The housing crash and the end of American citizenship.

• Author: Stoller, Matt

No man who owns his own house and lot can be a Communist. He has too much to do. (1)

William Levitt, architect of post-WW II suburbia

We have a lot of kids graduating college, can't find jobs.... That's what happened in Cairo. That's what happened in Madrid. You don't want those kinds of riots here. (2)

New York Mayor Michael Bloomberg, 2011

Introduction I. Evolution of the Housing System in Twentieth Century America A. The Modern Conundrum B. The New Deal Social Contract C. The Reagan Era Social Contract D. The Twenty-First Century Housing Collapse II. Reassessing the Housing Market: The Coming of a New Social Contract A. The Failed Policy Response B. Why Housing Cannot "Recover" C. The Coming Breakdown Conclusion INTRODUCTION

To many Americans, it feels like the United States is a different country than it was just a few years ago. It is hard to explain to teenagers today that there was a time, even a short time ago, when political institutions did not seem riddled with corruption and when Americans were not split by stark economic and political lines. Such memories increasingly describe what sounds like a foreign land, not the American system we know today. The narrative is widely understood: economic gains go to the top while costs and risk are shifted onto everyone else.

The most obvious economic manifestation of this difference is the foreclosure crisis. Much as divorce became a culturally common activity in the 1960s, the rise of a foreclosure epidemic has made the loss of a home a searing but familiar experience for tens of millions of Americans.

Why is this happening? Why now? And why are American political and cultural leaders ratifying this shift by collectively asserting, as the U.S. Bank CEO framed it to frustrated business owners in November 2011, as essentially stop whining and "get over it"? (3) An exploration of the American housing system provides clarification on these questions; it is housing as a whole that has led the change, as both a foundational element of the American community and the key financial link between the elite sectors of the economy and the population.

The relationship between the shifting housing environment and the rest of American life is profound. In April 2011, President Barack Obama reversed a seventy-five-year government policy framework by encouraging renting over home buying. (4) Brian Moynihan, the CEO of Bank of America, echoed this shift a few days later, saying that Americans should no longer look at their homes as "asset[s]" but instead solely as "great place[s] to live." (5) This policy reversal points to a deceptively simple, yet unanswered, question about the current American economic order: why has the political system been unable to arrest or mitigate the millions of foreclosures that have taken place since 2006?

There will be roughly six to twelve million foreclosures from 2006 to 2014. (6) This wave, which is highly deflationary in terms of its impact on the housing market, will reduce the most broadly held source of wealth for most Americans: home equity. The closer one gets to the problem, the more puzzling it becomes. Not acting to protect housing, the primary source of wealth for the middle class, is a radical policy choice. Why make it?

There are precedents in dealing with a debt overhang, the most obvious parallel being a write-down of debt in response to the United States' foreclosure epidemic of the 1930s. Yet policy-makers and business leaders have done virtually nothing; their lack of action has been coordinated and bipartisan. Debt is fundamentally a set of social relationships, and political leaders will not willingly alter those relationships to restore an equitable social contract unless forced to do SO.

The thesis of this Article is that this wave of foreclosures signals the end of an older social contract and the beginning of a period of deep political and economic instability. The crash of the housing market radically altered the wealth and power distribution mechanisms for the American political order. For much of American history, housing operated as a proxy for wealth and stability. (7) From the 1930s onward, it offered a route to wealth for a majority of the population, while allowing the banking system to serve as a channel through which the Federal Reserve could manage the economy. Over time, as financial asset growth replaced wage growth, housing became a leverage point masking the deterioration in America's financial status. The housing crash, far from a simple downturn in one sector of the economy, represents the collapse of this entire apparatus. The result is increasing political chaos, rising authoritarian structures, and social unrest.

In other words, the financial crisis snapped the spine of an implicit social contract, one that aligned the interests of the governing class and the citizenry. This fissure becomes evident in a change in the correlation of corporate profits with home equity--from 1950 onward, these moved in tandem. But in 2010 they split apart, throwing our traditional political model and distribution mechanism for wealth into uncharted waters.

[FIGURE 1 OMITTED] (8)

This Article identifies two distinct eras in which the housing market played a pivotal role in regulating economic growth and social stability: the New Deal "High Trust" social contract era and the Reagan-era "Low Trust" social contract era. Over the course of seventy years, the housing finance system became the primary wealth distribution mechanism through which wealth was distributed. The national housing stock and finance system served different social aims during these eras, but the housing system remained unchanged throughout these periods, thereby acting as a national regulator.

Government policies like the home mortgage interest deduction and cheap Federal Housing Administration (FHA) loans encouraged broad-based wealth distribution, which took the form of home equity. While the New Deal and the Reagan-era housing systems differed in their basic social models and inequities, they were politically stable. The current financial crisis has eroded our housing system so much that we are entering a new era of fluctuating and unstable politics and finance, in an era in which earlier social guarantees are no longer valid.

Now many Americans are beginning to question the legitimacy of the democratic system in which they were raised. Pew and Gallup polls consistently show that public support for governing institutions--public schools, the Supreme Court, Congress, the media--are at historic lows. (9) With support for home purchases ebbing and political representation increasingly dominated by large, moneyed interests, it is unclear what sustains political stability in the face of a lack of public faith in political institutions and a lack of broadly distributed stakeholder society. Politicians like homeownership because it deters radicalism. (10) This Article considers the converse.

1. EVOLUTION OF THE HOUSING SYSTEM IN TWENTIETH CENTURY AMERICA

   1. The Modern Conundrum

      One mystery underlying modern politics is why neither political coalition has been able to stop the devastating wave of foreclosures that began in 2006, despite the politically problematic misery it caused. A foreclosure costs money to many parties, not just the homeowner. (11) Powerful, wealthy banks and investors, who own mortgage debt, lose, homeowners lose, communities lose, and politicians lose. (12) A foreclosure epidemic magnifies the losses. It is odd, to say the least, that arresting the foreclosure epidemic is not on the political menu for 2012. (13)

      Housing has been an important element of the American social contract for four generations, and this failure to grapple with--or even acknowledge in any serious way--the loss of the American home is beyond the experience of any American living today. American Presidents have consistently lauded the benefits of homeownership. Ronald Reagan said that homeownership "supplies stability and rootedness." (14) Lyndon Johnson went even further: "[O]wning a home can increase responsibility and stake out a man's place in his community.... The man who owns a home has something to be proud of and reason to protect and preserve it." (15)" And William Levitt, the architect of the modern suburb, gave what is probably the most illuminating rationale for homeownership when he said in 1948, "No man who owns his own house and lot can be a Communist. He has too much to do." (16)

      This pro-home ownership rhetoric is backed by enormous financial and social incentives. In the United States, voting behavior and access to economic rights are highly correlated with homeownership. (17) Aside from its social benefits, housing has been an important channel for transmitting monetary policy, even if it is not explicitly recognized as such. (18) Every post-war recovery has been led by fixed residential investment. (19) On a political level, the coalition backing homeownership--Wall Street and the construction and real estate sectors--meant that broad-based homeownership as a policy priority could deliver wealth throughout society. (20)

      What happened to this system? Why did the Bush administration, and then the Obama administration, remain inert in the face of its collapse? (21) Why have all attempts from well-meaning Congressional and regulatory actors to remediate this situation failed? (22) To understand how deeply rooted the problem is, we need to understand the national consensus underlying our economic foundations, a consensus first established in the 1930s through a set of financial institutions that flowered in the 1940s and 1950s alongside the rise of suburbia. (23) From there we will see that this consensus, and the institutions it required, was altered, but not destroyed, by the Reaganite political realignment of the late 1970s and early 1980s. (24) Then we will travel through the housing boom and bust, tracing the political contours of...