This makes a lot of sense:
Make no mistake, what is going on in the housing market today is a huge stimulus that is currently being paid for by no one.
If the government extends unemployment benefits they have to borrow to pay for it, so it shows up in the deficit.
If the Fed prints dollars to buy MBS, it shows up in the money supply.
But what is happening now is not showing up anywhere:
Borrowers are defaulting with no hope of intention to repay the loan. Meanwhile the foregone interest and principal payment pile up.
You would think the party on the other side of the transaction would recognize the loss. But they don’t. They only recognize part of the loss – they have built in assumptions into the loss reserving methodologies that assume a certain percentage of borrowers are going to “cure”.
But almost to an entity they are using historical cure rates. The banks, the GSEs, the mortgage insurers, the bond insurers, they all assume say 50% of the delinquent borrowers will cure.
Meanwhile the delinquent borrowers are spending/saving the money with no intention of paying it back.
So, say, there is $10B of delinquent interest, a bank may assume they are going to lose $5B, and collect $5B. But there is no way $5B will get paid back.
By the magic of an unrealistic cure rate, that unpaid debt will not be on anyone’s balance sheet until it is finally resolved.
This is why some of the numbers coming out of Fitch and Amherst Securities are so important – they are showing clear evidence that cure rates are in the single digits, not 50%.
This is also why you see a JPM increasing loan loss reserves when delinquency inventory is not increasing – they are changing their cure rate assumptions, because they know the real cure rates won’t come in anywhere near the historical norms.
It really is all a charade to try to buy time to earn their way out of the mess. And we wonder why they don’t lend.