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By John W. Schoen Senior producer
msnbc.com
updated 5/18/2009 11:06:27 AM ET 2009-05-18T15:06:27

With the economy showing early signs of stabilizing, it's time to start wondering: What is the 'new normal' economy going to look like?

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I have a question that I'm sure a lot of people wonder about. What is a "back-to-normal" economy? Is it to go back to fiscal irresponsibility and reckless spending?
Jason P., Kandahar, Afghanistan

A lot people are wondering what the “new” normal will look like once the worst of the financial crisis and recession have passed. Even the most optimistic scenarios see only very gradual improvement in economic growth, with unemployment remaining high for the next several years. The only honest answer is that no one really knows.

Even beyond the specific forecasts for growth, it’s pretty clear that the economic collapse of the last year will bring profound changes in the global economy and financial system. We’re still in early innings, though, so much depends on how we respond from this point forward.

If you see the glass as half full, the "new normal" could bring long-overdue positive changes. When lenders make bad loans, they lose money. This time they lost big piles of it, which means they’re going to be a lot more careful in the future. That's a good thing, unless they're too careful and make it too hard to get a loan.

Other changes are long overdue. For government, cutting taxes without cutting spending turned out to be a multitrillion-dollar mistake. Consumers who thought that a credit card was a savings account and a home was a piggy bank have learned the hard way that neither of those things are true.

Those lessons are pretty hard to unlearn. (Though you could argue that, three generations after the Great Depression, that’s exactly what we did.)

The "new normal" could also bring some unpleasant changes. To stop the downward spiral, the government has flooded the economy and financial system with more than $1 trillion in loans from the Federal Reserve and roughly the same in new spending from Congress. That may put the fire out, but there’s going to be a major mess to clean up.

Adding $1 trillion to the money supply in a matter of months, for example, creates a major risk of inflation down the road. Successfully sopping up that much money from the economy without tipping it back into recession is a feat the Fed has never tried before.

If Congress and the White House try to balance the budget too quickly with spending cuts, tax increases or both, that could also send the economy back into a downward slide. But over the longer term, if they can't figure out how to whittle away at the massive pile of government debt, investors could lose faith in the dollar. That would drive up interest rates and put a major lid on economic growth. 

In any case, the events of the past few years will have a lasting psychological impact. No matter how well they’re still paying themselves, most financial industry professionals have been humbled by the disastrous effects of the financial alchemy they unleashed on the rest of us. If nothing else, it’s in their own self-interest to avoid another rogue wave of risk-taking.

The financial meltdown has also created a broad consensus that the system of regulating the financial markets is badly broken. The debate over how to fix that system will have a major impact on what the “new normal” looks like.

Finally, the impact on consumers, investors, savers, workers and homeowners can’t be understated. For the past 30 years, we have lived with the mistaken belief that we can buy stocks and houses without any real risk of losing money over the long run. Lesson learned.

It’s also becoming clear that we can either expect less services and benefits from our government or pay more in taxes. Borrowing the difference isn’t a sustainable plan.

What is the latest on homeowner help for Californians that are under water? We are still under water and thus cannot refinance and have a loan that will reset in two years and do not have a Fannie Mae or Freddie Mac loan. What happened to the “cramming down” option? We went to an attorney and were told there’s nothing to help us even with the current set of financial helps from Washington. Are we doomed?
Cynthia E., California

Borrowers who owe more on their mortgage than their house is worth may not be “doomed,” but they present the toughest challenge for government officials, housing advocates and other groups who are working to stop foreclosures.

No one has figured out the answer to the thorniest question in the whole housing mess. Who is going to bear the loss from the housing collapse: The lender who wrote a mortgage on a house that has dropped in value or the homeowner who signed the loan and agreed to the risk?

The question isn't going away. More than 15 million people, or about one in five homeowners, are “under water,” according to Moody’s. That number will continue to grow as long as home prices keep falling.

The government’s Hope for Homeowners program is a good start in breaking the logjam of negotiations between lenders and borrowers, but it won’t help if you've lost your job and can't afford even a lower monthly payment.

Under the plan, lenders agree to cut the interest rate on the loan and take a loss on payments lowered to 38 percent of a borrower's income. The government subsidizes a further reduction to 31 percent of income. If necessary, the loan can be extended to 40 years to bring it under the cap.

A final step, forgiving some of the principal, may help some borrowers. But the decision to do so is entirely up to the lender. For the past year, Congress has been debating a plan to let bankruptcy judges order lenders to take less than the full amount — the so-called “cram down” provision. But the latest effort to change the law failed this month.

That leaves few options for homeowners who can’t get a lower payment from their lender. This week, the government expanded the Hope for Homeowners program to formalize and streamline a process that millions of families are going through as they lose their homes.

One option is to sell your house with the lender's permission for less than the value of your loan in what’s called a “short sale.” Though you lose your home, you can move on without owing anything to the bank. (Another option lets you sign over the property title to the lender and walk away in what’s called a “deed in lieu of foreclosure.”)

The program is only two months old. This week, the Treasury said it has helped some 55,000 homeowners. But the government has a long way to go to stop the wave of millions more foreclosures.

© 2013 msnbc.com Reprints

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