Family Finances

Next Big Thing in Building Wealth?

March 23, 2018  • Ray Boshara & Ida Rademacher

What novel idea could unite a Nobel Prize-winning economist, an aspiring immigrant family who lost their home to foreclosure, and a bunch of policy experts at an Aspen Institute roundtable? An idea for a new kind of insurance that does not yet exist.

The Santillan Family

Let’s start with that family. As recently profiled by Alana Semuels in The Atlantic, the Santillan family was working hard and living the American Dream but then lost their home to foreclosure in 2009. The family ended up living in hotels and cars, and had to watch their children postpone their college educations and careers so the family could scrape by. Their story demonstrates that the Santillans and millions of families like theirs are still, today, recovering from the Great Recession, mainly because they purchased a home — a symbol of family accomplishment and stability throughout U.S. history.

Like so many others, the Santillans bought a home they assumed — and were advised — would not lose its value. Of course that was a possibility. It’s unlikely they considered how all the debt they refinanced magnified their risk, especially as they had few other assets to fall back on. Not only did they learn these lessons the really hard way, they have also become hyper-cautious about future financial decisions. In the story, Karina Santillan reflects: “Having lived through everything, I see life differently now. I’m more cautious — I probably think through financial decisions three, four, five times.”

The Santillan story brings together several different challenges we, as heads of national efforts to build family wealth, have been thinking a lot about recently: the Great Recession’s enduring drag on families and economic growth; the fractured, tenuous link between work and wealth; alarming levels of consumer debt; and the vulnerability of families living without emergency savings or any other financial cushions.

Pooling Risk for Income Losses but Not Wealth Losses?

Yet their story also reflects another critical challenge no one is really discussing, something lacking in the marketplace and public policies: how to ensure that families like the Santillans don’t bear the full risk of losing their wealth.

What if that risk were to be pooled along with the risk borne by other families, lenders, and the government? What if we pooled the risk of wealth loss in the same way we pool the risk of losing income or ability to work in the form of well-established social programs like Unemployment Insurance and Social Security? Why pool on the income side but not on the asset side when, one could argue, wealth is as fundamental to economic security and opportunity as income? Would Karina Santillan, who admits to now being more cautious, ever be willing to take a risk on another dream home if she knew that her family didn’t bear the full risk of losing it?

We were so captivated by these questions that we invited economist and Nobel laureate Robert Shiller to join a roundtable of 20 experts from diverse fields at the Aspen Institute’s newly christened headquarters in DC last month. The roundtable’s most important outcome was a confirmation that this novel idea is worth pursuing — despite many complications and unknowns. Here are five other takeaways:

  1. The losses and potential market are significant, though further economic analysis is necessary. First, we’re talking real money here, real wealth losses that potentially could have been substantially avoided — and thus a real market. Close to 12 million families lost their homes between 2006 and 2012 and, today, despite there being 8.6 million more households, there are only 24,000 more homeowners. The rates of homeownership decline are particularly steep among younger Americans, resulting in lost career opportunities and GDP. Trillions of dollars of residential wealth evaporated with the losses concentrated among lower-income and minority families, compounded by the debts that remained. Yet, by one estimate, up to 46 percent of these housing wealth losses — comprising $2.5 trillion of wealth — could have been avoided with some kind of downside protection, with the understanding that some of the gains would be shared with lenders as well.[1] Compare that number to the only $50 billion of relief policymakers were able to offer foreclosed and underwater homeowners (of which only $30 billion was ultimately claimed). An important next step involves quantifying the actual economic costs and benefits associated with this proposed insurance.
  2. Insure only assets key to financial security. No one thinks we should insure against stock market, currency, or cyber-currency speculation. There was common ground on limiting losses and sharing gains associated with assets essential to financial security and economic opportunity, including a home, post-secondary education, retirement account, or a micro or small business — though a key challenge would remain in choosing exactly which assets to insure, and who would decide that. In addition, some insurance against the wages and income that make wealth accumulation possible should be available, too. (This idea is already being explored through Aspen’s ongoing efforts to reconnect work and wealth.) And we have to think beyond just individuals accumulating private wealth: employee ownership strategies such as Employee Stock Ownership Plans and “common” asset strategies such as the Alaska Permanent Fund could both broaden asset ownership and enhance family incomes as well.
  3. Learn lessons from insurance markets and the Great Recession. Our efforts should be guided by well-established policy design principles and the hard lessons learned from the Great Recession. Naturally and most importantly, any well-designed insurance market or policy would minimize “moral hazards” (when someone takes on a risk knowing they’ll be bailed out), and “adverse selection” (such as when those most likely to make claims opt for the insurance, thus draining costs). It was in fact the moral hazard associated with the Bush and Obama Administration retroactive bailouts — when taxpayers were asked to bail out what were perceived as irresponsible banks and homeowners — that spawned the Tea Party and radically reduced federal mortgage relief funds to just a fraction of overall wealth losses. Accordingly, policies should be crafted (a) pro-actively, before the losses occur; (b) with families, lenders, insurers, and the government all having skin in the game; and (c) to be as universal as possible, both to reduce adverse selection and to ensure there are enough funds to cover widespread losses.
  4. Tell a compelling story. To be successful, we should carefully consider the narrative, or how we “sell” individual asset insurance products to potential insurers, policymakers and families. Here the idea of “narrative economics” was discussed — meaning that the stories or emotions associated with financial behavior must be considered alongside the hard economic facts.[2] In this sense, there is much to learn from the field of epidemiology and the notion that ideas can spread like a contagious disease. Most fundamentally, we want framing (and the policies that match it, of course) that encourages families to take on additional but still reasonable risk. Risk-taking is necessary for building wealth and essential to an inclusive, dynamic and growing economy.
  5. Consider options for moving forward. And, finally, we discussed our theory of change and how to move this idea forward. Is it best to encourage private-sector innovation and experimentation, with the hope that it will lead to larger-scale policy change? Should we begin with more consumer insights, though as one participant noted, consumers don’t often know what insurance they want until they need it? Should it just be attached to other products families are buying? Or should institutions simply default consumers into these policies since, as someone else observed, humans do not always make good financial decisions? Given the magnitude of the wealth losses and scale of income-protection social policies, should state and national legislation be considered earlier in the process?

Sharing Risks, Sharing Rewards

When one glimpses the stories behind record income and wealth inequality, it’s the Santillan family we see, not thriving at the top but struggling near the bottom. Still, these families are eager and focused on moving up, working hard, starting and building families, getting educated, and contributing to their communities and nation. We all are likely to reap the benefits of their efforts, so does it make sense for them to shoulder so much of the risk? We hope our initial meeting kick-starts a broader discussion about what’s now missing for families, lenders, and our nation’s safety net — some insurance aimed at family wealth.

Ray Boshara is director of the Center for Household Financial Stability at the Federal Reserve Bank of St. Louis, and is a senior fellow in the Financial Security Program at the Aspen Institute. The views here are his own and do not necessarily reflect the views of the Federal Reserve System.

 Ida Rademacher is vice president of the Aspen Institute and executive director of the Aspen Institute Financial Security Program.

[1] Data from House of Debt by Atif Mian and Amir Sufi. In their 2014 book, they propose a “shared-responsibility mortgage” which is different than a standard fixed-rate mortgage in two ways: (1) the lender offers downside protection, which would link a borrower’s monthly payment to a local zip-code level housing index—if prices fall, the owner’s payment goes down pro rata; and (2) in exchange for this downside protection, when the home is sold the lender would receive up to 5 percent of any appreciation in home value above the owner’s initial purchase price.

[2] Think of the popular narrative behind the Dutch Tulip Mania in the 17th Century or the U.S. housing bubble of the last decade: the idea that one better get in on an investment so as not to lose out, and that prices will always be increasing. Or that the Social Security program’s narrative was changed to reflect its evolving purpose: it is no longer seen as old age insurance but as a retirement plan.