Making Sense of the Euro Crisis

I'm at a get-together of former banking regulators this weekend, and saw a great PP deck providing insight on the euro crisis, and potential impacts in the US. Email me if you'd like a copy. One thing that crossed my mind while here was potentially adverse effects of low low mortgage rates over the long term.

The S&L crisis was caused, in part, by the squeeze faced by S&Ls when they had 30-year mortgages at 5%, but interest rates spiked to the 20s in the early '80s. I remember hearing about the resulting ''disintermediation'' in my housing finance class at Harvard in the mid-'80s.

Since then, the market has gotten by through a combination of adjustable rate mortgages (ARMs radically reduce interest rate risk) and the hedging effects of securitization. I haven't seen an ARM loan in a couple of years, and the mortgage securitization business is still seized up. But we're blazing forward with 3.75% 30-year loans. What happens when broad interest rates go up to a moderate 7-8%?

Our securitization system will probably be back in shape by then, but I imagine a number of owners will say, ''should I take that job in LA if doing so means leaving my 3.75% mortgage behind and shifting to a new 8% loan on a replacement home down south? That's $20,000 more in post-tax income going to housing costs! Maybe not.''

I hear about this labor market ''stickiness'' already, either because of low Prop 13-protected taxes, or because potential sellers are underwater. Moving to LA means finally taking the hit on a home that's currently underwater.

So let's re-fi into those low low rates while we can, but hope that the economy firms up so we don't get too dependent on them--