Truth-telling

To declare that one earns $130,000 per year, when one actually earns $30,000 is to lie. To say the thing which is not, as the Houyhnhnms in Gulliver's Travels put it, is a vice. Truth-telling, on the other hand, is recognized as a virtue across many traditions, both Western and non-Western. One finds written injunctions against lying as far back as the Code of Hammurabi (1700BCE), which punishes liars with death in capital cases. In the Christian tradition, the Old Testament commands us not to bear false witness against our neighbors. In the New Testament Jesus himself is referred to as “Truth” (John 14:6). In the Buddhist tradition, truth-telling is the fourth of the Five Virtues. “Woe to each sinful dealer in Falsehoods” the Quran tells us (45:7).

The philosophical tradition also roundly condemns the act of deceiving others for personal gain. Plato, for example, suggests that while a philosopher king might need to tell lies in the education of children (i.e., myths), for the rest of us, telling the truth is the foundation of undifferentiated justice. “Tell the truth and pay your debts,” we hear from Cephalus, in the opening pages of the Republic (331d). Saint Augustine went so far as to write two books on the topic, both of which condemn malicious lying either for the harm it does to one's community, or for the harm it does to one's soul.Footnote ³²

Whatever the source of disapprobation, it is difficult to imagine society without a general streak of honesty and truth-telling. Widespread lying prevents the kind of trust that allows people to interact with one another, both in their private and public worlds.Footnote ³³ No parents want their children to lie to them; deception between spouses is pernicious. A friend who deceives and lies to us is no friend at all. Politicians are forgiven many peccadilloes, but there is little tolerance for those caught in bold-faced lies. In our economic lives, the IRS demands truthfulness in our reporting, the Securities and Exchange Commission ensures that companies must not lie to their investors, and, as simple as this sounds, mortgage applicants are not expected to declare they earn $130,000 per year when they actually earn $30,000. There is some gold in the old proverb: “Honesty is the best policy.” Truth telling is a subprime virtue.

Promise-keeping

Promising to come to one's son's baseball game, but not showing up, is to shirk a self-imposed moral obligation. A promise is a commitment to do something, or not to do something, with the conscious intention of following through. In this respect, a broken promise is different from a lie. Unlike the liar, the promise-breaker is untrue both to himself and the promisee.

Promises take many forms. In the Old Testament, the promise exchanged between Abraham and God is a covenant (Gen. 12–17). This covenant is central in both the Islamic tradition (Quran 2:125) and the Christian, with some Christians regarding the New Testament as the fulfillment of Old Testament covenants. Oaths are another form of promising. Whether it be an Oath of Allegiance, the Hippocratic Oath, a Tennis Court Oath, or an Oath of Office, the promise is made with an eye to serving others, or “sticking together,” as it were. An oath binds one person to another, or a group of others. It is a promise not to abandon one's fellows in pursuit of one's own interests. Vows are similar. Whether they are wedding vows or religious vows, one is making a promise. With wedding vows, two people, in front of witnesses human and divine, make promises to one another. With religious vows, one is promising to adhere to a set of principles, as with the Buddhist Bodhisattva vows, or to a religious order, as when one enters a monastery or convent.

A promise enforced by the weight of law is a contract, though with respect to the subprime virtues, our main concern is with promises that rest mostly on one's word. Promises between spouses are integral to both the efficient functioning of the family and the well-being of the individuals therein. In our democratic lives, we trust that those we elect will make good faith efforts to keep their campaign promises. If they do not, we will not re-elect them. In our economic lives, promissory notes, despite having the weight of law behind them, are meaningless if people do not repay their debts. Promise-keeping allows us to act with some degree of predictability with respect to the behavior of strangers, which is absolutely necessary for the functioning of an extended market order. Absent this, as F. A. Hayek and others have pointed out, a complex modern society is impossible and our lives will be paralyzed by uncertainty.Footnote ³⁴ Promise keeping is a subprime virtue.

Moderation

Moderation comes from the Latin word for restraint, which may explain why moderation often refers to things corporeal. A moderate person maintains control of bodily desires. As a virtue, however, moderation refers to things that range beyond drinking alcohol moderately or watching one's diet. A moderator, for example, keeps control of a debate. We can also speak of being religiously or politically moderate; more recently it is suggested with regard to foreign policy that America itself ought be a moderate republic.Footnote ³⁵

As a virtue, moderation is hardly unique to the bourgeois, Protestant West, as Max Weber would have us believe. In the Old Testament, for example, we are told, “He that is slow to anger is better than the mighty; and he that ruleth his spirit than he that taketh a city” (Proverbs 16:32) and “Whoever has no rule over his own spirit is like a city broken down, without walls” (25:28). In the New Testament we are inveighed to eat moderately (Romans 14:22–23), to guard against sexual excesses (I Corinthians 7:9) and, in general, to be “self-controlled” (eg, Titus 1:8, I Corinthians 7:9, II Timothy 3:3). The Qur'an suggests Muslims ought to be “justly balanced” (2:143) and moderate in their spending (25:26). Likewise, in the Analects of Confucius, we are given this lesson: “Pleasure not carried to the point of debauch; grief not carried to the point of self-injury.”Footnote ³⁶ Buddhism counsels the Middle Way—that one need find the mean between a life consumed by corporeal pleasures and one of immoderate self-mortification. We are told that the “Tathagata (The Perfect One) has realized the Middle Path; it gives vision, gives knowledge, and leads to calm, to insight, to enlightenment and to Nibbana.”Footnote ³⁷

The philosophical tradition also holds moderation to be a virtue. Readers of Plato know well the inscription at Delphi admonishing visitors to “Know thyself,” but in equally large letters was the injunction, “Nothing in excess” (medan agan). Indeed moderation is arguably Plato's cardinal virtue, superseding even wisdom and courage. For Aristotle, sophrosyne is central and informs his description of virtue in general. Virtue is finding the mean between the twin vices of excess and deficiency. Defective courage, for example, is cowardice; excessive courage is rashness. For Aristotle, an immoderate person was akrates, or without will-power (NE 1145b11). A moderate person is, as we also find in the New Testament tradition, self-controlled (egkrateia) (eg. NE 1102b, 1146a, 1150a, 1151b, 1168b).

Moderation lately goes by the names of “impulse control” or “delayed gratification.” In his famous marshmallow experiment, Walter Mischel found that in addition to higher SAT scores, “those who delayed [gratification] longer in preschool were rated more likely to exhibit self-control in frustrating situations, less likely to yield to temptation, more intelligent, and less distractible when trying to concentrate.”Footnote ³⁸ Of course, this view of moderation only asks that one refrain from doing. In the classic sense, moderation also demands action, but in due proportion. In addition to drinking convivially or eating appropriately, moderation means not spending oneself into oblivion just because unlimited credit is at hand. Moderation is a subprime virtue.

Frugality

Spending all of one's allowance as soon as one gets it is prodigal. Instead, we teach our children to be frugal—to save and to use their money sparingly. The importance of this basic virtue can be seen in its etymology. From fructus, in its original sense it pertained to the careful and efficient use of food. To do otherwise could lead to starvation. Much the same can be said about the use of water and other natural resources. In this sense, frugality is a conservative virtue. Even in times of plenty, the frugal person shepherds her money, her food, and her assets.

Frugality is emphasized in many religious traditions. In the Old Testament, for example, Joseph teaches the lesson of frugality to Pharaoh and saves Egypt from seven years of famine (Gen. 41). In the New Testament, we hear the parable of the Prodigal Son, who, after wasting his inheritance, ends up wallowing in pig manure (Luke 11:15–32). In the Islamic tradition, much is made of “Eat and drink, but waste not by excess” (Qur'an, 7:31).Footnote ³⁹ Traditional Hinduism and Buddhism extol frugality as central to a properly lived life, and contemporary environmentalist movements have made the conservation, recycling, and careful use of scarce resources almost a religion itself.

Philosophically speaking, frugality has many antecedents. In Plato's Republic, Cephalus—who is arguably Socrates' best example of the just man—not only holds truth-telling and debt-paying to be virtues, but frugality as well. As Plato tells us, his habits of life have left Cephalus with enough wealth in his old age that he need not worry. Aristotle is also clear on this issue: prodigality, he says, “denotes the possessor of one particular vice, that of wasting one's substance; for he who is ruined by his own agency is a hopeless case indeed, and to waste one's substance seems to be in a way to ruin oneself, inasmuch as wealth is the means of life.”Footnote ⁴⁰ The Epicureans are famous for their frugality and simple living.Footnote ⁴¹ Diogenes of Sinope lived in a tub and, upon seeing a child drink water with his hands, threw away his cup. He later disposed of his bowl upon seeing a child eat lentils with bread.Footnote ⁴²

For Max Weber, frugality, which he calls asceticism, is a central part of the Protestant ethic and stands at the heart of the success of Western capitalism. Frugality and simple living, however, aim not just at the accumulation of wealth. For American transcendentalists such as Ralph Waldo Emerson and Henry David Thoreau, simplicity becomes an end in itself. As Thoreau puts it in Walden, “Our life is frittered away by detail…. Simplicity, simplicity, simplicity! I say, let your affairs be as two or three, and not a hundred or a thousand; instead of a million, count half dozen, and keep your accounts on your thumb-nail.”Footnote ⁴³ More recently, in Small Is Beautiful, E. F. Schumacher makes a socio-economic argument for frugality, simple living, and what he calls “Buddhist Economics.”Footnote ⁴⁴ However we look at it—religiously, philosophically, or economically—wasting one's substance is a vice. To take equity from one's home as soon as it accrues and spend it on a powerboat is prodigal, not frugal. To do so repeatedly as the value of one's house rises discloses no virtue whatsoever. Frugality is a subprime virtue.

Foresight

To sell one's bed in the morning and come weeping to buy it back in the evening reveals a serious want of foresight. This is, of course, Rousseau's famous description of savage man in the state of nature. But unlike Rousseau, who locates the seeds of human unhappiness in our acquisition of foresight, we maintain that being able to plan ahead is a subprime virtue. This is the very meaning of foresight—to see ahead. The Latin equivalent is providence, but we avoid this language lest the subprime virtue be confused with a divine attribute. Similarly, we avoid the Greek equivalent, Prometheus. The foresight we have in mind does not necessarily enable one to steal fire from the gods and to trick Zeus.Footnote ⁴⁵ By foresight we simply mean the capacity to look a little ways into one's future and to refrain from actions that, though pleasing in the present, are ill-advised.

Describing foresight thusly reveals that it is bound up with time consciousness. To demand that one look into the future presupposes an awareness of time more generally. Writing about just this sort of thing, Saint Augustine tells us that time consists of past, present, and future, which correspond to memory, awareness, and expectation.Footnote ⁴⁶ Recent experimental research in psychology bears this old insight out: the ability to recall past events parallels the ability to anticipate future events.Footnote ⁴⁷ The better one's memory, the better one's foresight.

Obviously we do not expect ordinary people to behave like historians. With Nietzsche we agree that the past can be both useful and disadvantageous; that dwelling on the past can be paralyzing.Footnote ⁴⁸ That said, a modicum of foresight is not too much to expect from citizens. By stretching memories into expectations—the past into the future—foresight ought to suggest that interest rates may rise, that bills always come due, that one's children might need a college fund, and that no housing boom lasts in perpetuity. In Aesopian language, foresight simply asks people to look before they leap: look a little into the past, look a little into the future and to bring a little foresight to bear in making life's routine decisions in the present.Footnote ⁴⁹ Foresight is a subprime virtue.

Commitment

To begin building a house for one's family, but to pack up and move before construction is complete reveals a lack of commitment. As absurd as this sounds, this behavior is hardly unusual. “An American,” Tocqueville writes in Democracy in America, “will build a house in which to pass his old age and sell it before the roof is on; he will plant a garden and rent it just as the trees are coming into bearing; he will clear a field and leave others to reap the harvest; he will take up a profession and leave it, settle in one place and soon go off elsewhere with his changing desires.”Footnote ⁵⁰ Life, of course, might push one to make such a decision, but the kind of unsettledness Tocqueville describes pertains especially to house-marketeers—houses are sold before the roof is on because materialism and profit trump commitment to particular places and engagements.

Commitment comes from the Latin and means to put together, to join, or to entrust. Hence, when we commit lunatics to asylums, we are entrusting them in their care. When we commit crimes, we are binding ourselves to an irretrievable action. If we are committed to a particular mode of conduct, we stay the course—we are steadfast in our commitments. Commitments, as Jean-Paul Sartre tells us, are the voluntary engagements that make us who we are in our everyday lives.Footnote ⁵¹

As a virtue, commitment has broad appeal. In the Christian tradition, both the Old and the New Testaments dissuade people from leading a fickle life. Psalm 37:5, for example, emphasizes the rewards that come with commitment, saying, “Commit your way to the Lord; trust in him, and he will act.” Similarly, Revelations “calls for the endurance of the saints, those who keep the commandments of God and hold fast to the faith of Jesus” (Revelations 14:12). The Qur'an espouses the virtue both in terms of “firmness” and “steadfastness.” We are told, for example, “God loves those who are firm and steadfast” (3:146) and that we ought to “bear with patient constancy whatever betide thee; for this is firmness (of purpose) in (the conduct of) affairs” (31:17). In the Buddhist tradition, one must be “well grounded in discipline,” patient and obedient. The third factor of enlightenment is “Persevering effort.”Footnote ⁵²

In the philosophical tradition, much the same can be said. In his Republic, for example, Plato speaks derisively of the freedom-loving democratic soul incapable of committing to any particular way of life. The democratic soul, he says, “lives his life day by day, indulging each appetite as it makes itself felt.”Footnote ⁵³ Without commitment, we are “kaleidoscopic men”—and a collection of fickle, dilettantish and unreliable souls provides no foundation for the family, for public life, for spiritual community, and certainly not for economic life. In the Roman world, this virtue was often referred to as firmitas and it pertained as much to the excellence of persons as to other domains of human existence. In his de Architectura, for example, Vitruvius says that when building a home, firmitas “will be assured when foundations are carried down to the solid ground and materials wisely and liberally selected.”Footnote ⁵⁴

Commitment is not unlike loyalty. The US Marines speak of honor, courage, and commitment as the central values of the Corps. As they often say, a Marine is a Marine for life. As Albert Hirschman describes in Exit, Voice, and Loyalty, loyalty can “serve the socially useful purpose of preventing deterioration from becoming cumulative.”Footnote ⁵⁵ Commitment not only means joining or binding oneself to one's people, but also to the space of one's community, even during troubled times. Just as edifices should be firmitas so that a neighborhood is not physically blown away, so too should its residents. Without at least a modicum of commitment from owners, buildings crumble. Without commitment houses never become homes and neighborhoods remain housing developments and “sub-divisions.” Commitment is a subprime virtue.

Judgment

Of the virtues we sketch here, judgment may be the least subprime. In fact, it might even approach the stringency of a prime virtue—a capacity reserved for a few. It is, after all, something Christians leave to God (especially at the end of time) and, in a more secular version, requires training beyond what is available to most citizens. Judges in court, for example, are expected not only to have a college degree and a juris doctorat, but also, as Tocqueville tells us, a priest-like familiarity with the law.Footnote ⁵⁶ Even judges in artistic and certain sporting competitions require esoteric knowledge unavailable to the average person.

Not all judgment, however, requires divine wisdom or esoteric knowledge. The kind of judgment we have in mind is more intuitive. Most people have a basic understanding of right and wrong. This understanding, if brought forth in a person's actions, yields a basically ethical way of life. How understanding is linked to an ethical way of life is precisely the topic of Kant's Critique of Judgment. For Kant, “judgement is the middle term between the Understanding and the Reason.”Footnote ⁵⁷ It is the faculty that allows us to bring our intuitive understanding of universal principles of right action to bear on particular instances. Or, as he puts it, “judgement in general is the faculty of thinking the particular as contained under the Universal.”Footnote ⁵⁸ While a bit grandiose for our subprime purposes, what is helpful about Kant's understanding is that it posits judgment as the capacity to put a specific action, or thing, into a larger context, even if that larger context is not “universal.” One could, for example, make a judgment about how an individual's specific actions might have consequences for that person's neighborhood. Such judgment—this local judgment—requires no divine wisdom or esoteric knowledge.Footnote ⁵⁹

This local judgment is reminiscent of an older Christian tradition originating in Corinthians, where in a list of nine spiritual gifts, Paul calls one the “discerning of spirits” (1 Corinthians, 12:10). St. Augustine runs down the list of Paul's gifts and claims they were given to mankind so “that we may discern all things.”Footnote ⁶⁰ This emphasis on the value of good judgment was later picked up by St. Ignatius, founder of the Jesuit Order, who noted that worldly judgment means being able to decide in one's everyday actions if one is “inspired” by good or evil. And, of course, having so judged, one must act accordingly.Footnote ⁶¹

Yet, as a subprime virtue judgment is neither about things universal nor things metaphysical. While we might hope that good judgment in this sense could beget something like Kant's Categorical Imperative, our hopes are more modest. Local judgment, one hopes, might prevent a house-marketeer from, after splashing a coat of cheap paint on a bungalow, dumping the excess paint down a storm drain and throwing the empty cans in a ditch. Good liberal citizens ought to be able to discern whether one's actions are harmful not only to one's neighborhood and community but ultimately to one's self. Although the scope of local judgment may be limited, it is nevertheless a subprime virtue.

***

Measured against the usual standards of virtue theory, the subprime virtues are admittedly prosaic. The conviction that people ought to keep their promises, pay their debts, and stick to their commitments is so close to a bare-bones liberalism that they seem to add very little above and beyond what justice already calls for. Indeed, the subprime virtues hardly rise to the level of already modest “liberal virtues” such as courage, loyalty, family solidarity, fidelity, and tolerance advanced by William Galston—not to speak of the heroic self-sacrifice and magnanimity contemplated by classical republicans.Footnote ⁶²

That said, from the vantage of liberal neutrality, any talk whatsoever of virtue looks burdensome—a narrow and particularistic view of the good masquerading as universal. Broadly speaking, there are two levels of objections one might raise along these lines. The first is a categorical rejection of any efforts by the state to use public policy to inculcate moral character. We fully concur that the task of the liberal state is not to produce Spartan warriors, Christian saints, or even, for that matter, tolerant democrats. As should be abundantly clear, we embrace the subprime virtues precisely because we share liberalism's ambivalence about efforts to “make men moral.” However, as Galston and others have demonstrated, public policy is always—and inevitably—moral. Whether it is a matter of education, urban planning, health care, social welfare, the tax code, or housing policy—policies reflect a view of the good. Pretending that this is not already the case serves no legitimate intellectual purpose.

The second line of objection is substantive. One might accept the general proposition that the state should foster certain virtues but take issue with the particular subprime virtues we have identified. In this instance, the criticism would have to be either that one or more of the subprime virtues we advance is superfluous, on the one hand, or oppressive and exclusionary to those who do not share them, on the other.

Here we defend the unique character of the subprime virtues. First, our argument is that while these virtues are minimal, they are also of decisive importance. The best evidence for this is the difficulty of imagining any decent society in which the subprime virtues were held in conspicuous disregard by a significant part of the population. Second, we would emphasize their lack of stringency. Unlike other virtues that seek to compel or enjoin, the subprime virtues are mainly content to discourage or moderate. It is not misleading to think of them as negative or aversive rather than positive or affirmative. Third, we emphasize their near-universality. The value of these virtues comes to light, as we have underscored above, from the fact that they have analogues in virtually every major moral or religious tradition. Lastly, despite how the subprime virtues may be affiliated with identifiable moral traditions, it is important to stress that they are not “comprehensive” in the Rawlsian sense of the term. They are neither inextricable from the theological doctrines of major world religions, nor constitutive of some a priori worldview. Our endorsement of these virtues appeals solely to public reason and is premised on expectations about their desirability that others of different faiths or cultures could reasonably be expected to accept.

One last substantive criticism that might be leveled is that these virtues are essentially “bourgeois,” inextricably linked with the commercial virtues of a capitalist society. We do not deny the affinities between the subprime virtues and the “bourgeois virtues” recently extolled by Deirdre McCloskey.Footnote ⁶³ To the contrary, it would be peculiar indeed if virtues correlated with homeownership and housing policy did not have at least some connection with the characterological requirements of the marketplace. As Galston notes, among the “virtues of the liberal economy,” such dispositions as a strong work ethic, delay of gratification, and adaptability are worthy of encouragement.Footnote ⁶⁴ And yet as should become clear in our subsequent discussion, many of these subprime virtues are intended precisely to resist the naked nexus of the market and the commodification of the housing market that resulted in the transformation of homeowners into house-marketeers.

Mortgage Interest Tax Credit

Maybe the most significant element of American housing policy is the mortgage interest tax deduction. This provision of the federal tax code makes mortgage interest, “points” paid at the origination of mortgages, and mortgage insurance tax-deductible expenses. Currently, this deduction substantially subsidizes the cost of acquiring and paying for a home. Real estate and mortgage professionals tout this deduction as a major financial incentive, and it is estimated that the mortgage interest deduction will amount to a $128 billion savings for the 40 million eligible American households.Footnote ⁷⁸

Because we want to foster the good of homeownership, we support the principle behind the mortgage interest tax credit.Footnote ⁷⁹ However, current policy is flawed both from the perspective of distributive justice and the subprime virtues. Most notably, current policy benefits only taxpayers eligible to itemize deductions—that is, generally those in the middle and upper tax brackets. James Poterba and Todd Sinai have calculated that while more than 98% of homeowners making over $125,000 are eligible to itemize, fewer than 23% earning less than $40,000 can. The average tax savings from this deduction is $1060, but the benefits are disproportionately skewed toward more affluent homeowners, who buy more expensive homes and whose tax savings are greater given their higher marginal tax rates. Compared to homeowners making less than $40,000 per year, for whom the benefits of the deduction are negligible ($99 on average), those making more than $250,000 gain more than ten times as much of those earning between $40,000 and $70,000 ($5459 versus $523).Footnote ⁸⁰ Effectively, then, the policy does nothing for low-income homeowners—precisely those we seek to initiate into the virtues of homeownership—whereas it offers powerful incentives for wealthier homeowners to stretch themselves into more expensive homes. Rather than making basic housing affordable to the marginal homebuyer, current policy subsidizes conspicuous consumption and immoderation. The deductibility of real estate property taxes is similarly flawed, as it provides disproportionate benefits to affluent homeowners in neighborhoods where property taxes and home values tend to be high, which are correlated with benefits such as good schools, public safety, and other attractive features.

Moreover, this policy allows for the deduction of interest on home equity loans or lines of credit, even if such loans are for cars, boats, vacations, and other consumer debt. Traditionally the tax code distinguished between consumer debt and mortgage debt by providing for the tax deductibility of the latter while (appropriately) ignoring the former. Tax changes in 1986, however, made interest on secondary loans up to $100,000 on one's home deductible. Not only did this increase aggregate consumer debt, but it contributed directly to the mindset of regarding one's house as a financial asset, rather than a home in which one dwells. Indeed, Americans in the first decade of the twenty first century mistook their homes for bottomless ATM machines. Unlocking equity trapped in homes also undermined one of the less appreciated virtues of the traditional 30-year mortgage—namely, its function as a kind of enforced savings plan. The rhythm of the 30-year mortgage corresponds with the life-cycle of marriage, middle age, and retirement. Americans once looked eagerly toward the day when they could burn their mortgage note. Home equity loans, however, normalize perpetual indebtedness, with prospects of owning one's home free and clear ever more fleeting as one draws down its remaining equity. Most fundamentally, we see no good principled or practical reason to accord preferential tax treatment to consumer debt simply because the borrower was fortunate or clever enough to have shifted their consumption onto a loan secured against a home.

Rather than an itemizable deduction for those who would buy homes anyway, we propose a tax credit akin to tax credits for children, energy efficiency, or other incentivized behaviors. Obviously it would be desirable to graduate this tax credit based on the expenses associated with the mortgage, but we maintain that this tax credit must be structured progressively—that is, offering the greatest incentive to the marginal first time homeowner—and that it be phased out as income and the size of the mortgage rises. We see no justification for the current tax code that allows full interest deductions on mortgages up to $1,000,000. In our view, this only inflates housing prices in tight markets, subsidizes the real estate industry, and encourages already affluent homebuyers to live beyond their means by reducing the effective cost of their debt. By encouraging overconsumption and perpetual indebtedness, current policy undermines the subprime virtues of frugality, moderation, foresight and judgment.

The Capital Gains Tax Inclusion

Since 1997, the tax code has exempted up to $250,000 ($500k for married couples) in profits on the sale of a primary residence from federal capital gains taxes. Proposed with much fanfare by Bill Clinton at the 1996 Democratic National Convention, critics have alleged that more than any other single policy, this federal exemption of capital gains on home sales transformed Americans from homeowners into house-marketeers.Footnote ⁸¹ Whatever its economic effect, the policy is both hypocritical and theoretically incoherent. If policy encourages Americans to think of their homes as commercial assets or investments—no different from speculative investments like stocks, bonds, or commodities—then why should gains from the sale of homes be exempted from capital gains taxes that apply to profits for all other asset classes? We take as a general model the distinction between tax treatment of stocks or other “short-term” investments (currently profits on stocks held less than one year are taxed at the taxpayer's highest marginal tax rate) versus those classified as “long-term” gains taxed at a reduced rate. We propose revisiting the federal tax treatment of the sale of homes and envision a distinction along the same lines. While the details are subject to fine-tuning, at minimum such a policy would distinguish between “short-term” profits from the sale of one's primary residence that take place within 5 years of purchase, which would be taxed at the taxpayer's highest marginal rate, and “long-term” capital gains, say, after 20 or 30 years of consecutive primary residence, that might be given a reduced treatment.

The best empirical evidence suggests that the civic benefits of homeownership are strongly correlated with tenure of residence. In that sense, long-term renters are just as likely to evince civic virtues as homeowners of a similar tenure. Yet merely controlling for length of tenure disguises the crucial fact that the average homeowner stays put much longer than the average renter. And if length of tenure is indeed strongly correlated with civic virtues and social capital, then why not incentivize commitments to primary residences? Conversely, it seems perverse to reward someone for having moved into a home for six months, slapping on a coat of paint, new cabinets, and granite countertops, and to give them a tax-free profit for their contribution to community-building.

Again, while the details may vary depending on circumstances, we propose that the capital gains exclusion be phased in and vest only after a meaningful period of time, say, five to ten years, thus disincentivizing short-term speculation; that it be truly “one-time,” such that it affords relief mainly to homeowners who have lived in neighborhoods for long periods and face considerable tax burdens from selling properties that have appreciated over the life-cycle; that the policy apply only to primary residences, thus eliminating the loophole of speculators reclassifying properties purchased for re-sale as their primary residences; and that so-called “Section 1031 exchanges,” that allow professional real estate investors to defer capital gains on real estate investments indefinitely by shifting proceeds immediately into other “like-kind” assets, be eliminated.

Upping Down Payments

The kind of subprime virtues we seek to encourage are intimately connected with the ability of would-be homeowners to raise a significant down payment. Down payments require the cultivation of frugality, foresight, moderation, and judgment. Before the era of mortgage securitization, it was not uncommon for small town banks and thrifts to require downpayments of 25% or even 30%. From an economic vantage, of course, this put home buyers themselves first in line to lose money if they were unable to make payments or the home lost value. Homeowners had “skin in the game,” which aligned interests of borrower and lender. But above and beyond the strictly economic rationale, small town bankers and thrift officers understood something lost in the era of mortgage securitization—namely, that saving a substantial down payment was itself a morally transformative endeavor. Before electronic credit reporting, saving a down payment was perhaps the most important signal that a prospective buyer was ready to become a committed homeowner. Not only did this make them a good credit risk in a crudely economic sense, but it also spoke to their moral capacities as a homeowner, a good neighbor, and committed citizen.

The days of mortgages and small town thrifts are, of course, long past. The mortgage market now rests on securitization and is dominated by federal agencies. With the collapse of the private market for residential mortgage securitization in 2008, Fannie Mae and Freddie Mac, as well as the FHA, seem destined to provide the lion's share of funding for residential mortgages. Fannie Mae and Freddie Mac have already tightened underwriting standards since being taken into receivership in 2008. In particular, they now ordinarily require at least 20% equity or down payment for mortgages they purchase and securitize. We think that this is a prudent move for all the reasons outlined above. However, there is one large exception to this policy, in that new federal mortgages issued by the Federal Housing Administration, Veteran's Administration, and certain rural development administrations may allow borrowers to purchase homes with as little as a 3% down payment, which in certain circumstances may be borrowed or financed. These FHA and VA mortgages are then packaged into GNMA mortgage backed securities and sold with the full faith and credit of the United States government.

Such policies have been roundly criticized on grounds that looser standards make FHA or VA borrowers more likely to default, resulting in losses for taxpayers.Footnote ⁸² Our argument is agnostic with respect to their economic benefits or costs. Rather, our worry is that relaxed underwriting standards are less than ideal from the vantage of the moral theory outlined above. Again, we sympathize with the desire to make homeownership more accessible, and we recognize that tightening FHA or VA lending standards might disproportionately burden working class families, minorities, and veterans. But from the perspective of subprime virtues, we feel compelled to acknowledge that not all prospective house purchasers are well-suited to be homeowners. The goal of our policy, of course, is to encourage the subprime virtues correlated with responsible homeownership and good citizenship, but we do not hold that, in and of itself, homeownership ought to be pursued independent of these virtues.

Giving Credit Where Credit is Good

With respect to underwriting standards established by the GSEs, we affirm the emphasis on credit scores but propose these be interpreted in a new moral light. Stringent credit scores should be understood for what they are—a metric (admittedly imperfect) for measuring one's ability to exercise foresight, frugality, moderation, and good judgment. One's credit score is both a retrospective summary of one's life as well as the object of continual maintenance, aspiration, and improvement.

This may seem controversial insofar as the system of national credit reporting is much reviled. Synthesizing an individual's life history into FICO scores and then applying these numbers indiscriminately as a way of making judgments about the allocation of goods and resources is hardly perfect. Credit scores are a crude barometer for economic worthiness, let alone moral character, and no one would be so foolish as to say that one's credit score exhausts one's moral worth as a human being. But, ceteris paribus, credit scores offer a record of life decisions, both good and bad. Fate and misfortune often intrude, particularly in ages of financial turmoil, and many credit records hardly reflect ordinary moral intuitions about justice and moral desert. We have grave misgivings, for example, about employers' recourse to credit scores for screening potential employees, not only because of the unearned aspects of credit scores, but maybe more importantly because of the necessity of earning a livelihood. Homeownership, by way of contrast, is a worthy and desirable goal but by no means an absolute human good.

Our affirmation of good credit may also seem trivial. After the subprime debacle, many pundits and politicians have called for stricter underwriting standards and impeccable credit for borrowers. But the vast majority of these arguments hinge on narrowly economic criteria. Tight underwriting undoubtedly yields fewer defaults and foreclosures, and when the vast majority of mortgages are backstopped by the American taxpayers, this seems a prudent consideration. Lax underwriting and relaxed credit standards—both by subprime lenders as well as the GSEs themselves—were a major factor in the housing bubble, and at a bare minimum, we want to avoid repeating the errors of the past. However, our argument is quite different from the legions of prudential or economic arguments for the centrality of good credit in homeownership.

Our conviction is that too little attention has been placed on the moral and developmental aspects of one's financial life. Having bad credit does not a bad person make. Nor is good credit a necessary or sufficient condition for a good life. But the aspiration to improve one's credit by living moderately, paying one's bills on time, avoiding excessive debt, and exercising the kind of self-control, foresight, commitment, and good judgment requisite to improving one's credit score are worthy goals in and of themselves. If the aspiration for homeownership can be used to direct and to cultivate these virtues, we think this would make for happier human beings, better homeowners, and more responsible citizens.

A ‘Staying Put’ Tax Credit

Beyond the tax treatment of mortgage interest, capital gains, or other financial issues, we question the federal tax deductibility of moving expenses.Footnote ⁸³ Rather than a “moving credit”—which rewards a behavior to which Americans are already inclined—we propose a “staying put credit” that provides financial incentive for homeowners to develop strong roots in neighborhoods. As Robert Putnam suggests in Bowling Alone, one of the likely causes of the decline of associational life in America over the last four decades is the ease with which Americans pick up and move, sometimes for trifling raises or promotions. Notwithstanding some of Putnam's communitarian overtones, the point about the time required to put down roots is sound. As with “re-potting” of plants, he notes, once taken up from the soil they need time to redevelop their root system and to become acclimated to their new environment.Footnote ⁸⁴

While in principle it is not incompatible with the current system that makes the cost of moving a certain distance (50 miles) to accept new employment tax deductible, our suggestion would be to give long-time homeowners an economic reward for staying put. The goal is not necessarily, as it would be for Putnam, to foster “community” or civic engagement. Rather, the idea is that once a homeowner is “vested” in a home after a certain amount of time—say, five or ten years—the attractions of cashing in and moving for purely financial reasons might be outweighed, at least at the margins, by a small incentive to stick around. Even if the strict benefits of a negligible tax credit cannot outweigh the attractions of taking a quick profit on one's home, behavioral economics teaches us that sometimes the mere perception of surrendering an already vested advantage can have a disproportionate effect on economic behavior. If nothing else, the policy would serve to symbolize and officially sanction a preference for homeownership over house-marketeering.

Deterring Defaults

Regarding commitment and promise-keeping, we are disturbed by the trend of homeowners who choose to “selectively default” on their mortgages. Many borrowers openly brag about turning the tables on banks and mock those who foolishly choose to keep their promises. Blogs and message boards such as www.youwalkaway.com or www.strategicdefault.com glorify the behavior of selective defaulters. Jocular euphemisms such as “jingle-mail” have been invented by borrowers who simply drop the keys in the mail to their lenders. Economists, working from the rational actor model, routinely recommend strategic defaults, including deeds-in-lieu of foreclosures and short-sales.Footnote ⁸⁵ Many states have laws that embolden strategic defaulters by limiting a lenders' ability to obtain deficiency judgments for the difference between the amount of the loan and the current value of the home. In our view, the ability to walk away from a mortgage easily is highly corrosive of the subprime virtues and we favor changes in public policy to discourage this vice.

Criminology teaches that deterrence rests on three pillars: certainty, celerity, and severity. Borrowers who choose to default on their mortgages can be fairly certain of negative consequences. Regarding celerity and severity, however, policy needs to be revisited. In our ideal scenario, federal law would reconcile disparate state practices into a standard policy allowing lenders to pursue selective defaulters—i.e., those who can afford to pay their mortgages but choose not to—and obtain deficiency judgments. In many cases these deficiency judgments can themselves be wiped away by bankruptcy, as with most other debts, but this option carries with it considerable penalties and disincentives of its own. Many more would hesitate to walk away from underwater mortgages if the consequences were as severe as a full-blown bankruptcy.

The federal tax code also facilitates strategic defaults in the name of “economic stabilization.” Whereas debt forgiven by banks or credit card companies has traditionally been treated as taxable income, the Mortgage Forgiveness Debt Relief Act of 2007 excludes mortgage debt forgiven after a foreclosure, restructuring, short-sale, or deed-in-lieu of foreclosure. For example, if a borrower with a $300,000 mortgage convinces his lender to let him sell for $200,000, the $100,000 of debt forgiven in the short sale is not taxable. This provision in the tax code is set to expire in December 2013, which we strongly support, as this kind of forgiveness does little to foster the subprime virtues.

A second area where more could be done is with respect to a defaulter's waiting period for another GSE-sponsored mortgage. On the one hand, we commend many of the 2010 changes tightening re-eligibility for Fannie Mae mortgages. For example, as of June 2010, borrowers with a foreclosure must wait 7 years before qualifying for another Fannie Mae-backed mortgage. Previously the waiting period was only 4 years. On the other hand, however, the amendments actually reduce the waiting period if a borrower can show “extenuating circumstances.”Footnote ⁸⁶ According to Fannie Mae, “extenuating circumstances are nonrecurring events that are beyond the borrower's control that result in a sudden, significant, and prolonged reduction in income or a catastrophic increase in financial obligations.”Footnote ⁸⁷ With appropriate documentation, the waiting period after a full-blown foreclosure, or even multiple bankruptcies, can be as little as 3 years; single bankruptcies, deeds-in-lieu of-foreclosure, and short sales require a mere 2 year wait.Footnote ⁸⁸

We are sympathetic to the spirit of this policy, which attempts to differentiate between purely strategic defaults and those driven by events beyond the borrower's control, but we worry that the ability to cite these exceptions as grounds for speedy re-qualification runs against the subprime virtues of frugality, foresight, commitment, and judgment. Extenuating circumstances threaten to turn defaulting into not-my-faulting. We recommend either doing away with the extenuating circumstances clause or, at the very least, narrowing the gap between this exception and the standard 7-year waiting period.

Admittedly these changes are unlikely to outweigh powerful economic incentives for strategically defaulting. Nonetheless, our suggestions uphold a general principle of equity that wrongdoers not profit from their misdeeds. Beyond our primary concern with strategic defaults on the subprime virtues—the way this practice discredits the virtues of promise-keeping and commitment by rewarding those who skirt them and demoralizing those who adhere to them—it is the height of absurdity that a defaulter might walk away from an underwater mortgage—sticking the GSEs and taxpayers with the loss—then appealing to them to underwrite another mortgage. Imposing stringent restrictions on the ability of defaulters to qualify for new agency mortgages would do much to ensure that even if virtue is not rewarded, at minimum vice does not profit.

Strict Liability and Penalties for Fraud

Lest the brunt of our proposals rest on the shoulders of borrowers and homeowners, we also add that one of the most damaging legacies of the housing crisis is the widespread fraud and corruption it revealed, running from the back alleys of the mortgage industry to the heights of our financial system. In the wake of the crisis, there has been abundant evidence of fraud committed by individual borrowers who lied on their loan applications; shady mortgage brokers who urged them to do so, or did so for them; mortgage lenders who bought up such fraudulent loans (or merely fabricated them) and passed them along to Wall Street; and the investment banks and other creators of exotic financial instruments who knowingly and recklessly packaged these defective loans into mortgage backed securities and various derivatives such as CMOs, CLOs, not to mention synthetic CDOs and credit default swaps thereon. In effect, the housing bubble of 2005–2007 rested on a pyramid of deception, fraud, and corruption from which all participants—from top to bottom—profited grandly. If the machinery of financial destruction had instead been devoted to producing wantonly defective and dangerous automobiles, food, drugs, or cribs, the jails would be filled with felons. Instead, aside from a few of the worst offenders like Lee Farkas of Taylor, Bean & Whitaker, sentenced to 30 years in prison for selling fraudulent mortgages to the GSEs; a few selective prosecutions of the most egregious Wall Street abuses by traders at Goldman Sachs and Bear Stearns; and the recent $26 billion “settlement” between the State Attorneys General and five major mortgage servicers for “robosigning” and foreclosure fraud, there has been precious legal retribution for the vices of the last decade.

We propose, then, new standards of strict fiduciary responsibility for those dealing in financial securities, including even stringent civil and criminal liability for executives and others who knowingly participate in the creation of fraudulent economic instruments.