One of the great things about capitalism, at least as it’s practiced in the
US, is that everybody seems to have a reasonably strong implicit faith in efficient
markets. You can wander into pretty much any store or coffee shop in pretty
much any town, and be relatively safe in the assumption that the prices they’re
charging are market rates and that you’re not being ripped off.
On the other hand, a lot of the recent headlines about the subprime mortgage
business put paid to that assumption. Millions of homeowners, it would seem,
were sold subprime mortgages when they would have qualified for much cheaper
prime mortgages. The winners? Sleazy mortgage originators. The loser: Joe Homeowner.
Given that a mortgage is a product costing hundreds of thousands of dollars,
it’s quite astonishing that it is here, where one might expect people to be
the most price sensitive, that so many people got ripped off to the tune of
so much money. But that does indeed seem to be the case, and so Justin Fox has
now decided that the problem is so bad, people should pay a third party a flat
fee in order to get
peace of mind and be able to sleep safe in the knowledge that they have
an appropriately-priced mortgage.
It’s fair to say that most people cannot be expected to puzzle out on their
own whether a mortgage loan is a good deal or a bad one. This is not necessarily
because they’re stupid or irrational, but because understanding amortization
and the present cost of future commitments is not something the human brain
really evolved to do.
I don’t buy it, for two reasons. Firstly, the third party that Justin is plugging
doesn’t seem, to me, to offer much more than free services like Lending
Tree. And I’m always extremely suspicious of any service with opaque pricing:
nowhere on the website are we informed how much the service actually costs.
If this is such a great idea, one would think that they would be trumpeting
their pricing from the rooftops, rather than doing their very best not to reveal
how much they charge.
But on a much more basic level, I do trust in efficient markets, and
I don’t think that people will really benefit from this service.
This isn’t just a gut feeling: it’s been empirically
demonstrated by James Vickery, of the New York Fed, in a wonderful
paper entitled "Interest Rates and Consumer Choice in the Residential
Mortgage Market". Consumers, it turns out, even if they don’t feel particularly
knowledgeable when it comes to mortgages, turn out to be extremely
price-sensitive. If fixed-rate mortgages go up by just one tenth of one percentage
point, for instance, the market share of fixed-rate mortgages will plunge by
10.4 percentage points.
Not only are homebuyers able to shop around for the cheapest possible mortgage,
then; they’re also able to do interest-rate swaps in their head, without even
realising it. Quite impressive, really.
That said, there’s no doubt that there are sleazy subprime mortgage
originators, and that they have put people into unsuitable mortgages.
This is a classic sleazy-salesman problem, however: it really doesn’t apply
to the kind of people who proactively go out and look for a mortgage on their
own behalf. And those are the people to whom this new service is targeted: the
very people who don’t need it.
If you’re buying a house and shopping for a mortgage, then, or if you own your
house and you’re shopping for a refi deal, then keep on doing whatever it is
you were doing. You’re not going to get ripped off, and you don’t need to pay
money to any third party to ensure that you’re not going to get ripped off.
If, on the other hand, a single mortgage broker approached you, rather than
the other way around, then go ahead and check what he’s offering against a couple
of other mortgage providers. Once again, you shouldn’t need to pay any money
for this service. The mortgage market is actually surprisingly competitive and
efficient, and you can trust in that.