Three Things Still Wrong With The Housing Market

(MoneyWatch)  We've gotten a bit of good news lately on the housing front with more new home sales and a slight bump in home prices, but the market is still completely dysfunctional. With the massive government intervention in the housing markets, we won't know for a long time what our houses are really worth or what we should pay for a new home.

Mortgage Rates. Mortgage rates are way too low and are inflating the value of housing across the country. Here's why:

• Ned Davis Research indicates that the overall delinquency rate on home mortgages is at a record high of about 9 percent. That means it's very risky to loan money to people to buy a home. This is a delinquency rate that you might expect to see in the junk bond market, where interest rates can be as high as 10 to 15 percent for borrowers.
• Consequently, interest rates charged to many home borrowers should be much higher to compensate lenders for the risk of default, but rates are at all time lows.
• Rates are low because the federal government, through Fannie Mae and Freddie Mac, is basically providing the banks with the money to lend for mortgages.
• Since the government isn't as concerned about future defaults as private investors would be, the risk of loss isn't being fully priced into the loans.

By keeping rates low, it reduces the monthly payments for purchasers and allows them to continue to pay more for houses than they may well be worth.

Incentives. Many home sales are coming from first time home buyers as a result of the $8,000 tax credit and low down payment requirements. These incentives are drawing more buyers into the housing market than could otherwise afford a home if they had to put 10 percent down and received no tax credit. This also pushes up the price of housing.

Refinancing. Through various refinancing programs, borrowers with no or negative equity in their homes can refinance at lower rates or even receive some form of loan modification. This is great for the homeowner in crisis, but not so good for pricing transparency. It continues to keep more people in homes they probably can't afford.

Necessary Evil. Given the fragile state of the economy, it may be that continuing to distort the housing market through low rates, tax incentives and refinancings is necessary. But considering that this is what got us into the mess, at some point the subsidies need to be removed and buyers and sellers must stand on their own two feet.

The danger is we won't have the political will to remove these subsidies, particularly the interest rate subsidies, and the housing market sets itself up for another collapse years down the road.

Bottom line. You won't have a good idea of what your house is really worth or what you should pay for a new one until the government subsidies are gone.