The policy alternatives in the post-housing-bubble world are painfully unpleasant. In my view, the least bad option is for the Federal Reserve to print money to help stabilize housing prices and financial markets. Yes, use reflation to soften the pain for Main Street and Wall Street. If instead we let housing prices fall another 25%-30% – as predicted by the Case-Shiller Home Price Index – it's almost certain that Washington will end up nationalizing the mortgage business.
Mr. Makin has spent considerable amounts of his time studying the Japanese experience after their twin bubbles popped so he deserves a good listen. I do think however that he overestimates the likelihood of a "nationalization" of the mortgage industry, by which I think he means drastic regulation and the government guaranteeing of many mortgages. I also think he underestimates the potential damage from overt inflationary policies by the Fed. What would be the effect on all those foreign dollar holders if the Fed announced a policy such as this? It would certainly mean a further devaluation and I suspect that the reflation that Mr. Makin proposes would not be confined to housing prices.
Mr. Makin's proposed fix for housing deflation would probably work, but the cost in terms of inflation and a devalued dollar (which are essentially the same thing) could be more disastrous than a little housing deflation.