Via Tyler Cowen, Luigi Zingales offers his “plan b” proposals for digging out of the financial crisis. We’re looking at some stern measures, in particular a law making available a “re-contracting option available to all homeowners living in a zip code where house prices dropped by more than 20% since the time they bought their property” under which people would get to write down the principal of their loan by an amount equivalent to the decline in their zip code:
In exchange, however, the mortgage holder will receive some of the equity value of the house at the time it is sold. Until then, the homeowners will behave as if they own 100% of it. It is only at the time of sale that 50% of the difference between the selling price and the new value of the mortgage will be paid back to the mortgage holder.
On injecting equity into the banking system, he worried that we’re moving “too little, too late” and says we’d need to spend $600 billion. Seeing as how we recently authorized the Treasury to spend as much as $700 billion I’m not sure this is an insuperable obstacle. It’s just that Paulson will need to act boldly and decisively in this direction rather than staying invested in the “buy bad assets” model that he started out with.