Enron economics

The scariest thing yet about the housing bust



Andrew Leonard
August 25, 2006 1:23AM (UTC)

I've always thought that a great name for a punk band would be Negative Amortization. Amortization sounds bad enough, like something that a sinful priest would do to himself to get right with God, but negative amortization? Serious Dark Arts territory.

I have since learned that negative amortization is not that hard a concept to grasp. For homeowners paying off a mortgage, it means that your monthly payments are not covering the interest due on your principal. This means that your total amount owed to the bank is actually rising each month. Not a good place to be.

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Negative amortization is in the news right now because, as interest rates rise, holders of "option ARMs" -- adjustable rate mortgages that entice consumers with very low initial payments -- are falling into negative amortization territory.

A link from a post at EconBrowser to an extremely downbeat post at the Big Picture summarizes some relevant data from an article in the current Barron's. By the end of 2003, only 1 percent of Washington Mutual's option arms "were in negative amortization. 2004, the percentage jumped to 21 percent. 2005, the percentage jumped again to 47 percent."

That's bad enough -- an expanding mushroom cloud of debt that can only bode ill for the overall economy. But here's the kicker. Washington Mutual has been booking this ballooning consumer debt as earnings.

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Yes, that's right, in the first quarter of 2005, Washington Mutual booked $25 million of negative amortization as earnings. In the first quarter of 2006 the number was $203 million.

We're talking about debt here that may never be repaid -- foreclosures are already spiking all over the country. But Washington Mutual -- and it can hardly be alone -- is counting this debt as cash in the bank. That's Enron economics, folks, and we all remember what happened to that company.

Update: Reader Chris Doggett offers some very useful additional information on negative amortization and bank behavior.


Andrew Leonard

Andrew Leonard is a staff writer at Salon. On Twitter, @koxinga21.

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