Mortgage Interest Subsidy is in the neighborhood of $175 Billion Per year.

FHA (at current level of activity) Subsidy is in the neighborhood of $30 B Per year.

So you’re right the interest deduction subsidy is several times larger than FHA despite the fact that FHA is on steroids right now.

That said, every dollar of FHA subsidies distorts the market a bit more than every dollar of Interest deduction subsidies. Pull out FHA subsidy and you lost majority of buyers. Pull out the interest deduction subsidy and you lost some buyers.

“Who’s less of a risk: the buyer like myself who put down less than 20% and yet held back several months of living expenses still in the bank in case of emergency; or the buyer who put down 20%, but exhausted all savings in doing so?”

On average, the buyer with 20% down is less of a risk. I’ve been running statistical analysis on tens of millions of loans and the negative equity in the house trumps every other factor when measuring the marginal change in behavior (i.e. who ends up defaulting) now vs pre-bubble era.

The person who has positive equity in the house – if he gets in trouble – chances are he wont default on the loan. He will sell the house and extract his equity in cash which he could use to deal with his financial problems. So him getting in trouble because he has no money in the bank typically is a non-item for a taxpayer.

But a person who has money in the bank and sizable negative equity – such person frequently chooses to do a strategic default because it is in his own economic interest to stop paying for an asset that is underwater – and nowadays the taxpayer picks up the tab.

The first order cumulative effect of all these policies is to artificially inflate home valuations. If all of these policies were to be abandoned – home values would drop drastically as so many fewer people would actually be able to afford a home at current prices… so the prices would have to go lower in order to reach a new equilibrium level where demand meets supply.

Now the irony in all these subsidies is that the government wants to make homes affordable but this actually doesn’t work in the long run. The more you subsidize something the more you increase the demand for it. The higher the demand the higher the pricing power for the seller. Hence most of the monetary “benefits” a buyer gets from a subsidy are taken away as he/she ends up overpaying for the house.

The same paradigm can be applied to education. Because the government subsidizes higher education via extremely cheap loans, more people can now afford to go to college, so the demand is up, but now universities can charge more and they do. So the tuition costs at universities have been going up for decades now at much faster pace than inflation. This is clearly not sustainable.

No matter how noble and idealistic the goals of the policy makers are LONG TERM subsidies never work. Subsidizing things initially creates an illusion that the policy is “working” and that people are getting education, people are owning their own homes, etc, etc. But at the same time these things are happening, pricing bubbles form as all the subsidized items keep getting more and more expensive. Eventually these bubbles burst and the society ends up paying for everything in one way or another and the cost usually ends up being much higher than it would’ve been had there not been for subsidies in the first place. There is no free lunch out there. Just the question is who is eating the lunch, and who’s paying for it and when?