Kevin Jewell of Consumers Union's Southwest Regional Office

Market failures evident in manufactured housing (Jan. 2003).
By Kevin Jewell

A short article for policymakers

John McMillan's recent book "Reinventing the Bazaar" outlines five basic requirements for markets to function. "For a market to function well, you must be able to trust most of the people most of the time; you must be secure from having your property expropriated; information about what is available where at what quality must flow smoothly; any side effects on third parties must be curtailed; and competition must be at work." Markets that operate without these conventions are subject to inefficiencies and failures. Policy makers interested in efficient markets should learn these requirements and think about how they apply in the real world

The manufactured housing market is a fascinating example of market failure. This submarket of the housing industry operates under business practices and laws that are unique unto itself. The industry is clearly distinct from the rest of the housing market and its practices have evolved from the automobile and travel trailer industry to fill a niche of much needed affordable housing in this country. Yet any follower of the market knows that it has serious problems. Consumer satisfaction varies wildly with the product, the industry has a poor reputation, and the manufacturing and financing companies in the industry swing widely from boom to bust in a cyclical pattern. Most recently, the third largest bankruptcy of all time was precipitated by Conseco's investments in manufactured home finance, and a large manufacturer (Oakwood) declared bankruptcy. Both companies were buried under an avalanche of repossessed homes.

McMillian's frame work can explain some of the structural problems in the manufactured housing industry, and can give policy makers insight on how to fix them. Two of the market conditions, trust and information, clearly fail in this market. A third, competition, is tenuous, especially with regard to the financing aspects of the industry.

Can market participants trust one another in this market? A 1999 Solomon Smith Barney report on manufactured housing finance found "like subprime auto finance, there appears to be a higher risk of dealer fraud." Last year, Consumers Union released a report "In Over Our Heads" detailing consumer accounts of fraud in the market. Consumers reported dealers saying almost anything to make a sale. In this high pressure, commission driven sales environment, it often seems that anything goes - which leaves the consumer with no one to trust.

What makes this market less trustworthy than others? For one thing, trust is enforced in most markets by the courts, particularly the civil justice system. Most disputes don't end up in courts, but the threat of justice keeps market participants honest. Three factors reduce the ability of the court system to foster trust in this market place. First, large segments of consumers in this market are low to moderate income families. These families do not have the resources to hire an attorney if they have a problem. Second, the manufactured housing industry has successfully lobbied for many 'specialized' laws which apply only to them. Thus, mobile home law has become a specialty outside of normal consumer law. Even consumers who can afford an attorney may find they can not find a lawyer knowledgeable in the field. Third, the manufactured housing industry was one of the first to widely embrace mandatory binding arbitration agreements. These contractual clauses require consumer to sign away their right to sue when they purchase or finance the home.

Protected by these factors from the civil justice system, and often ignored by regulatory and criminal enforcement agencies, dealers and manufacturers have little incentive not to lie, cheat, or defraud their customers. Consumers have no way of knowing if the dealers or manufacturers they interact with can be counted on. Trust has left the marketplace.

The second major failure in this marketplace is information. What homes are available where, and whose homes are built best? Which market participants can you trust? What financing is available? Here at Consumers Union, we get this question frequently. After all, we have been filling this void in markets since 1936. Unfortunately, we don't rate manufactured homes, and don't have the resources to do it anytime in the near future. Unlike the Auto or Television market, manufactured homes are not very standardized. Homes built under the same brand, even under the same model name, may be built differently in different plants across the country. In 2002, there were 269 plants across the country producing hundreds of different models. Click here to see statistics. Adding to this variation is the crucial on site work performed by networks of dealers and installers after the home is purchased. Despite our lack of direct ratings, the information that we have compiled on manufactured housing ranks among the most highly request pages of our advocacy website. Consumers need information.

Consumers find it difficult to obtain information on home quality and available options for themselves. The dealership sales process discourages shopping through high pressure sales techniques and deposit requirements. Shopping for financing can actually damage consumers credit because of the "personal property" nature of manufactured home loans (see "Borrowers Wait for Green Light in Mobile Home Loan Rate Shopping"). Consumer may lack the technical expertise to ascertain the quality of the construction process and materials used to construct the home. The building code for manufactured home allows for greater variation in construction quality than conventional building codes, leading to greater uncertainty for the consumer about what they are purchasing. Since a consumer usually only shops for homes on the dealer lot, they cannot see the quality of the work "behind the walls" or on final installation. Our recent report "Paper Tiger, Missing Dragon" outlines the quality issues in this market.

Thus, consumers lack information needed to be informed shoppers in this market place. They have to trust the dealer and manufacturers, whom are often their only source for information. But as we have seen above, this trust rests on faith, not on the solid foundations of enforceable law. This leaves consumers vulnerable.

The last requirement for a successful market that serves society is competition. On one level, this market is crawling with competition. Dealerships have low to no barriers to entry, and manufacturers battle each other for market share. Where competition fails in this industry is in consumer financing. Competition exists, but not at the consumer level. Dealerships capture all of the benefits of competition, as finance companies spent 1998 through 2000 offering higher and higher commissions to dealers for access to their captive customers. Consumers are directed to obtain financing through the dealer, who ties the financing to the sale of the home. Consumers get into such bad deals - changing terms and hidden fees drive up the costs of the loans - that they walk away and allow homes to be repossessed.

Competition from outside the finance industry is almost non-existent, as traditional lenders such as banks and mortgage companies fear the lack of trust and information in the manufactured home marketplace and have avoided making loans in it. Most recently, the manufactured home finance industry has collapsed and many companies have left the market, reducing what competition that did exist.

We've painted a picture of an industry in shambles, and indeed, the manufactured housing industry is. Yet manufactured homes still promise to provide much needed affordable housing to this country. How can policy makers use McMillan's framework to fix this industry and stop the damage in inflicts upon thousands of low-income consumers a year?

First, policies can be instituted to return trust to the marketplace. Policy makers should:

• Create simple, enforceable laws with adequate penalties lawyers are willing to use.

• Increase access to legal aid and other affordable legal advice for low income homebuyers.

• End the use of mandatory binding arbitration agreements which replace the public trust enforcement system with private courts and judges which can be subject to bias.
  
  Second, policies can be implemented to improve the information flow in the marketplace. Policy makers should:

• Make public and accessible formal complaints and enforcement actions about manufacturers and retailers. This information is now collected but often ends up gathering dust in the archives of state and federal enforcement agencies.

• Improve the ability of consumers to shop for information by requiring sticker prices, standardized information sheets, and easily and fully refundable deposits.

• Provide meaningful and accessible homebuyer education that address the problems in this specialized market.

Lastly, real competition in the finance market can be encouraged by moving the manufactured home industry out of the ghetto of specialized chattel financing and into the mainstream of housing finance. This can be done by adding the legal protections of real property classification and the market protections (such as independent appraisals) of the conventional market. Policy makers should be inspired by precedents in anti-trust law to break the tying that occurs in dealerships between the financing and home itself, allowing consumers, rather than dealers, to compete for the best price. Kickbacks and yield spread premiums to dealers for placing consumers in high cost loans are needlessly stripping the opportunity to build assets through homeownership from consumers across the country.

Tens of thousands of manufactured homes will be repossessed this year, each representing a family, now with ruined credit and no home, for which this market failed to provide sustainable housing. Markets don't fix themselves. When vital markets fail, be it utilities, healthcare, or housing, policy makers need to step in and provide the leadership and legal structures need to allow them to function. Understanding the requirements for a successful market can show policy makers what needs to be done to fix a market.