I noted that for a typical new home, which is now priced at about $178,000 (median price), the cost of driving to and from the home over the course of a 30-year mortgage exceeds $300,000 for homes located in sprawl and the energy costs exceed $75,000 on average.
It seemed evident that a system designed to look only at the ability of the borrower to pay back the $178,000 or so loan but that ignored the affordability of the $375,000 commitment to transportation and utility costs was bound to go wrong.
But now we have solid proof. Today NRDC released Location Efficiency and Mortgage Default, a study that shows a direct, statistically significant link between the high costs of personal transportation imposed by poor location efficiency and a much higher risk of default. The report was authored by Stephanie Y. Rauterkus of the University of Alabama at Birmingham, Grant I. Thrall of the University of Florida, and Eric Hangen of I Squared Community Development Consulting, Inc., with support from NRDC.
The study looked at the conventional wisdom variables, such as credit score, payments-to-income ratio, etc, and found that even after these had been taken into account, adding location efficiency to the equation increased the predictive power of the formulas for estimating the likelihood of default.
What this means on an individual household level is that two homebuyers with exactly the same profile in terms of credit score, debt-to-income ratio, and loan-to-value ratio will have different probabilities of foreclosure: the one in the more location efficient area will be less likely to default. For example, in a relatively location inefficient, neighborhood (with, say, a median auto ownership rate of one car per $33,000 of income), if a homebuyer has a credit score of 680, a total debt-to-income (“back end”) ratio of 41 percent, and a home loan-to-value ratio of 80 percent, the model predicts a 9.9 percent chance that the home will fall into foreclosure. For a second buyer with all of the same mortgage underwriting characteristics as the first buyer—but who is buying in a more location efficient area with, say, a median auto ownership rate of one car per $58,000 of household income- the chance that the home will fall into foreclosure drops to 7.2 percent.
So the second homebuyer could have a much higher debt-to-income ratio (up to 62.5 percent holding other factors equal), a lower credit score, or a higher loan-to-value ratio, and still have only the same risk of foreclosure as the first buyer.
This result is astonishing if you think about it. Would you want to make a loan to a family whose monthly mortgage payments were over 62% of their gross income? Would you take on such an obligation yourself and think you could keep up?
I don’t think so.
Yet the risks of such a loan (for a house in a neighborhood of high location efficiency) are no higher than they would be for the first buyer, and no one thought twice (or still thinks twice) about the prudence of such a loan.
What does this mean for America’s ability to recover from the recession? It means that either:
A) We thought we were tightening standards enough to prevent a new tsunami of defaults, because there are important risk factors we are still ignoring; or
B) By tightening credit standards indiscriminately—limiting the ability of families to qualify for homes that entail very low transportation and energy costs as well as those burdened by high transportation and energy costs—we are choking off a recovery in homebuilding
C) Or maybe we are somewhere between A and B
But wherever we are, it isn’t what we need for economic success as a nation.
NRDC, along with other NGOs, has long advocated that mortgage qualification should be evaluated on the basis of the sum of loan repayment costs PLUS transportation costs PLUS energy costs. This study shows that incorporating transportation costs would be a prudent, conservative step to take right now. For the Chicago example described above, the study’s results showed that every dollar saved in transportation allowed a family to spend over THREE DOLLARS more in mortgage payments with no higher probability of default.
So allowing the dollar-for-dollar tradeoff between mortgage obligations and transportation obligations implied by considering the sum of monthly costs clearly will be supported by the further study that NRDC recommends to allow the lending system to incorporate the effects of location efficiency and energy efficiency in the optimal way. But the perfect should not be the enemy of the good. If we base lending on the sum of loan repayment costs PLUS transportation costs PLUS energy costs NOW, we will improve consumer choice, revitalize homebuilding in places where families can lower their transportation costs, and reduce the overall risks of default.
…And it will be good for the environment too.
]]>“Remember how ten years ago, at the turn of the Millennium, the media were full of retrospectives of the last ten years, or hundred years, and of starry-eyed predictions for the next ten? The authors of the predecessors to blogs were excited about the future, and speculating about what we could call the next decade. If the previous decade was the nineties would be next one be the “aughties”?
If you fast forwarded to today, a viewer/reader would have to be amazed at the lack of interest—and the lack of confidence, as we move to the next decade. It is evident that the right name for this decade would have to be the Decade of Zero. Because the main story of the last ten years, at least for America, is the story of failures, of missed opportunities, or at best of laying the foundations for future progress, as opposed to achieving it.”
...when I happened to look at Paul Krugman’s column, where he says the essentially the same thing.
Dr. Krugman explains the economic failures of the decade: the failure to see growth in family income, in jobs, in housing values, or in the stock market, or in America’s importance in the world economy. Commenters on this column also point out failures in other measures of American success and welfare.
The environment is also beset with failures to take action. Global concentrations of greenhouse gases are more than 5% higher than they were in 2000. America has made almost zero progress as a nation in curtailing greenhouse gas emissions (although some individual states and regions have done a lot). We are ten years closer to potential tipping points in the global climate system, and still operating without a global plan to solve the problem. Climate change can still be mostly averted, but it is that much harder now than it would have been if we started in 2000 (much less 1992).
For both the economy and the environment, we (meaning the public policy decisionmakers in the federal government and in businesses organizations) closed our eyes to obvious problems, hoping that if we could convince everyone to have confidence, the problems would go away. Or at least not be noticed. This is a key problem that we need to overcome to avoid another Decade of Zero: we need to face facts and recover the recognition that problems demand solutions.
The first solution we need to address is to pass a climate protection bill. Anyone who worries that solving climate change will compromise the economy should take note: during the decade where we dithered and procrastinated on taking action on the environment, the economy stagnated and developed systematic problems that still are not under control.
But this is actually a reason for hope, not for gloom. We can solve both problems with the same policies. There is a tool for job creation and economic recovery that is dramatically underutilized in the economy: Energy Efficiency. The National Academy of Sciences recently released a study showing the potential to invest almost a half trillion dollars in energy efficiency in buildings alone over the next decade, an investment that will pay itself back in less than three years and then go on saving over $150 billion a year for the foreseeable future.
My own analysis will be presented next month in the new book Invisible Energy, to be published by Bay Tree Publishing. It highlights something buried in the details of the NAS study: that the assumptions understate the true potential for stimulating the economy by reducing emissions of greenhouse pollution through efficiency. We actually have the opportunity to invest trillions of dollars in climate solutions that also address some of the core causes of the Great Recession of this decade, causes that are still only minimally discussed in the national economic dialogue.
Tackling the climate change problem will provide an impetus to solving American’s underlying economic problems, and Invisible Energy will show how.
Krugman’s op-ed notes that it is hard to find anyone, of either party, willing to address the fundamental causes of the problem. The same is true for energy efficiency. But we have the choice. There are ways to exploit this immense resource for economic recovery and climate stabilization in a way that enhances markets and helps make America more competitive. We need to make them a priority for the decade of the teens.
]]>We here in the United States have been slow to recognize this connection, perhaps because of a national political dialogue on climate change that focused on the costs of cutting emissions while ignoring the much larger economic benefits. This has been less of a problem in Europe, where attempts to meet the goals of the Kyoto protocol have spawned deep interest in energy policies to promote efficiency.
The progress that Europe is making can be heard in an interview between the Alliance to Save Energy's President Kateri Callahan with European Energy Commissioner Andris Piebalgs.
The Commissioner discusses some of the more ambitious goals that the European Union has established and how the EU and its member states are working to meet them.
The Alliance to Save Energy (ASE) is a strong partner with NRDC in the effort to bring policy attention to energy efficiency globally as well as in the United States. ASE will be holding a conference and trade show - the Energy Efficiency Global Forum and Exposition - in Paris from Monday, April 27 through Wednesday, April 29. Commissioner Piebalgs will be speaking, one of 100 leading voices representing 26 countries and six continents expected to be at the conference.
I hope that NRDC's members and supporters who are able to be in Paris at this time, or are willing to make the sacrifice of travelling there, will attend.
For more information on EE Global 2009, to register for or serve as a sponsor of the event, please visit http://eeglobalforum.org; or contact Mindy Berman at (310) 915-5947 or mberman@ase.org.
]]>Some analysts today are saying that we may be seeing the bottom of the default crisis in the foreseeable future.
The reasoning is apparently like this: "borrowers got in trouble by purchasing $400,000 homes that they couldn't afford. But now the prices are down to $250,000, so everything will be all right."
This sort of thinking ignores the key contributor to the crisis - energy and transportation costs. A $400,000 house in suburban sprawl does not commit its owner to only $400,000 of costs over 30 years. It commits the household to almost $800,000: $400,000 to buy the house, over $300,000 to drive to it, and over $75,000 to pay the utility bills. If the price of the house comes down to $250,000, the total commitment is still $650,000. It hasn't changed much!
And since without changes in underwriting standards, the house at the lower price will be considered "affordable" to households with even lower incomes than before (all the lender thinks about is that the purchase price has come down more than 35%), Fannie Mae and Freddie Mac would just be setting up the sequel to the default crisis of 2008.
Now that Fannie Mae and Freddy Mac are responsible to the taxpayer, let's make sure that their lending policies are financially responsible. And also environmentally responsible.
New underwriting standards should be based on the total of monthly obligations resulting from transportation costs, utility bills, and house payments all taken together, rather than considering house payments to the exclusion of these other two large obligations.
Not only will this help with economic growth and financial responsibility, it will also help with fairness in lending. In the cases where we have been able to get data, the most location efficient neighborhoods have much more diversity and also lower rates of home ownership. New standards will help improve environmental justice in home ownership opportunity.
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So we probably won’t do anything to prevent the next price spike: Congress recessed for August when prices were much higher than today without acting on consensus legislation that would have provided moderate-term tax incentives for energy efficiency in homes, appliances, and offices — incentives that would start us on the road to saving 4 times as much energy in the form of gas alone as the oil industry thinks could be found in the Alaska National Wildlife Refuge. These incentives, packaged with tax credits for renewable energy, had strong bipartisan support and were also backed by a broad coalition of business as well as environmental interests.
It seems that we can’t fix the leaky roof when it’s raining, but we don’t want to bother when it’s sunny.
We are especially lax on fixing it when the fix is invisible — when it is based on energy efficiency measures that literally cannot be seen.
Maybe we can take the right steps on energy by realizing that fixing our energy problems will also fix most of what’s wrong with the economy this summer.
And energy efficiency — the invisible but largest energy resource — is at the heart of the economic solution.
I will be blogging about this in the coming weeks. Some of the material in these blogs will appear in my new book, tentatively titled, Invisible Energy: How Efficiency Can Stabilize Global Climate and Fix the Economy, forthcoming from Bay Tree Publishing, which also brought out Saving Energy, Growing Jobs.
The fundamental problems facing the American economy are not broadly based concerns that can be addressed easily through conventional government interventions. Many economic slowdowns were due to broad problems such as weakening consumer demand or increasing general inflation. These could be dealt with by adjustments in fiscal and monetary policy. But most of the problems facing the American economy today relate to the weaknesses of specific sectors of the economy. These weaknesses are not random or accidental, but rather are the result, to a greater or lesser degree, of the failure to address the sorts of energy policies that I have described.
Conventional economic stimulus won’t work to address these problems, because it will worsen some of the problems at the same time that it helps solve some others. Because of faulty energy polices, the economic situation is like driving your car with the brakes on. Pressing harder on the gas pedal won’t solve the problem, it will just overheat the brakes.
This is an apt metaphor, because the brakes are the high cost of energy, much of which results in a flow of dollars away from the United States, and the failures of markets that thwart competition and innovation. I will show in Chapter 2 how energy is at the heart of several of the most important economic problems of the late decade of the 2000s.
But in brief, these problems are:
1. The risk of inflation
2. The large trade deficit
3. The mortgage crisis
4. The low savings rate
5. Productivity increases that are too low
6. Government deficits
7. Weak consumer spending
8. Too few jobs
All of these problems are created or exacerbated by inefficient uses of energy, and by the policy choices that enable inefficiency. So all of them can be ameliorated by reformed policy choices.
Perhaps you are wondering what the mortgage default crisis has to do with energy. Here’s the connection:
The mortgage credit crisis is not only due to subprime lending: even the giant government-sponsored enterprises Fannie Mae and Freddy Mac are seeing their portfolio values decimated by defaults. But these defaults are not random: they have a very clear pattern that has mysteriously been overlooked by the financial services sector. Mortgage defaults occur in places where the need to drive is very high — strolling suburbs with little or no transit service. Urban areas with compact, walkable neighborhoods and good transit services have been largely immune from the credit crisis. What date we have suggests that the lower the auto transportation cost associated with living in a certain neighborhood, the lower the probability of default. A rational energy policy would consider transportation expenses in underwriting loans, and could have avoided a substantial if not dominant portion of the risk that is now afflicting the economy. Concerning the low savings rate, for the past 35 years, since the energy crisis of 1973, median incomes of Americans have hardly changed, yet the trend of ever-increasing need to drive cars has continued unabated. At the same time, cities and suburbs were growing in ways that reduced compactness, walkability and transit access, apparently leading to this increased need to drive to maintain the same quality of life. Driving is expensive — it was 18% of household expenditures even when gas was $1.50/gallon. This compares to only 21% for housing itself (considering only paying for the house, not the utilities or furniture, etc.). So if expenses go up, it’s not surprising that savings would go down.
This problem could have been avoided — and a repeat of it could be avoided without crushing new housing construction — if the lending industry started to consider transportation and energy costs along with the mortgage payments in deciding if a borrower can afford the house. This is not hard to do: there have already been small scale testing of Energy Efficient Mortgages and Location Efficient™ mortgages. The Location Efficient™ mortgage test was a complete success — not a single borrower has defaulted.
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