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Are Principal Writedowns the Answer to Housing Crisis?

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All it took was one bad home sales report (Pending Home Sales Index from the National Association of Realtors Tuesday) to turn the tide of sentiment from ebullient housing recovery to double dip doom.

Look, we all knew it was coming; home sales were spiked by several shots of government stimulus in the second half of 2009, and as that stimulus starts to wear off, sales activity has nowhere to go but down. The extension and expansion of the first time home buyer tax credit gave buyers breathing room to sit back and think about whether they really want to jump into this market now. Unfortunately, the credit expires just as the real spring season, and its potential embedded optimism, begins (April 30th), and that's not the half of it.

The next conundrum is the end of the Federal Reserve's $1.25 trillion mortgage backed securities purchase program. Ben Bernanke has given no hint that he would consider extending the program past March 31st, and in fact purchases have been steadily decreasing from $78 billion in November to $54 billion in December. Earlier in the week he actually suggested that raising interest rates ("using monetary policy") could fend off another housing bubble.

But what concerns me most is this new bandwagon driving through the foreclosure crisis. Most agree that the government's mortgage bailout program (Home Affordable Modification Program or HAMP) is at best unsuccessful and at worst detrimental. So now I'm beginning to hear more chatter about principal writedown, and more specifically, government-funded principal writedown.

The idea is to give folks equity back in their homes so they don't walk away from their mortgage commitments. It would also help borrowers who don't qualify for modifications because they are so far "underwater" on their mortgages. The arguments are plain and simple: Bite the bullet to save the greater housing market or don't because the moral hazard is far too untenable. Anyone who's ever read this blog before knows where I stand. I would honestly rather see my home's value go down than see the guy next door (figurative: my neighbors are lovely and fiscally responsible) who made a poor/negligent financial decision get a mulligan at my expense.

Questions? Comments? RealtyCheck@cnbc.com

  • Diana Olick serves as CNBC's real estate correspondent as well as the editor of the Realty Check section on CNBC.com.

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