Thursday, February 19, 2009

The Price of False Appraisals Just Went Up

This is a probable outcome of the recently announced mortgage bailout plan. Consider this criterion as an example:
Eligible loans will now include those where the new first mortgage (including any refinancing costs) will not exceed 105% of the current market value of the property. For example, if your property is worth $200,000 but you owe $210,000 or less you may qualify. The current value of your property will be determined after you apply to refinance.
The rule creates an economic constraint. Economic theory tells us that every economic constraint has a shadow price that represents the value of relaxing the constraint. In practice, this is equivalent to say that the price of false appraisals just went up a lot.

It appears to me that even trained economists will have a hard time digesting all possible unintended consequences and shadow prices arising from the incentive distortions and regulatory constraints created by this initiative.

PS: to be clear, it's not only the price of false appraisals that will go up, the demand for false appraisals will go up too, and that's the main problem. Some big joker could say that that this is not a problem, after all an increase in the demand for corruption services would "stimulate" the economy, in a broken window kind of way... I don't need to say that this is not the kind of stimulus that we need.

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