Shared Risk and Reinsurance

I did some more thinking on the shared ownership concept I spat out a few days ago.

First, I decided to rename the idea Shared-Risk-Financing Shared-Equity-Financing.

Edited 9/6/2010: I changed the name to Shared Equity Financing to emphasize the investment aspects of the scheme.

Shared equity financing dramatically eliminates the need for massive re-insurance programs like Fannie Mae and Freddie Mac.

The mortgage industry was created by bankers who wanted a guaranteed income from the paper money created by the Feds. In this scheme, bankers borrow money at a fixed rate from the government then loans it to a home owner at a fixed rate. The bank's income is the difference between the two rates.

This scheme requires a re-insurance mechanism because the fixed rate scheme is untenable in times of economic duress. When prices dip, people are uable (or are unwilling) to pay back the high interest loans. Banks suddenly lose liquidity and are unable to make new loans, and the market freezes.

This mortgage structure is inherently unstable.

The inherent instability of mortgages created the need for big federal re-insurance programs. The idea behind these programs is that real-estate cycles tend to be local. The hope of re-insurance is that, if there is a liquidity crisis in one real estate market, the re-insurance scheme could rush money from other markets into the squeezed market and stave off local economic failure.

The great fault of the re-insurance programs is that such programs eventually turn the whole country into a single market with a deeper systemic fault. The big reinsurance schemes create the conditions where our whole nation (if not the whole world economy) will periodically suffer sudden and severe economic crisis.

Shared Equity Financing does not use an artificial fixed interest rate. The home owner and creditor share the ups and downs of housing prices. With such a scheme you never lose total liquidity as you do with mortgage financing.