I finally red Ed Glaeser’s piece. Like some other writing on the subject, I think the slant is a bit odd. There seems to be a presumption that because the program isn’t as good as the completely uninformed might believe it is not worth considering. 

I am not sure why this follows.

In any case there is only one technical quibble I have. Glaeser says

Refinancing makes little sense as stimulus, whose goal is to provide a temporary benefit that induces more spending today. Instead, state-supported refinancing is a benefit that pays off year after year for as long as three decades. As the loss to investors is experienced immediately, while the benefit to credit-constrained borrowers is spread over time, the net effect on the economy may well be negative.

There may be some behavioral economics reason for framing this as benefits pay year-after-year while investor loss is experienced immediately. However, from pure financial economics this doesn’t work out.

We can take a couple of tacks to see this. I’ll mention just two

1) We could look at it through the lens of the permanent income hypothesis. This may appeal to some of my readers. The investors take a one time hit today. However, the homeowners get a permanent reduction in their payments. The permanent income hypothesis, however, suggests that the investors ought to treat the shock as if it were spread out over their lifetimes. Thus the two shocks are the same.

2) I tend to think more like this. The coupon is the coupon. What in fact happens to bond holders is that they are forced to take on some lower yielding security. For simplicity lets just say they repurchase Agencies, though it wouldn’t matter so long as the bond holders are profit maximizes.

So what you have really done is simply swap the coupon. Whereas bond holders were taking a 4% coupon they are now taking a 3% coupon. The coupon is always less than the final mortgage rate.

Everything else is a wash. Homeowners who move or sell their homes will not gain the full benefit of this program, but they would have swapped their coupons early anyway so bondholders do not experience the full lose in that case. Everything just rolls through.

There is even a slight advantage because the lower payments should have an externality effect of making foreclosures less likely and thus less downward pressure on the mortgage market.

Put another way. Glasear says

After all, if refinancing saved so much money by reducing defaults, private lenders would surely find mortgage modification far more appealing than they do.

But obviously what you want as a lender is for all other lender to lenders to modify and for you to keep soaking your borrowers. That way, the pressure in the secondary market eases without you having to give up yield.