interest rates than any private financial institution.

What’s missing from this analysis is that the government enjoys low borrowing costs only because it can shift market risk onto taxpayers.

Put another way, there is only one reason why investors lend to the government at lower rates than they charge private mortgage insurers, even if they all insure identical mortgages: The government can call on taxpayers to repay bondholders if FHA loans result in higher-than-expected defaults. Few taxpayers would choose to bear that risk free of charge.

Rewriting the Rules

Some lawmakers understand this and are working to change the government’s accounting rules to include market risk. At the request of Representative Paul Ryan, a Republican from Wisconsin, the Congressional Budget Office recently took the official budget estimate for new FHA loans and added in the cost of market risk that taxpayers bear in guaranteeing the mortgages.

Under this more comprehensive methodology, the CBO determined that FHA loans would swing to a loss of $3.5 billion from a projected profit of $4.4 billion next year. In a 10-year budget window, this could mean a difference of $50 billion to $70 billion, depending on market conditions.

Accounting issues often seem arcane or even trivial. But the growth in FHA lending has turned a seemingly small problem into a large taxpayer vulnerability. The current accounting rules will also make it harder politically to shift some of the housing market back to the private sector. Congress should own up to the full costs and risks that taxpayers bear to guarantee mortgages.

The last time Congress delayed action in this area, taxpayers got stuck bailing out Fannie and Freddie — at a cost of more than $160 billion and rising.

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Nationwide, the average origination and title fees on a $200,000 purchase mortgage totaled $4,070, according to Bankrate’s annual survey of closing costs. That’s an 8.8 percent jump compared to 2010 when the average closing costs totaled $3,741.

For the second year in a row, the states with the highest closing costs are New York, where costs average $6,183; Texas at $4,944; followed by Utah with $4,906. Next was California, where average closing costs in San Francisco totaled $4,832. New York and Texas have dominated the top spots for five years.

The cheapest places to get a mortgage are Arkansas, North Carolina and Indiana. In each of these states, the average closing costs are close to $3,400.

What exactly has gone up?
Most of the jump in closing costs is tied to fees charged directly by lenders.

On average, lenders charged about $1,614 in origination fees this year, up 10.3 percent from last year. Origination fees include lender charges for services such as underwriting and processing.

Fees imposed by third parties, including title, appraisal, postage/courier and survey charges, averaged $2,456, up 7.9 percent from 2010.

While some third-party fees rose, title insurance premiums changed little compared to last year. The survey excludes property taxes, homeowners insurance and recording fees.

Why are fees rising?
Many lenders and mortgage professionals claim that origination fees have increased because of stricter mortgage regulations that the government has implemented in the last two years.

"New regulations require more staffing and cost more money," says Jason Auerbach, division manager of First Choice Loan Services in New York City.

Auerbach says some of the "new" regulations — which vary from having to take extra steps to verify a borrower’s income and employment to disclosure forms and licensing-related matters — have been in place for a couple of years already, but the mortgage industry takes them more seriously now. New forms and regulations that are still in discussion are influencing lenders already.

"Banks are self-regulating," Auerbach says. "They want to make sure there is nothing in that loan that is going to make Fannie and Freddie uncomfortable."

Fannie Mae and Freddie Mac buy most mortgages and have almost no tolerance for missing documents or errors in paperwork.

Neil Garfinkel, a New York real estate attorney with AGMB Law, says he has noticed firsthand the increased caution, as he has been retained to help several smaller banks seeking counseling related to mortgage compliance issues.

"It does cost them more, and I’m sure the costs have to be passed on to the consumer," Garfinkel says.

Paying more for fair loans?
The argument that increased regulation makes loans more expensive has long been used by the lending industry against new, more stringent rules.

While new rules may cost the lenders more money, it’s difficult to determine how much of the added costs are really a result of regulatory changes, says Barry Zigas, director of housing policy for the Consumer Federation of America.

"It’s ironic to hear that the consumer has to pay more to get a fair product," Zigas says. "But if it means the mortgage they are getting is more likely to be tailored to their needs, they should be happy to pay."

Compare and negotiate lender’s fees
That doesn’t mean you have to pay whatever your mortgage lender feels like charging you.

Some of the fees included in your closing costs, such as appraisals and credit reports, aren’t really negotiable. But you can shop around and negotiate lender fees. In some states you can negotiate title insurance costs.

Origination fees vary substantially from lender to lender, says Diane Saatchi, senior vice president of Saunders & Associates, a real estate brokerage in Bridgehampton, N.Y.

Bankrate’s survey shows that if you are getting a $200,000 mortgage in New York, for example, you may be charged anywhere from the $700s to more than $4,000 in origination fees depending on which lender you choose.

That’s why it’s important to compare good faith estimates, or GFEs, from at least three banks and three mortgage brokers, Saatchi says. Borrowers are entitled to get a GFE form, which includes a breakdown of estimated closing costs, within three business days after submitting a mortgage application.

Shopping for title insurance
The GFE form includes an estimate for title insurance, but you can shop around. Will the savings be worth your time? It depends on where you live. Some states set or regulate title insurance premiums. In other states the charges vary.

In Bankrate’s survey, the average title insurance premium nationwide is $1,653. North Carolina is one of the cheapest places to buy title insurance with an average cost of $993. In comparison, the average title insurance premium in the New York, for the same home value and mortgage amount, is $2,811.

Joseph Eaton, co-author of the 2007 book "The American Title Insurance Industry: How a Cartel Fleeces the American Consumer," has studied the title industry for more than a decade. He says that if consumers were able to shop for title insurance outside of their states and the rates weren’t fixed in some states, borrowers wouldn’t have to pay as much.

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For the second month in a row, less than half of the nation’s homeowners think their home is worth more than the amount they still owe on their mortgage.

While that’s up from June’s all-time low of 45%, it is just the third time this finding has fallen below 50% since late 2008, according to pollster Rasmussen Reports, which conducted a national telephone survey of homeowners.

Upper-income homeowners are more confident in their home value than those who earn less, and investors are much more confident than non-investors about their home’s value.

In December 2008, 61% believed their home was worth more than their mortgage. While the numbers have declined since then, this is the first time that the number believing they had equity in their home stayed below 50% for two months in a row.

The survey of 676 homeowners was conducted July 17-18. The margin of error is 4 percentage points.

One in three homeowners said his or her home is not worth more than the amount left on the mortgage with another 18% unsure.

According to the survey, 7% of homeowners say they’ve missed or been late on a mortgage payment in the last six months, in line with previous months.

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Government programs aimed at refinancing mortgages for homeowners in negative equity are plagued with disappointing results, long-shot legislation and growing conflicts among regulatory agencies.

As of May, 2.1 million mortgages sat somewhere in the foreclosure process, according to Lender Processing Services. Of those delinquent home loans, 80% were in negative equity, meaning the borrower owed more on the mortgage than the property is worth. Of the seriously delinquent loans that were current just six months ago, roughly 6% had loan-to-value ratios of 150% or higher.

U.S. home prices have fallen 32% from their peak in 2006, according to the Standard & Poor’s/Case-Shiller index, but prices may not have bottomed. Robert Shiller, who helped develop the index, recently said prices could drop another 10% to 25%.

In response to the growing number of underwater borrowers, the Obama administration established several programs to urge investors toward writing down the principal on these loans. Each has underwhelmed because the two largest mortgage investors in the country, Fannie Mae and Freddie Mac, do not participate or cannot help homeowners with severe negative equity.

The programs

In September, the Department of Housing and Urban Development launched the $8 billion Federal Housing Administration Short Refinance program. Through it, underwater borrowers can refinance into an FHA-insured loan if the lender or investor writes off the unpaid principal balance of the original first-lien by at least 10%.

As of June, only 246 borrowers made it through the program.

One month after FHA Short Refi launched, the Treasury Department started a principal reduction initiative under the Home Affordable Modification Program. Participating servicers evaluate borrowers with a loan-to-value ratio of more than 115% for a reduction.

As of June, servicers included this write-down on 4,911 HAMP modifications.

In February 2010, the Treasury initiated the roughly $7 billion Hardest Hit Fit to provide Troubled Asset Relief Program dollars to state housing finance agencies. Some states including California and Arizona built principal reduction programs, but only Bank of America (BAC: 9.82 +2.61%) and Ally Financial (GJM: 23.5546 +0.32%) agreed to participate and only under investor approval.

The Arizona Department of Housing expects BofA to reach up to 8,000 homeowners with the assistance with no estimate yet for California. Ally Financial has given no estimates.

The Home Affordable Refinance Program is by far the most successful. Since it launched in March 2009, more than 784,000 Fannie Mae and Freddie Mac loans pushed through the program and out of negative equity. But 84% of them held LTVs of less than 105%. Only 5,400 borrowers further underwater received help.

The ‘Boxer Rebellion’

Sen. Barbara Boxer (D-Calif.) introduced a bill in January that would eliminate upfront fees and underwater restrictions Fannie and Freddie include when evaluating a homeowner for refinancing out of negative equity.

The bill gained recent support from several trade groups and Moody’s Analytics Chief Economist Mark Zandi, who said the cost of the bill would be offset by the savings Fannie and Freddie would recoup by helping these borrowers avoid default.

But the bill has Wall Street jumpy. Analysts at Bank of America Merrill Lynch called the bill the "Boxer Rebellion" in a research note released Friday.

"Due to the existence of HARP and HAMP, programs which have performed well below initial expectations, the practical need for this new, seemingly sensible legislation is hard to rationalize. Why would this program have any more implementation success than its predecessor programs?" BofAML analysts said. "Sen. Boxer’s push for legislation to refinance underwater homeowners stands in opposition to perhaps the most pressing need of the U.S. economy and fiscal situation: reliance on, not help for, responsible citizens."

Jaret Seiberg, an analyst at the Washington think tank MF Global said Friday the Boxer bill does not have the legs to wind through Congress. Even if it did, the prepayment risk could overwhelm the system.

With Boxer targeting roughly 2 million Americans with her bill, Seiberg said the paperwork needed could have the same damaging effects as the robo-signing disaster.

"Even if one could get massive refinancings, there is the question of whether the infrastructure could support such a move. We saw with the robo-signing controversy that the system could not handle the crush of record foreclosures. In our view, there would be similar problems if there was a crush of refinancing," Seiberg said. "This would be a massive amount of paper to process at once and each loan would need to be recorded in a county clerk’s office."

Conflicting agencies

It appears two government agencies are sending conflicting signals to Fannie Mae and Freddie Mac on whether principal reduction even fits into their conservatorship roles.

When the FHA Short Refinance program launched in September, HUD said between 500,000 and 1.5 million borrowers who owe more on their mortgage than their home is worth would be able to refinance into a right-side-up FHA loan.

But HUD counted on two-thirds of that estimate on loans owned by Fannie and Freddie. As a result of these two firms missing from the program, only the 246 loans, mentioned above, made it through.

HUD said it is working to get Fannie and Freddie involved and is "getting the ball rolling" on the other one-third of the program’s targeted loans.

But the lack of participation from Fannie and Freddie is a directive issued by their regulator, the Federal Housing Finance Agency.

"FHFA understands that some mortgage investors have sought such solutions in order to recover today what principal they can on outstanding mortgages. However, I have determined that these programs as they work today, while they may be in the best interest of certain other mortgage investors, do not meet FHFA’s conservatorship goals," said FHFA Acting Director Edward DeMarco in a letter to Rep. Brad Miller (D-N.C.) this year.

Out of options

Treasury Secretary Timothy Geithner admitted on last week’s Meet the Press that the Obama administration is running out of options to "engineer artificially a stronger recovery" in the housing market and overall economy.

Obama did say at the town hall hosted by Twitter last week that he would put more pressure on banks to pursue principal reduction as an option. But Seiberg said voluntary programs proved to be unreliable and going further would be an illegal breach of securitization documents.

"To make a real difference, the government would need to refinance all underwater borrowers at once to a lower rate loan," Seiberg said. "Such a move would leave the government on the hook for billions of dollars in damages."

BofAML analysts said Washington should instead be focusing on establishing a public-private partnership to invest in distressed real estate, citing the success Treasury had under such a program through TARP. But the analysts remained doubtful — given the current political gridlock on Capitol Hill — that anything could be done.

"Given the less than heroic nature of the budget debate so far, we are not hopeful that this will change anytime soon," the analysts said.

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The threat of a debt default by Greece and other European countries has created financial turmoil for investors, banks and government officials. It’s also provided a boon to U.S. homeowners.

Long-term mortgage rates have been drifting to their lowest levels of the year, sparking a new wave in mortgage refinancing activities, industry experts say.

The reason? Despite the anxiety over debt talk brinksmanship in Washington, investors have been flocking to dollar-based investments including U.S. Treasuries, because euro-based securities seeem riskier. Even as a potential U.S. default looms, the odds seem lower than a default in Europe. It’s like living in the nicest house in a bad neighborhood.

Investor fears about Europe were stoked again Wednesday after the head of the European Commission gave an an unusually somber warning to EU leaders, saying that if they don’t find a convincing solution to Greece’s debt crisis at Thursday summit, the global economy will pay the price.

The investor "flight to safety" into dollars has forced up prices of Treasuries, which pushes interest rates lower. For homeowners looking to refinance their mortgage, there are fresh bargains available. As of last week, the average rate on a 30-year fixed mortgage had fallen to just 4.54 percent.

"Ongoing turmoil in the financial markets primarily due to the sovereign debt crisis in Europe has brought mortgage rates back to their lowest levels of the year," Michael Fratantoni, vice president of research and economics at the Mortgage Bankers Association said in a statement. "Refinance applications have surged in response."

The MBA’s mortgage application index, which tracks both refinancing and home purchases, spiked up 15.5 percent in the week ended July 15. That’s the biggest increase since early March. The index for refinancing applications soared 23.1 percent.

Those refinancings are helping homeowners lower their monthly payments and free up a little more cash to pay bills. Mortgage payments made up just under 10 percent of household debt in the first quarter, down from 11.3 percent when the recession began in 2007. (Some of that drop is the result of homeowners who lost their homes and no longer have a mortgage.)

But unlike the days of "cash-out" refinancings during the housing boom, there’s little home equity left to cash out. With home prices down one-third from their peak and still falling, roughly one in four homeowners have no equity at all. At the height of the mortgage mania in 2006, American households scooped nearly $350 billion out of their houses by refinancing and taking out home equity loans. In the year ended in April, that had fallen to less than $60 billion.

The drop in mortgage rates has done little to revive sales of new and existing homes. Bankers are still very choosy about approving loans for home buyers, and consumers have gotten more nervous about buying as the job market and economy have weakened.

Sales of previously-owned homes fell more the forecasters had expected in June hitting a seven-month low and extending a dismal spring selling season. More troubling was a surge in cancellations of pending contracts as home buyers found themselves unwilling or unable to close on their purchase. Some 16 percent of buyers backed out of their contracts in June – up from 4 percnt in May.

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Political deadlock mixed with terrible housing market conditions will eventually turn America into a society of renters, according to the latest Housing Market Insights report from Morgan Stanley (MS: 21.58 +2.86%).

High rates of mortgage delinquency, foreclosures and liquidations are turning homeowners into renters, analysts at the investment banking giant said, lowering homeownership rates and increasing demand for rentals.

And it appears even federal institutions are giving up on implicitly supporting what used to be the cornerstone of the ideal American life.

In the Treasury Department white paper on reforming the government-sponsored enterprises, a suggested change to housing policy was put forward: "The administration believes that we must continue to take the necessary steps to ensure that Americans have access to an adequate range of affordable housing options. This does not mean our goal is for all Americans to be homeowners."

During the housing bubble, homeownership rates increased from 66% to 69%, an all-time high. Today, that number is just below 65%, according to Morgan Stanley researchers Oliver Chang, James Egan and Vishwanath Tirupattur.

The analysts expect this will decline further to 59.7%, driving multifamily vacancies down and rents up. The researchers derived this estimate by taking the number of delinquent homeowners likely to be foreclosed, and moving them into the rental category.

Nonetheless, American payroll and household formation numbers are actually on the rise (see chart below):

Traditionally, this would mean that these households, with increasing capital, would naturally look to invest in a home, but getting the loan to do so is on a downward trajectory (see chart below):

The above two graphs will come as no surprise to those following the rental markets.

The National Multi Housing Council, a trade group representing the apartment industry, pushed for clearer housing policy in regard to renting at the group’s mid-year conference in May.

Developers speaking at the conference said the recession has made it easier to get new apartments approved for financing from Fannie Mae and Freddie Mac. During the housing boom, it was difficult to get approvals from the government-sponsored enterprises for rental housing, but localities are reducing the barriers and restrictions that have hampered rental development to encourage the revenue and jobs new development brings.

The NMHC called the trend "the new normal," and it appears demand will continue to surge.

Furthermore, a lack of credit and falling home prices continue to negatively impact the desire to own a home.

And it’s not just these factors pulling down the ability of Americans to get a mortgage.

"GSE reform, Dodd-Frank securitization rules, mortgage interest deduction reform, continued home price declines and a long workout period for distressed homes, will likely make it harder to buy an owner-occupied home," the Morgan Stanley report states.

"As such, we believe that the U.S. will become a Rentership Society, in which the homeownership rate will keep falling, the home rentership rate will conversely rise, and the rental market will dominate the investment landscape in housing for years to come," according to the analysts.

They made clear the interpretation of their results are not necessarily equal to a negative outlook. They point to improvement to the multifamily sector as an example. However, performance of single-family dwellings, often owned by one landlord, are more difficult to project.

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The Federal Reserve’s massive stimulus program had little impact on the U.S. economy besides weakening the dollar and helping U.S. exports, Federal Reserve Governor Alan Greenspan told CNBC Thursday.

In a blunt critique of his successor, Fed Chairman Ben Bernanke, Greenspan said the $2 trillion in quantitative easing over the past two years had done little to loosen credit and boost the economy.

"There is no evidence that huge inflow of money into the system basically worked," Greenspan said in a live interview.

"It obviously had some effect on the exchange rate and the exchange rate was a critical issue in export expansion," he said. "Aside from that, I am ill-aware of anything that really worked. Not only QE2 but QE1."

Greenspan’s comments came as the Fed ended the second installment of its bond-buying program, known as QE2, after spending $600 billion. There were no hints of any more monetary easing—or QE3—to come.

Greenspan said he "would be surprised if there was a QE3"  because it would "continue erosion of the dollar."

The former Fed chairman himself has been widely criticized for the low-interest rate policy in the early and mid 2000s that many believe led to the 2008 credit crisis.

Bernanke, who took over for Greenspan in 2006, began implementing the quantitative easing program in 2009 in an attempt to unfreeze credit and prevent a collapse of the US financial system. The strategy has gotten mixed reviews so far.

On Greece, Greenspan said a default is likely and will  "affect the whole structure of profitability in the U.S." because of this country’s large economic commitments to Europe, which holds Greek debt. Europe is also where "half the foreign [U.S.] affiliate earnings" are generated, he added.

"We can’t afford a significant drop in foreign affiliate earnings," Greenspan said.

Greenspan was also pessimistic about the U.S. deficit talks, saying he didn’t think Congress would reach an agreement on raising the debt ceiling by the Aug 2 deadline.
“We’re going to get up to Aug 2 and I think on that night, we are not going to have the issue solved,” he said.
If that happens, he said, the U.S. would have to continue paying debt holders or risk major damage in global financial markets. As a result, “we will default on everything else.”
He added: “At that point, I think we’ll all come to our senses.”

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After pumping more than a trillion dollars into the financial system, forcing interest to near zero and buying back hundreds of billions of dollars of bad mortgage bonds, the Federal Reserve has adopted a new monetary policy.

Call it "wait and see."

Fed Chairman Ben Bernanke was on Capitol Hill Wednesday testifying on the central bank’s latest strategies for getting the economy back on a stronger footing. The hearing comes a day after minutes of the Fed’s latest Open Market Committee meeting in June showed the group divided over what to do next.

Some members want to consider resuming the pump-priming policy of buying up bonds. The majority, including Bernanke, argue that the recent "soft patch" in growth resulted from a temporary surge in oil prices and the supply bottlenecks from the Japanese earthquake.

"Once the temporary shocks that have been holding down economic activity pass, we expect to see again the effects of (recent Fed policy) reflected in stronger economic activity and job creation," Bernanke told the House Financial Services Committee.

After a convincing pickup in growth last year, the economy slowed sharply in the first quarter and has been limping along since. First quarter gross domestic product edged up just 1.9 percent. The latest monthly data, especially the surprising collapse in job growth in May and June, have raised concerns that the recovery may be stalling out.

For now, central bankers don’t see that happening. Bernanke said that while they’ve trimmed their growth forecasts, Fed forecasters believe growth will rise in the second half of the year to between 2.7 percent and 2.9 percent for the full year. The Fed forecast sees the economy gathering more steam next year, expanding at a rate of 3.3 to 3.7 percent.

So until the data from the second half starts rolling in, Bernanke and most of his colleagues think the best course is to do nothing.

"The Fed has thrown the kitchen sink at the markets with massive liquidity," said Paul Ballew, a former Federal Reserve economist and now chief economist at Nationwide. "So I expect in the second half they stay on the sidelines, they try get a read for the overall health of the economy and then make their decisions from there."

Though the Fed is on hold for now, Bernanke was quick to note that the central bank stands ready to take action if there are new shocks to the global economy or the financial system. Investors were cheered by just a mention that central bank might consider showering more money on the financial markets. Stocks and bonds rallied shortly after Bernanke’s prepared testimony was released.

There are plenty of potential sources for shocks that could throw the economy off kilter. The ongoing political fracas over the federal budget, for one, has the bond market on edge. Congressional dithering over raising the debt ceiling has raised the threat of a default on U.S. Treasury debt.

The spreading debt crisis in Europe, for another, threatens to spark a banking panic that could put pressure on U.S. banks.

Bernanke said the U.S. would continue to pay interest on its debt even if Congress failed to extend the debt ceiling by Aug. 2, when the government is scheduled to exceed its borrowing authority.

"The assumption is that as long as possible, the Treasury would want to try to make payments on the principal and interest to the government debt, because failure to do that would certainly throw the financial system into enormous disarray and have major impacts on the global economy," Bernanke said.

Nevertheless, any of these shocks could produce the Fed’s worst nightmare: a surge in market-driven interest rates that would severely test the central bank’s ability to keep interest rates low. In his testimony, Bernanke reminded the committee of the importance of holding rates down.

"We know from many decades of experience with monetary policy that when the economy is operating below its potential, easier financial conditions tend to promote more rapid economic growth," he said.

But the Fed doesn’t have many tools left to hold down rates if bond investors get spooked and demand higher interest payment to offset the risk of not getting their money back. Bernanke assured the committee that the Fed has "several options," and cited two. One would be to be more explicit about its plans to keep rates low for a very long time. The other would be to scale back the interest payments to banks that store cash in the Fed’s accounts.

"A lot of the options he put on the table were effectively worthless," said Drew Matus, a senior economist at UBS Investment Research. "So I think Bernanke really is just hoping for the best."

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The Daily

Forget Beverly Hills or Manhattan. If you really want to live the high life, try … Des Moines, Iowa?

Based on the buying power of its residents, the Corn Belt capital was recently named the richest metropolitan area in the country by U.S. News and World Report. For the same annual salary that would have you living like a pauper in pricey Manhattan, in Des Moines you can enjoy a veritable life of luxury.

The study used a cost of living index that takes into account prices of such basic goods and services as housing, food and even the cost of a movie ticket. By the report’s metric, the median household income in the New York metropolitan area, $62,887 per year, is the equivalent of a “real income” of only $35,370. In Des Moines, the median salary of $56,576 stretches to $62,446 because of the city’s favorable cost of living index.

Add high-quality housing stock and a booming job market and it’s easy to understand how one might find an unlikely oasis of good living there.

Amy Michel, who transferred from Phoenix to Des Moines for her job at Wells Fargo, is among the city’s growing population. For $529,000, she bought a four-bedroom, two-bathroom, 4,000-square-foot home with a three-car garage and an indoor Jacuzzi in an upper-middle-class neighborhood.

Though she admits to being a 9-to-5 transplant who’s used to a decidedly more cosmopolitan lifestyle, Michel has quickly gotten used to the charms of Des Moines, which include a picturesque pond behind her home. “Our neighbors are our best friends here,” she said, gesturing at the house next door, “and they have a movie theater in there!”

For comparison’s sake, The Daily took a tour of a similarly-priced residence in Manhattan — a studio apartment that can be seen in its entirety when you’re four steps past the front door. Price tag? A whopping $600,000. Laura Cao of Prudential Douglas Elliman, who showed us the apartment, said that “once you get into the one-bedrooms it’s hard to find anything under $750,000.”

When The Daily called another Manhattan real estate agent to ask about apartments in the $200,000 range, the request was met with a hearty laugh. But in Des Moines? No problem.

Chris Diebel and his boyfriend Jonathan Brendemuehl happily showed off their two-bedroom, two-bathroom loft on downtown Des Moines’ main drag, with a price tag of $180,000. And the apartment is tax-free for 10 years thanks to a tax abatement intended to lure young professionals. While Michel said the trade-off between living in New York and living in Des Moines is sacrificing “going out” for a nice home and plenty of space, Diebel said he chooses to live in Iowa precisely to enjoy a more active social life.

“When I moved back here [from L.A.] it was like, ‘Thank God I can finally afford to go out!” he said. “We live really affordably so we can go out to eat and get drinks or go to shows seven nights a week. We can afford to fly out on vacation four times a year.” Lauren Burt, director of media and marketing for economic development at the Greater Des Moines Partnership, said her modest Midwestern city is appealing to people like Diebel because the cost of living is 10 percent below the national average. Diane Todd Brown, a real estate agent for Iowa Realty, said she wasn’t surprised by U.S. News and World Report’s acclaim: “A lot of people come to Des Moines and they say it’s the world’s best secret!”

Watch the accompanying video at The Daily

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No one knows what the economy or the stock market will do over the next six months. But when your time horizon is 20 years, the outlook is actually a lot clearer. And right now, all the trends are lining up to make real estate a fantastic long-term buy.

Of course, if you look at recent real estate statistics, the picture is a total catastrophe. Home prices are down by a third, and the decline recently exceeded that of the Great Depression. Across the country, 2 million homes are in foreclosure and another 2 million are more than 90 days behind in their payments. The backlog of foreclosures could last two or three years.

Falling home prices plus the foreclosure backlog probably mean a flat-to-down market over the next couple of years. But beyond the current desolation, the outlook is exactly the opposite. In fact, three different trends are aligning that figure to produce a major home-price boom over the next 20 years.

1. The Economic Cycle. Admittedly, the current recession is far worse than a typical cyclical downturn. Nonetheless, the economy has grown for seven straight quarters. It is possible that there could be a double-dip recession – triggered perhaps by the default of Greece or Portugal. But the worst damage to the U.S. economy appears to be behind us. Home prices are largely driven by demand, which depends on the number of people working, their prospects for salary increases and the availability of credit for mortgages. All three of those things are bad right now, but they typically lag the economic cycle for GDP. Once the economy finally recovers, the factors that drive housing demand will follow.

2. The Real Estate Bust. The collapse in housing prices has destroyed confidence among home buyers and left perhaps a quarter of all properties worth less than the mortgages they carry. But the experts see prices within 5% to 10% of a bottom. Once the process is done, prices will have been knocked all the way down. As a general rule, the worse the crash in a market, the longer the subsequent recovery can last, because there is nowhere to go but up.

3. The Inflation Outlook. The combination of a cyclical economic recovery and the end of the housing bust is by itself reason enough to buy real estate. But in my view, there is an even more compelling long-term argument – the near-inevitability of higher inflation, as I have argued before. Basically, if the U.S. continued building up debt at its present rate, the country would eventually end up where Greece is today. The reason that won’t happen is that while Greece’s debt is in euros, a currency it can’t control, U.S. debt is in dollars. The U.S. will always be able to pay its debts because the Federal Reserve and the Treasury can simply work together to create more dollars (what people used to call “printing money” in the days before electronic funds).

The catch is that creating money that way would eventually lead to inflation and the devaluation of the U.S. dollar. In such an environment, any kind of tangible property appreciates rapidly. The last time such a pattern occurred was in the 1970s as inflation soared into double digits. Of course, ’70s-style inflation might not recur if federal spending is slashed, taxes are raised and oil prices fall. But that’s not how I would bet.

The real estate market may not quite have bottomed out yet. And the boom I’m talking about will probably take more than a decade to unfold. It also may not apply as directly to real estate stocks. Home builders have more complex problems and real estate investment trusts often depend on commercial properties that are sensitive to business conditions. But the next two or three years should offer exceptional opportunities for buying actual real estate – primary residences and vacation homes – preferably somewhere that’s green.

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