The American Dream

The other day, I was reading an article in the Washington Post, written by the President and CEO of ING Direct - Arkadi Kuhlmann, Friday 3 September - in which he was positing that the American Dream was undermining America.  His basic premise (if I understood him correctly), was that 30 year mortgages are an old fashioned tool for home ownership in a world of advanced financial tools. He further contended that homeowners, should be encouraged (through an eventual elimination of the tax credit for interest and its replacement with a credit for payments to principal) not only to take shorter term mortgages, but also to make efforts to pay down the principal balance on their loans.  Interesting.

To some extent, this makes good sense to me, but I wonder though about obvious requirement to manage one's credit that his recommendation would necessitate.  The core premise of his proposal is that 30 year loans should become much shorter loans, perhaps even as short as 5 years.  He writes, "[o]n a typical $225,000 mortgage, a buyer who gets a five-year, fixed-rate mortgage at 3.50 percent might well pay 4.75 percent for a 30-year loan. The savings would come to more than $11,000 when it's time to refinance the five-year agreement."  While an owner might certainly appreciate the $11,000 in savings, is the s/he willing to pay the price of that 11K?  Because it ain't about to be free.  S/he is going to have to monitor and manage their credit like they're trying to buy their first home.  And they're going to have to be diligent about that credit score, pretty much FOR LIFE under this model.  So the issue then becomes, what happens at year number five if the buyer's credit score is too low to qualify for a refinance on favorable terms?  What if, Heaven forbid, we're in a recession such as we are in now, where almost 10% of the population is unemployed?  What happens then?  Does the 5 year loan simply renew at existing rates (using the qualifying credit score perhaps?) or or does the buyer, now with poor credit, have to renegotiate the loan at whatever rates the banks are offering at the time? Suddenly, that $11,000 savings isn't looking nearly as attractive.

As good an idea as this might seem, it requires of consumers an approach to managing money that doesn't currently exist in this society: FRUGALITY.  That word doesn't have a much of a home in the American lexicon, nor indeed, does it even fit with the way the economic engine of the society works.  The engine of the American economy is the American consumer.  To rewrite that equation would require such significant change to the American psyche that frankly, I can't see it happening.  Perhaps, if this current recession were prolonged (Heaven forbid!) and people were to learn the value of saving over spending; perhaps if, during this dreadful period, people came to understand that a credit card is not a financial buffer, perhaps then it might be possible to inch gingerly in this direction.  But I'm not feeling that happening. 

Mr. Kuhlmann's idea may have great merit, but it fails to take in to consideration the sociology of the society involved.  A new model for financing is a great thing, but it must be based on the context into which it is to be applied.  The context here: spend, spend, spend; go out after 9/11 and spend; we're at war so spend; we're in a recession, I'll send you a check for you to spend; is diametrically opposed to the model Mr. Kuhlmann recommends. 

The reality is that the American consumer spends so much time consuming and being encouraged to consume, that the idea of having to perennially manage the credit score may well be inimical to national best interests.  This is not my personal feeling but when I listen to the talking heads blather on about restarting the economy, what I hear is much talk about consumer confidence - i.e.: consumer willingness to shop.  It's not about the innovation or creativity; it's about shopping.  If this new model of home-ownership were to take root, it would seem to me that it would either, (i) put a serious dent in consumer spending as we would all be more focused on managing our use of credit not simply for the first purchase of the house but through the life of the loan; or (ii) there would ultimately be far more bankruptcies and foreclosures, as people unwilling/unable to manage their spending would find themselves in a nasty bind 5 years out, much as has happened over the last 2 to 3 years.

The unstated premise of Mr. Kuhlmann's idea is that Americans need a radical reframing of how they use their disposable income.  We need to 'dispose' of far less and much more 'retain' far more of it.  Even now, as the economy struggles to regain its footing, the idea that people are choosing to pay down debt and save is already making economists sweat.  I can't begin to imagine what would happen if a movement towards frugality and fiscal responsibility were to take hold more generally.  Fortunately, or unfortunately, I don't really see that happening any time soon...the iPhone5 is bound to be a must have, as is the next gen iPad and the next gen iPod.  In truth there's always a must have 'next gen' something just waiting to catch me at a moment of weakness.

Here's a link to the Washington Post article:  Rebuild the Path to American Homeownership