Was UCLA Research Behind Trump's End to the FHA Premium Cut?

LOS ANGELES—Research conducted by American Enterprise Institute and published by the UCLA Ziman Center for Real Estate might have been the impetus for the Trump Administration's indefinite suspension of the FHA mortgage insurance premium cut. The cuts were implemented by the Obama Administration in its final days, and then promptly reversed by the Trump Administration within hours of the inauguration. Stephen Oliner, a senior fellow at the UCLA Ziman Center for Real Estate, recently published research arguing that the premium cuts were bad policy and ineffective at increasing home ownership, and Oliner says the research may have prompted the executive action. Now, in a February economic letter, Oliner explains his research. We sat down with him for an exclusive interview to find out why premium cuts weren't the right solution and how the federal government can better incentivize home ownership.

GlobeSt.com: What did you find in your research on the FHA premium cut?

Stephen Oliner: We found that a few things happened that undercut the effect of the benefit. The first is that FHA premium cuts were supposed to effectively put more money in the hands of the people who used FHA financing. That actually bid up the prices of the houses that FHA buyers bought because the supply was pretty limited, and still is limited. That is the real problem in the housing market these days. People ended up spending more money for exactly the same housing that they would have otherwise bought, meaning that money ended up in the pockets of the home sellers.

Second, a third of the value of the premium cut was used by people who would have bought a house anyway to buy a more expansive house because now they could afford a more expensive house. That didn't further FHA's objective of putting people into houses. It really benefitted people that were going to buy houses anyway and decided to use some of the government's money to buy a bigger house than they would have otherwise.

GlobeSt.com: This was one of the last things that the Obama Administration pushed through before leaving office and one of the first things the Trump Administration reversed in office. Why was this so controversial between the two administrations?

Oliner: The timing is not surprising. The Obama Administration knew that the Trump Administration would not be friendly to another premium cut, so they had a short window once they realized that Trump had won the election, to put in place another cut on the though that it might be politically too costly for Trump to reverse it. As it turned out, the Trump Administration had seen our analysis, because it was public, and decided that it wasn't good public policy, despite the fact that they took a hit in the press. I can't say that is absolutely the truth, but I believe that is likely the case.

GlobeSt.com: If cutting mortgage insurance premiums was an ineffective way to achieve FHA's objective of putting middle-income people in housing, what would be a better solution?

Oliner: The real problem is that we don't have an adequate supply of low cost housing. If there were more houses on the market at relatively low prices that people could, buy, I think that you would see more people opting for home ownership. There is not much that can be bought to people that are making between $40,000 and $70,000. Median income is only $55,000, so we are not talking about lower income people in the absolute sense. We are talking about middle-income people that can't afford to buy a house. Really, the ultimate solution is to find a way to undo the knot that is providing most low-cost housing from being built. That knot is largely regulatory and impediments are imposed at the local level. There has to be a change in mindset among the officials that are in charge of planning decisions at the local level of municipalities across the country. Right now, that is not happening because there is so much outcry from current owners about projects that could supply more housing on the not unreasonable objective that it could reduce the value of their own homes.

The fact is that the typical profile for an FHA borrower is at high risk for defaulting if the economy turns and they lose a job. They are paying a lot of their monthly income in housing payments and they have a FICA score that is below the median in the United States, and they are putting no money down in these loans. The typical down payment in an FHA home purchase loan is 3.5%. If they had to sell the house for some reason a month after buying it, they would incur transaction costs in selling it that would exceed the 3.5%, so they would get less money back than they paid for the house and would effectively be underwater on the loan. FHA is putting people in houses that they are unable to afford and that they are effectively underwater when they take out the loan. That is not good policy. We should be trying to craft policies that put people into homes in the long term.

GlobeSt.com: Are there a significant number of FHA buyers that are defaulting on their loans within the first few months of purchase?

Oliner: No. I am really doing a thought experiment to make it clear that the borrower is underwater they day they take on that loan. Very few people actually need to sell two months later, but if you start out underwater, your house doesn't appreciate and you have a 30-year loan, and almost all FHA loans are 30 year loans, it means that you are paying your mortgage balance down very slowly for the first 5 years. So, you are barely building any equity for those first five years. This isn't a program that is oriented for people accumulating wealth through homeownership. That is really what I think is wrong with the program. The best case for encouraging homeownership is as a wealth-building tool for people that don't have a lot of none housing wealth. If it doesn't serve that purpose, then the case for homeownership is actually pretty weak.

LOS ANGELES—Research conducted by American Enterprise Institute and published by the UCLA Ziman Center for Real Estate might have been the impetus for the Trump Administration's indefinite suspension of the FHA mortgage insurance premium cut. The cuts were implemented by the Obama Administration in its final days, and then promptly reversed by the Trump Administration within hours of the inauguration. Stephen Oliner, a senior fellow at the UCLA Ziman Center for Real Estate, recently published research arguing that the premium cuts were bad policy and ineffective at increasing home ownership, and Oliner says the research may have prompted the executive action. Now, in a February economic letter, Oliner explains his research. We sat down with him for an exclusive interview to find out why premium cuts weren't the right solution and how the federal government can better incentivize home ownership.

GlobeSt.com: What did you find in your research on the FHA premium cut?

Stephen Oliner: We found that a few things happened that undercut the effect of the benefit. The first is that FHA premium cuts were supposed to effectively put more money in the hands of the people who used FHA financing. That actually bid up the prices of the houses that FHA buyers bought because the supply was pretty limited, and still is limited. That is the real problem in the housing market these days. People ended up spending more money for exactly the same housing that they would have otherwise bought, meaning that money ended up in the pockets of the home sellers.

Second, a third of the value of the premium cut was used by people who would have bought a house anyway to buy a more expansive house because now they could afford a more expensive house. That didn't further FHA's objective of putting people into houses. It really benefitted people that were going to buy houses anyway and decided to use some of the government's money to buy a bigger house than they would have otherwise.

GlobeSt.com: This was one of the last things that the Obama Administration pushed through before leaving office and one of the first things the Trump Administration reversed in office. Why was this so controversial between the two administrations?

Oliner: The timing is not surprising. The Obama Administration knew that the Trump Administration would not be friendly to another premium cut, so they had a short window once they realized that Trump had won the election, to put in place another cut on the though that it might be politically too costly for Trump to reverse it. As it turned out, the Trump Administration had seen our analysis, because it was public, and decided that it wasn't good public policy, despite the fact that they took a hit in the press. I can't say that is absolutely the truth, but I believe that is likely the case.

GlobeSt.com: If cutting mortgage insurance premiums was an ineffective way to achieve FHA's objective of putting middle-income people in housing, what would be a better solution?

Oliner: The real problem is that we don't have an adequate supply of low cost housing. If there were more houses on the market at relatively low prices that people could, buy, I think that you would see more people opting for home ownership. There is not much that can be bought to people that are making between $40,000 and $70,000. Median income is only $55,000, so we are not talking about lower income people in the absolute sense. We are talking about middle-income people that can't afford to buy a house. Really, the ultimate solution is to find a way to undo the knot that is providing most low-cost housing from being built. That knot is largely regulatory and impediments are imposed at the local level. There has to be a change in mindset among the officials that are in charge of planning decisions at the local level of municipalities across the country. Right now, that is not happening because there is so much outcry from current owners about projects that could supply more housing on the not unreasonable objective that it could reduce the value of their own homes.

The fact is that the typical profile for an FHA borrower is at high risk for defaulting if the economy turns and they lose a job. They are paying a lot of their monthly income in housing payments and they have a FICA score that is below the median in the United States, and they are putting no money down in these loans. The typical down payment in an FHA home purchase loan is 3.5%. If they had to sell the house for some reason a month after buying it, they would incur transaction costs in selling it that would exceed the 3.5%, so they would get less money back than they paid for the house and would effectively be underwater on the loan. FHA is putting people in houses that they are unable to afford and that they are effectively underwater when they take out the loan. That is not good policy. We should be trying to craft policies that put people into homes in the long term.

GlobeSt.com: Are there a significant number of FHA buyers that are defaulting on their loans within the first few months of purchase?

Oliner: No. I am really doing a thought experiment to make it clear that the borrower is underwater they day they take on that loan. Very few people actually need to sell two months later, but if you start out underwater, your house doesn't appreciate and you have a 30-year loan, and almost all FHA loans are 30 year loans, it means that you are paying your mortgage balance down very slowly for the first 5 years. So, you are barely building any equity for those first five years. This isn't a program that is oriented for people accumulating wealth through homeownership. That is really what I think is wrong with the program. The best case for encouraging homeownership is as a wealth-building tool for people that don't have a lot of none housing wealth. If it doesn't serve that purpose, then the case for homeownership is actually pretty weak.