There are several policies that have been proposed, and some already in place, to address rising foreclosures. Nearly all are attempting to alleviate the problem by approaching it bottom-up rather than top-down. The bottom-up approaches involve a plan to work out current problematic loans. Moving people out of the higher interest rate subprime loans into FHA loans would be one example.
Such proposals are well-intended and most will help mitigate foreclosure problem. But in addition to some aspects of the bottom-up solutions, what is needed and could well be far more effective is a top-down solution of raising the housing demand. What is most needed in the current point in the housing cycle is to get the home sales rolling. Rising home sales will lower inventory and lower inventory will help quickly stabilize home prices. A recent Boston Fed study showed that home price movements and not interest rate resets as the primary determinant of foreclosures. If people have less or negative housing equity, then people have an incentive to default on mortgages and simply walk away.
What is critically needed at this important point in the housing cycle is a measure to assuredly and quickly raise home buying activity. This can be accomplished by providing a homebuyer tax-credit. A nationwide $5,000 tax credit (the same amount currently in existence for homebuyers in Washington, D.C.) will cost the federal government $40 billion. If factoring in rising economic activity and accompanying rising tax revenue, then the true cost could be minimal or even positively favorable. — Lawrence Yun, NAR Chief Economist
[Note: Read Lawrence’s full commentary on the Research Section of Realtor.org]