# The subprime mortgage crisis and the Community Reinvestment Act

Apparently undeterred by last week's marijuana misadventure, DaveScot just decided to add another topic to the growing list of things he has absolutely no understanding of but writes about anyway. In today's installment, he joins the growing list of right-wingers who have decided to blame the current subprime mortgage crisis on the Democrats who passed the Community Reinvestment Act of 1975. Predictably enough, it doesn't take much effort or research to figure out that this claim has very, very little resemblance to the truth.

The basis behind the claim that the CRA caused the subprime crisis is relatively simple. The Community Reinvestment Act requires banks to make loans in the low- and moderate-income areas that they serve. Everyone knows that low- and moderate-income families are going to be bad risks, so this means that the banks are being forced to make subprime loans. Therefore, the CRA is the cause of the current problem.

The thing is, very little of this is true.

Let's start with the Community Reinvestment Act and the reasons that it was passed. For decades prior to the law's passage, banks engaged in a process known as redlining, where they declined to write loans in certain geographic areas - typically low-income areas with large minority populations. They did not decline to write bad loans in these areas; they refused to write any loans at all. For example, in 1975 the largest bank in the Bronx wrote a grand total of 32 loans in the entire borough (Rooney 1995, p.50). No loans means no new businesses, no new housing, no opportunity.

The CRA simply requires that any federally-insured bank that accepts deposits from people living in a certain area also write loans in that area. That's all. It does not require a fixed number or percentage of loans to be made, and it does not require that the banks relax their lending criteria in CRA areas. In fact, the law specifies that federal agencies evaluating the covered banks:

assess the institution's record of meeting the credit needs of its entire community, including low- and moderate-income neighborhoods, consistent with the safe and sound operation of such institution;

Simply put, the claim that the CRA forces banks to make subprime loans is absolute nonsense. The law contains a clause that protects banks from having to take on unsafe levels of risk. It was also passed in 1977, more than a quarter-century before the current crisis began to unfold. But what about the rest of the claim. Isn't there some truth to the claim that anyone lending money in a poor area is going to have to be willing to lend to subprime borrowers?

Apparently not. According to the President of the Federal Reserve Bank of San Francisco, over 80% of CRA loans made in 2006 by banks covered by the act are prime loans. Simply put, being poor does not mean that you are irresponsible, or that you have bad credit. It just means that you don't have a high income or a lot of money. There is no shortage of responsible poor people out there, who have good enough credit and enough savings to qualify for a traditional, prime home loan.

It's not the banks covered by CRA that are making most of the bad loans. They account for about a quarter of all subprime loans. Bank subsidiaries that are not necessarily subject to CRA account for about another quarter. The rest - representing slightly more than half of all subprime loans - were made by the mortgage companies.

To sum up, the Community Reinvestment Act was signed more than 25 years before the current subprime crisis erupted. Banks, which are the only financial institutions covered by the CRA, have made a little less than a quarter of the riskier loans. These riskier loans only account for 20% of the total number of CRA-eligible loans that they have been made. The majority of the subprime loans were made by mortgage companies that do not have to comply with the CRA, and 40% of the mortgage loans initiated in the mortgage company sector in 2006 were subprime. The claim that the CRA caused the subprime crisis is nothing short of asinine.

To sum up the summary, DaveScot is wrong. Again.

References:

Rooney, J. 1995. Organizing the South Bronx. SUNY Press. ISBN 0791422100, 9780791422106.

• Colugo says:

Check out this article from '99 which suggests Rubin and Graham's role in this mess.
http://www.motherjones.com/news/feature/1999/11/fotc10.html

• Colugo says:

I mean Gramm! Crap.

• yoyo says:

u forgot to mention the compliance tests updated in 1995

• chezjake says:

Slightly OT, but it seems to me that a law requiring all mortgage lenders to hold on to their mortgages for a minimum period, say 5 years, before they can sell them would do a great deal to insure that assessments were fair and credit was issued on a sound basis.

• Martin says:

The CRA was passed in 1975. It's now 2008. Now, I'm not American, so maybe I'm wrong, but I understand you've had at least 20 years of Republican administrations since then that could have changed it, but they clearly chose not to.

• Steve J. says:

Thanks for providing informative links. Almost all the right-wing radio gasbags (Limbaugh, Hannity, Boortz, Levin, etc.) have been pushing this meme for at least the last week and I hadn't gotten around to digging out the facts.

• QA's Mom says:

QA's Mom here:
Redlining in the Bronx meant -- landlords being unable to make repairs - which in turn led to abandonment of otherwise intact and tenanted housing stock.
I know of several instances when tenants learned that that their landlord was gone the day after a crew came to "fix the boiler" - and they woke up to no heat, no electricity, and no superintendent, when they finally got up the courage to check the boiler room they found out that the super or landlord (we never found out which) had taken it with him when he left.
While this was going on banks were happy to take the deposits of the same tenants struggling to survive.
At one point I had an owner literally hand me a deed -- not me personally - but my organization - to a 16 unit building - he couldn't get a loan to repair the boiler -- we paid for the improvements via bake sales, and with help from the community -- the boy scouts painted the hallways
It took a couple of years but we were successful in saving the building -- which turned out to be a good things because ten years later -- when we were burned out of our own apartment that was where we stayed until we could go back (but that's a whole 'nother story)

• LFS says:

I am an expert in the Community Reinvestment Act and the Home Mortgage Disclosure Act and related Fair Lending laws. I have been consulting in this specialized compliance area for 14 years and have worked with hundreds of banks and some community organizations as well. There is a good deal of truth to the allegation that the CRA did contribute to the current financial crisis (although the lax and fraudulent practices of the GSE's and the participation of the investment banks in MBS's also were major contributing factors too). There is much good to be said about the CRA, but as the old saying goes, "The road to hell can be paved with the best intentions". While the CRA has been around for more than 30 years, it was the changes made in 1995 under the Clinton Administration that set the ball in motion for the pressures that created market premiums for LMI mortgages. In 1995 for the first time, the CRA specified quantitative performance standards specifically related to LMI mortgages. It took 7 or 8 years for the cumulative effect to become too big to ignore.
As pointed out by Mr. Dunford, about 50% of the sub-prime mortgages originated can be ascribed to the banks and their affiliates (which itself is still very substantial). Under CRA banks receive credit not only for loans they originated, but loans they purchase as well. This resulted in a premium value for mortgages to low- and moderate-income ("LMI") borrowers and in LMI areas too. The premium was reflected in the secondary market for these loans. I personally saw transactions between banks in which these mortgages were sold and purchased at huge premiums that were driven by the "CRA value" of the credits for the loan purchaser. I vividly remember one portfolio transaction in which the purchasing bank paid a premium of 15,000 per mortgage to effect a transaction just before year end. Some unscrupulous firms went around marketing "CRA mortgages" (there really is no such thing) touting the mortgages to borrowers as highly attractive because of the CRA-angle (the FFIEC actually posted a warning about this on its website). Lehman Bros. was one of the most active players in the secondary market purchasing these loans. The reality is that the regulatory pressure exerted by CRA was a factor that should not be ignored. Ironically, at the same time, many banks did offer discounted rates to LMI borrowers that did benefit them. Not all subprime loans took advantage of borrower ignorance. There is far more that can be said about this. I am not for abolishing CRA. But I do think it needs to be modified to address these issues. "Those who don't remember (or know) the past are condemned to repeat its mistakes". • Concerned says: It is my understanding that the Community Reinvestment Act didn't really begin to create problems for the banking industry until 1995, when Clinton made major changes to the Act. From Wikipedia: "The new rules went into effect on January 31, 1995 and featured: requiring numerical assessments to get a satisfactory CRA rating; using federal home-loan data broken down by neighborhood, income group, and race; encouraging community groups to complain when banks were not loaning enough to specified neighborhood, income group, and race; allowing community groups that marketed loans to targeted groups to collect a fee from the banks.[5] The number of CRA mortgage loans increased by 39 percent between 1993 and 1998. Other loans increased by only 17 percent.[7]" These changes created the Housing Bubble, as demand for homes went through the roof and the cost of homes began to increase faster than inflation. In order compete with the larger banks that were issuing loans subject to CRA, smaller banks were likely compelled to follow suit or lose business. (A normal market reaction) Therefore, I believe that the housing crisis does have it's roots in the CRA changes of 1995. Whenever you try to artificially stimulate a market, it's going to crash on you sooner or later. A combination of bleeding heart activist groups that used bad legislation to force banks to loan to unqualified recipients or face penalties, irresponsible people taking on loans they couldn't afford, predatory lenders and greedy CEOs all capitalized on the CRA changes of 1995. If it weren't for the CRA changes of 1995, the ball would have never rolled in the direction of today's crisis. The legislators who created the CRA changes of 1995 knew they would never be able to pass legislation to get funding from the government to help low income people get loans for housing, so instead, they sabatoged the free market to get what they wanted knowing that the bubble would eventually burst...and forgive me, but IMO, I'm beginning to think they knew the bubble would burst, and when it did, they knew they would essentially have the power to initiate a government takeover of our financial markets by placing the blame soley on the free market system and greed. They got what they wanted (billions), but in a round about way. • Concerned says: Graph of housing bubble. http://bp0.blogger.com/_SfxDExxUukY/RvpYc_LhARI/AAAAAAAAAJM/Pe3JgMUfGXU/s1600-h/housingmarket_nytimes.jpg Notice when home prices starting going through the roof?... only two short years after the CRA changes of 1995 . The Bush Administration tried to regulate Fanny Mae and Freddy Mac to prevent this crisis, but it was stopped. Watch video: http://www.youtube.com/watch?v=cMnSp4qEXNM Those who say the Republican Party had plenty of time to "fix" the problem, but didn't, are uninformed. The CRA was fine up until 1995. The CRA legislation of 1995 caused this problem, and we should all learn a lesson from the mistake of trying to artificially manipulate the marketplace....so this never, never happen again. • Ferdinand says: The mortgage underwritng standards in the USA were completely eroded by the CRA post 1995. IT IS BECAUSE OF REGLULATION, rather then NO REGULATION, that bankers were forced into the sub prime. It does not stop there....what about student loans?....and home equity lines?...the Federal legislation caused risk adverse bankers into this mess. And, unfortunately, non-US investors financial institutions as well. And, now the US public is realizing the effect in their 401Ks. But, the story does not stop there. Devalued pension assets with baby boomers starting to retire and municipal employees as well (who have extraordinary pension schemes) will cause the implosion of the financial ability of the USA to cope unless there is a change in course. And, to add fuel to the fire, there is the Democratic party trying to extend medicare for all into the mix. Your legislative leadership in the Democratic party is deranged. The biggest take away from my post is that whilst the USA is trying to socialize, the rest of the world is doing the opposite, particularly in the EU. • Kim says: Concerned-- Do you have any facts to support this allegation or is it just your unsubstantiated belief that regulation caused this? What failed mortgages caused the meltdown? Were they CRA-related mortgages? Were they riskier mortgages sold by mortgage brokers because they could make higher fees? Were they regulated in any other way? How old were the loans when they failed? Were they initiated after President Bush's scaling back of the CRA in 2005? How about after President Bush's minority home ownership initiative which lowered Fannie and Freddie underwriting standards in 2002 (see http://www.whitehouse.gov/news/releases/2002/10/20021015-7.html)? How about after the adoption of the American Dream Downpayment Act (a George W. Bush initiative for the government to pay the down-payment of minorities)? Were they jumbo loans? Were they Alt-A loans? Were they loans to investors intending to flip the homes? Were they refinancings? Why did the mortgage brokers advertise these risky mortgages so much if they did not want to make them? Were they loans which were securitized by Fannie or Freddie or were they securitized by a private company? In short, there are many possible explanations for the mortgage meltdown which have little of nothing to do with the CRA. Until these questions can be answered, it is difficult to fully figure out the causes. The one thing that is almost certain about this mess is that the separation of profit (sales commissions) from risk (of default) through securitization of mortgages was a large part of the problem - there was little need to worry about the riskiness of a mortgage if somebody else was going to assume the risk with few questions asked. When housing prices declined and ARMs started adjusting, refinancing became more difficult and the mortgage crisis ensued. The CRA may have played a role, but without better evidence, it is difficult to fairly conclude that the CRA played a major role in the mortgage meltdown. • Concerned says: Kim, All of your questions are relevant. I got much of my information here and drew my own conclusions: http://en.wikipedia.org/wiki/Community_Reinvestment_Act I feel that the "socialistic" mentality of this whole issue (ie..compelling banks to provide loans to low income people who could not afford them) is at the heart of the problem. This combined with dangerous legislation that took away the risk from banks thereby making it easier for them to make these kinds of loans is what got the ball rolling with this whole mess. Greed took over after that. I do know that there was a conservative effort to add regulation to Freddy and Fanny which was shot down by the Deomocratic Majority in Congress based on claims that the legislation would undermine the original intent of the CRA. I posted a video of the congressional arguments. Not sure if you had a chance to take a look: http://www.youtube.com/watch?v=cMnSp4qEXNM I tried to look at your link, but it didn't work. Look - everything you are arguing about is valid, but when it comes right down to it, do you really believe that a Demograt, as opposed to a Conservative, is going to be the best person to fix the problem? You pointed out that it was the separation of profit from risk that is at the heart of the problem. The legislation that allowed a separation of profit from risk has its roots in the CRA. The CRA is NOT legislation that was pushed by Conservative groups. While many banks that made these bad loans may not have been regulated by CRA, I believe these banks would not have been compelled to make such loans if they weren't forced to remain competitive with larger banks that were regulated by CRA. • Kim says: Concerned-- Here is the link again: http://www.whitehouse.gov/news/releases/2002/10/20021015-7.html I have read the wikipedia article - many times. It's a good start, but there is much more to the story. Mortgage-backed securities pre-existed the CRA having been a part of the original legislation creating the predecessor to Fannie Mae in 1938 and creating Freddie Mac in 1970. So, I disagree with your statement that the separation of profit from risk had its roots in the CRA. More recently, Wall Street got into the act when private entities also began securitizing mortgages in competition with Fannie and Freddie. These were largely unregulated, were not created by any legislation and had nothing to do with the CRA. Most of the riskier loans (subprimes, ARMs, Alt-As, etc.) weren't made by banks, they were made by mortgage brokers outside the purview of the CRA (although in some cases they apparently could be sold to CRA banks for consideration in CRA compliance.) Since I think this was largely a creation of loose monetary policy combined with loose oversight of the mortgage brokerage industry, the mortgage lending industry, the derivatives industry, the bond rating agencies, the credit default swap industry and the investment bank industry primarily during the George W. Bush presidency, yes I think a Democrat with some understanding of the importance of reasonable regulation of industries that are "too big to fail" would be far better than what we have had. • QA's Mom says: I feel that the "socialistic" mentality of this whole issue (ie..compelling banks to provide loans to low income people who could not afford them) is at the heart of the problem. The CRA never compelled banks to provide loans to people who could not afford them. It said that banks had to make loans to people who live in the area from which they take deposits, and who otherwise qualified for that loan. For example a loan to the owner of an apartment building in the Bronx filled the criteria, for example, as did loans to small business owners. When the CRA first went through, our agency assisted banks identify people who met the criteria - none defaulted -- in fact the failure rate was generally lower than that from other communities. Assuming that all people in any given community are insolvent is just nonsense, as the long history of the CRA bears out. • QA's Mom says: Whoops Please note that the 1st paragraph in the post above is from Concerned's post earlier today. The rest of the comment is mine. • QA's Mom says: Check out this link from the NY Times from 10/3/08. http://www.nytimes.com/2008/10/04/nyregion/04about.html?_r=1&ref=nyregion&oref=slogin Jim Buckley, a friend and colleague, who pioneered CRA work in the Bronx is quoted extensively. • Concerned says: Kim, OK - I'm trying to keep an open mind with all of this, and I hope you are too. Here is the way I understand the timeline of events: 1977 - CRA was created to put pressure on banks to lend to high risk investors so as to decrease racial disparity in homeownership. But back then, banks generally had to hold these "bad" loans to maturity, because investors were unwilling to purchase them (too much risk). Therefore, banks would only make just enough of these bad loans to keep their CRA ratings at an acceptable level. There were penalties that the banks would face if their CRA ratings were not kept at an acceptable level, so they reluctantly took on the "forced" risk to avoid these penalties. 1995 - The Clinton administration made changes to the CRA and used HUD to put pressure on Fanny and Freddy to purchase these "bad loans", thus mitigating the risk that caused banks keep tight lending practices. http://www.nhi.org/online/issues/80/fanny.html This IS when profit became separated from risk as far as subprime mortages go. Once the bankers realized that they now had a place to "dump off" these bad loans, they realized that they could get all of the profit (closing costs) associated with making these loans without any of the risk of having to keep these bad loans on their books anymore. Other lenders that were not subject to the CRA followed suit, because they too, could profit from selling riskier loans without having to worry about keeping the bad loans on their own books (Fanny and Freddy would buy them). Shortly after these legislative changes, the housing bubble began to form, because Clinton's legislation allowed this unintended consequence to happen. Wall Street profited when Fanny and Freddy began to bundle and sell the mortgage backed securities on the open market to investors at higher interest rates, even, than T-Bills, for example. Investors felt safe, because, after all, these securities were backed by Fanny and Freddy, a government-sponsored entity. But big investment bankers began to purchase these mortgage backed securities on margin, and that's when all "hell' broke loose. Nobody ever expected these mortgages to foreclose at such high rates. A rise in energy and food costs combined with increasing interest rates on ARMs, for example, really put a lot financial pressure on those individuals who were already high risk to begin with. As long as housing and the economy continued to grow, it was safe for investment bankers to buy these mortgage-backed securities on margin, but once the housing bubble began to burst, and housing values began to drop, there were investments, purchased on margin, that were worth less than what they were purchased for. That's what has caused many of these firms to go down. On a positive note, many of these firms have been purchased by banks, and will now be subject to banking regulations. Yes, the market does have a way of taking care of things in the longrun. 2001-2008 Bush Administration makes many warnings and attempts to pass legislation to regulate/reform the GSEs, Fanny and Freddy: http://forum.newshounds.us/viewtopic.php?t=24046 I am a fiscal conservative, so I don't agree with the premises behind Clinton's changes to the CRA in 1995, nor do I agree with the premises behind Bush's American Dream Downpayment Act. Personally, I don't think that someone should be given a loan, or any money for that matter, just because they are a minority, and especially not if they are at high risk for foreclosure. Bush's legislation, based on the article you cited above, did not seem to de-regulate Fanny and Freddy. I did notice that Fanny and Freddy promised a finite amount of money to the cause, though. Personally, I think the Democratic idealism behind the idea that we can manipulate the marketplace to provide equality in homeownership is at the heart of this crisis. Perhaps a lack of regulation in the investment banking arena solidified it's own demise, but that, in my opinion, does not get to the root of the problem. • Kim says: Concerned-- I am interested in knowing what the truth is so that the problem can be resolved and avoided in the future. I am trying to keep my mind open. The CRA was passed to deal with redlining and did not necessarily deal with "bad" or risky loans. Just because an area is "bad" does not mean that all loans in that area will be "bad." There is some evidence to show that CRA loans were generally pretty good quality loans as opposed to the "bad" loans you seem to assume they were. The 1995 changes did allow for sub-prime mortgages to be considered for CRA compliance for the first time, but it is not clear what percentage of CRA-related loans were subprime. There was not a sub-prime mortgage meltdown until about 10 years later. From this point forward causation gets very difficult to pinpoint because there were lots of things going on changing the mortgage market. Mortgage brokers were becoming more of a force. The dot.com bubble was coming to an end making investors look for other places to invest their money. Laws changed to allow more "innovative" mortgage products. Private entities became more important in the securitization market (competing with Fannie and Freddie). Bond rating agencies began to rate the privately-securitized mortgages. Credit-swap defaults were invented to effectively insure the privately-securitized mortgages making them more attractive to buyers. Interest rates dropped to historically low levels post-9/11 artificially raising property values. The debt-to-asset requirements of the investment banks were reduced significantly. Fannie and Freddie starting buying securitized mortgages as an investment. Etc., etc. Many of these events occurred during the Bush administration. Mortgage brokers had an incentive to sell risky mortgages because they could make a bigger commission and could pass on the risk. There is evidence that many people who were sold risky sub-prime mortgages could have qualified for less-risky prime mortgages. The mortgage bankers could pass on the risk to the private mortgage securitizers. The private mortgage securitizers could get the pools of mortgages AAA rated and insured so that they could sell to Lehman Brothers, Bear Stearns, Fannie, Freddie or any of a number of purchasers and start the process over again. Between 2001 and 2004, the subprime mortgage market grew from 160 billion to 540 billion. "Between 2005 and 2008, Fannie purchased or guaranteed at least 270 billion in loans to risky borrowers � more than three times as much as in all its earlier years combined." (http://www.nytimes.com/2008/10/05/business/05fannie.html?pagewanted=1&_r=1&ref=business). They did it in order to make a profit and because it was encourage by HUD's affordable lending policies (of the Bush administration). Things went well so long as housing prices went up. Everyone made a profit and everyone was happy. When the housing bubble burst and sub-prime mortgagors were no longer able to refinance, the whole thing came tumbling down. Did the government create the risky mortgages? No, private enterprise did. Did the government encourage affordable housing? Yes. Did government encouragement of affordable housing create risky lending? There is very little evidence of a direct effect; however, by investing in the subprime securitized mortgage market, Fannie and Freddie may have indirectly encouraged risky lending by making money available for such lending. (Question - if Fannie and Freddie had not invested in those securitized mortgages, would a private enterprise have invested? After all, they did appear to be quite safe because of the AAA rating and credit-default swap.) Did the CRA have a role in this - possibly, but not a big one in my judgment. There were far too many other events which had a much more direct effect. Would better government oversight of the mortgage products, mortgage brokers, mortgage lenders, private securitizers, rating agencies, credit-swap default companies and Fannie and Freddie have made a difference. Almost certainly. • Concerned says: Kim, Your posts are very thoughtful, but here is one place where I think we are very much in disagreement. You said, "Fannie purchased or guaranteed at least 270 billion in loans to risky borrowers � more than three times as much as in all its earlier years combined." (http://www.nytimes.com/2008/10/05/business/05fannie.html?pagewanted=1&_r=1&ref=business). They did it in order to make a profit and because it was encourage by HUD's affordable lending policies (of the Bush administration)." This is true, BUT, it is my understanding that CLINTON'S ADMINISTRATION (not Bush's Administration)used HUD to pressure Fanny and Freddy into purchasing "riskier" loans by placing numerical oversight over the quantity of loans made in the name of affordable housing goals. In fact, Fanny and Freddy, according to the article mentioned below, argued against the oversight. This happened under the Clinton Administration Change to the CRA in 1995. There is a huge informational article about this change in legislation that can be found here: http://www.nhi.org/online/issues/80/fanny.html If you are looking for more information about HUD and it's relationship with Fanny and Freddy, you will find it all in this article dated April, 1995. I think this was the pivotal point in history when subprime mortgage lending went out of control. It's very obvious, as you can look at any "housing bubble" graph, and see that the housing bubble began shortly after Clinton made these changes to the CRA. I don't think it is that complicated to find the cause and effect relationship, when it is so obvious, through graphical representation, to see when the housing bubble began. I am sure that greed played a large part in the whole equasion, but subprime mortgage lending would not have gone out of control, had Clinton not made it so easy for lenders to take advantage of shifting risk to Fanny and Freddy in the name of reaching "equal opportunity housing goals". Private enterprises would not have become so creative in the offering of subprime mortgage lending if they were not able to shift the risk of these mortgages to institutions such as Fanny and Freddy. If they had been required to keep the loans on their own books, there is no way they would have done it. No, Fanny and Freddy were encouraged to purchase these subprime mortgages to meet specific, numerical goals, and all of this started under Clinton's watch. Fiscal Conservatives, such as John McCain, would not support such anti-market legislation, and I doubt Barack Obama will come in and support any corrective regulation that will make it more difficult for minorities to qualify for "equal housing lending." • Kim says: The article you refer to is about proposed rules applicable to Fannie and Freddie under the FHEFSSA, often referred to as the GSE Act. These are not CRA rules. The CRA was directed at banks which took deposits from underserved neighborhoods. These rules may have had some impact, but that impact would have been with Fannie and Freddie not with CRA banks. The information attributing this to the Bush administration was found here: http://pubcit.typepad.com/clpblog/2008/09/blaming-the-cra.html "The only tiny grain of truth in this blame-the-CRA theory is that HUD, under the Bush Administration, agreed to give Fannie Mae and Freddie Mac credit for buying subprime mortgage-backed securities to meet their affordable housing goals. Fannie and Freddie's affordable housing goals are not technically part of the CRA but they are motivated by the same goals. The problem here is not the goal but the means. CRA and consumer advocates consistently opposed counting high-cost, high-risk subprime loans as meeting any bank or GSE's affordable housing goals, but the laissez-faire HUD and OFHEO regulators went along. The same right-wingers now blaming the CRA were praising subprime lending a few years ago as the solution to meet the needs of previously underserved homebuyers. CRA advocates, on the other hand, have never confused subprime lending with community reinvestment." However, this article: http://www.washingtonpost.com/wp-dyn/content/article/2008/06/09/AR2008060902626.html seems to agree with you that this was originally put into place in 1995 with HUD expecting Fannie and Freddie to "impose their high lending standards on subprime lending." The policy was revisited in 2000: "HUD restricted Freddie and Fannie, saying it would not credit them for loans they purchased that had abusively high costs or that were granted without regard to the borrower's ability to repay. Freddie and Fannie adopted policies not to buy some high-cost loans." The policy was then expanded again in 2004: "That year, President Bush's HUD ratcheted up the main affordable-housing goal over the next four years, from 50 percent to 56 percent. John C. Weicher, then an assistant HUD secretary, said the institutions lagged behind even the private market and "must do more."" Thus, it appears that both the Clinton and Bush administrations share the blame on HUD encouraging Fannie and Freddie to invest in securitized sub-prime mortgages, with Bush having more generous affordable housing goals. With regard to when the bubble began, it starts a relatively normal upward turn in about 1996 but then makes a sharper turn upward in about 2001. I would put the start of the bubble in about 2001-02 - that's when it starts looking unusual - when it reaches previous highs from 1989. With regard to Fannie and Freddie making it easy to shift the risk, keep in mind that Fannie and Freddie could not directly buy most subprime mortgages for securitization - they did not qualify for direct purchase by Fannie and Freddie. So the securitization market for most sub-prime mortgages had to be developed privately. Fannie and Freddie were then allowed to purchase those private mortgage-backed securities as investments and count them toward their affordable housing goals. Sub-prime lending only got out of control when private firms began securitizing them with AAA ratings and credit-default swaps and selling them to Bear Stearns, Lehman Brothers, Fannie and Freddie. as essentially risk-free investments - which, of course, the were not. Fannie and Freddie could not have developed this without the private firms, but it is arguable that the private firms could have developed this without Fannie and Freddie - if they had other purchasers of their securities. Finally, remember that affordable housing lending is different than sub-prime lending. I don't think Barack Obama (or John McCain) would have any trouble with reasonable affordable housing initiatives which did not necessarily encourage risky and expensive sub-prime lending. • Kim says: Concerned-- Take a look at this article that i just ran across, it might just change your mind about the cause of this mess: http://www.imf.org/external/pubs/ft/fandd/2007/12/dodd.htm • Kim says: or this follow-up article: http://www.imf.org/external/pubs/ft/fandd/2008/06/dodd.htm which does place a part of the blame on the government, but not for the relaxed lending policies of Fannie and Freddie or the CRA. Instead, it partly blames the government for its financial support of the mortgage market (including Fannie and Freddie's investments in the MBS's and CDO's issued by major Wall Street investment firms). • Concerned says: Kim, I'm not sure if you read that whole article I mentioned earlier dated April 1995, but the discussion was about how FHEFSSA, or GSE Act, was motivated by concerns over safety and soundness, rather than affordable housing, and how the NEW, proposed legislation under Clinton in 1995 would use HUD, through changes to the original CRA legislation, to pressure Fanny and Freddy to reach numerical affordable housing goals, so that article IS relevant in our discussion. I know what the original CRA legislation was about, and I'm not saying that the original CRA lesislation, put into place in 1977, is to be blamed. However, the LIBERAL mentality behind the original CRA regulation does play a very big part in how today's crisis came to be. The CHANGES TO THE CRA that Clinton made in 1995 were the proverbial "Camel's nose under the tent." That's what really started the ball rolling. If the Bush Administration further pressured Fanny and Freddy via HUD under the same regulation originally put into by the Clinton Administration, then they were in the wrong as well, but that is not the point in this whole discussion. Bush has been a "squishy" republican who's administration certainly lacked when it came to fiscal conservatism. But there is plenty of proof out there that many of the more fiscally conservative folks within the Republican party did try to warn and to make changes to regulation affecting Fanny and Freddy, to no avail (John McCain, in particular). Resistance, particularly from the Democratic party and Community Organizing activist groups (like ACORN - which Barack Obama was heavily involved with during his earlier years) helped keep the status quo, and that's why we got into this mess. Blame is to be placed more on a political philosophy than on a particular party. The whole idea that markets can be manipulated to provide "affordable housing" to people who can't really afford to be home owners in the first place, and the legislation that was put into place to force these changes into the markets is why we got into this mess. It was this kind of "Liberal" mentality that got us where we are. We need a fiscal conservative in office who understands the economics of supply and demand, and how artificial manipulation of markets is self-destructive. That's the point I am trying to make here. I personally don't think Barack Obama would be the type of person to be a fiscally responsible leader. He has already proposed literally billions of dollars in liberal spending. How is the American tax payor going to be able to afford nationalized healthcare, for example, after we just got done approving a 700 billion bailout to fix the mess that liberal "equal opportunity housing" goals has gotten us into? Please don't tell me it will all be funded by ending the war. Socialism does not work economically. America loses if we socialize our financial markets and our healthcare industry....and that's just the beginning with Barack Obama. • Kim says: It is apparent that your mind is made up, so I will stop trying. But I again urge you to read: http://www.imf.org/external/pubs/ft/fandd/2008/06/dodd.htm which largely disputes your position in this matter. • Concerned says: Hi Kim, Thanks for the articles. I have gone through them, and they all make perfect sense. There's a lot of good detail there, but what it all comes down to, in summary, is this: Taking advantage of the Clinton initiated regulation, which gave lenders the ability to "sell off" higher risk mortgages to Fanny and Freddy (government sponsored entities), lenders basically became lax in the underwriting of subprime loans, because they knew they could shift the risk. Investors purchased the packaged mortgage backed securities, without concern of the risk, as they felt safe investing in interest bearing securities that were backed by government sponsored entities. Lack of regulation in the investment banking industry allowed these investment firms to purchase the bundled mortgage backed securities on MARGIN, despite the fact that they were undercapitalized - this is basically when all "hell" broke loose. We are both pointing to the same issues. However, it still doesn't change my mind as to the root cause of the problem. If Freddy and Fanny had not been encouraged, and in some cases forced, in the first place, to increase home ownership by taking on these high risk loans, we wouldn't be in this mess. I am very sorry Kim, I am trying to understand where you are coming from. Perhaps you could suggest to me how you think Barack Obama would be a better choice of leadership when it comes to preventing such problems as this in the future? Because at this point, what is done is done. Changes will inevitably be made now regardless of who is in office at this point, because hindsight is 20/20, and there will be stiffer regulation coming down the pipeline with regards to subprime lending. I am sure that the investment banking industry has learned the hard way that it is not safe to invest in mortgage-backed securities, even if they are backed by government sponsored entities, so market forces will also play a part in "fixing" this problem. All of the changes coming down the pipeline will no doubt have an adverse affect on the housing goals set by activist groups for equal opportunity housing. Since Barack Obama is a huge supporter of equal opportunity housing, what do you think he will do in the future to make sure that this meltdown does not hurt low income home ownership? • Metro says: @Concerned: I'm more or less with you on this, in that I believe the Clinton administration initiated many changes, not just to the CRA, that helped lead to the current state of affairs. But the Bush administration has been damnably lax on all other segments of the market, and I believe that the real estate bubble suited them very well for as long as it lasted. Now the ride is over. And do you know, I DO think what's needed to fix things is a Democrat. Because a Republican administration under McCain would look little different from one currently mishandling not just the economy but the entire spectrum of US civil society under Bush II. • Kim says: You have said far more about Barack Obama than I have. I don't think he has all the answers and never said that I thought he did. I also don't think McCain has all the answers. Where I am coming from is that I believe that deregulation was the primary cause of the meltdown of the sub-prime mortgage industry. In my mind, this had more to do with an out-of-control Wall Street taking advantage of deregulation than it was the fault of the CRA. Remember that this discussion was originally about the CRA. The camel's nose under the tent does not resonate with me because there were far too many other things which happened in the 10 years between this rule change and the meltdown which contributed more directly to the meltdown (can you say intervening causation?) and it could have happened even without the 1995 HUD rule changes (if there were enough other buyers of the securitized mortgages). The 1995 Clinton initiative was limited and was scaled back by Clinton only to be expanded even further by Bush. The problem was primarily the deregulation of the mortgage industry allowing unregulated toxic products to be sold by unregulated brokers who had every incentive to sell high risk products because they could pass them on to private (NOT FANNIE OR FREDDIE) securitization firms (not regulated), which could get the securities rated by credit rating agencies (not regulated), and which could get credit-default swaps (not regulated), break them into CDO's (not regulated) and sell them as AAA-rated investments to investment firms. These were all creations of private enterprise, not the government. Fannie's and Freddie's only role in this was as the ultimate purchaser of some of the securitized subprime mortgages (but there were other willing purchasers). Oversight or increased regulation at any step in the process likely would have avoided the problem. Even John McCain agrees that oversight is called for (even though he is, at heart, a deregulator). Blaming CRA or affordable housing initiatives without evidence that the mortgages created in response to those initiatives were the mortgages which caused the problem is irresponsible in my judgment. Private enterprise did not need CRA or affordable housing initiatives in order to create this mess. Private enterprise merely needed for the government to look the other way, and it did. By the way, were you aware that the Fannie and Freddie oversight legislation which McCain signed onto was sharply criticized by the American Enterprise Institute? http://goliath.ecnext.com/coms2/gi_0199-4647892/House-GSE-reform-bill-called.html Could it possibly be that it did not pass the Senate because it was not particularly good legislation? • Kim says: You have said far more about Barack Obama than I have. I don't think he has all the answers and never said that I thought he did. I also don't think McCain has all the answers. Where I am coming from is that I believe that deregulation was the primary cause of the meltdown of the sub-prime mortgage industry. In my mind, this had more to do with an out-of-control Wall Street taking advantage of deregulation than it was the fault of the CRA. Remember that this discussion was originally about the CRA. The camel's nose under the tent does not resonate with me because there were far too many other things which happened in the 10 years between this rule change and the meltdown which contributed more directly to the meltdown (can you say intervening causation?) and it could have happened even without the 1995 HUD rule changes (if there were enough other buyers of the securitized mortgages). The 1995 Clinton initiative was limited and was scaled back by Clinton only to be expanded even further by Bush. The problem was primarily the deregulation of the mortgage industry allowing unregulated toxic products to be sold by unregulated brokers who had every incentive to sell high risk products because they could pass them on to private (NOT FANNIE OR FREDDIE) securitization firms (not regulated), which could get the securities rated by credit rating agencies (not regulated), and which could get credit-default swaps (not regulated), break them into CDO's (not regulated) and sell them as AAA-rated investments to investment firms. These were all creations of private enterprise, not the government. Fannie's and Freddie's only role in this was as the ultimate purchaser of some of the securitized subprime mortgages (but there were other willing purchasers). Oversight or increased regulation at any step in the process likely would have avoided the problem. Even John McCain agrees that oversight is called for (even though he is, at heart, a deregulator). Blaming CRA or affordable housing initiatives without evidence that the mortgages created in response to those initiatives were the mortgages which caused the problem is irresponsible in my judgment. Private enterprise did not need CRA or affordable housing initiatives in order to create this mess. Private enterprise merely needed for the government to look the other way, and it did. By the way, were you aware that the Fannie and Freddie oversight legislation which McCain signed onto was sharply criticized by the American Enterprise Institute? http://goliath.ecnext.com/coms2/gi_0199-4647892/House-GSE-reform-bill-called.html Could it possibly be that it did not pass the Senate because it was not particularly good legislation? • Concerned says: Metro, I think it's a shame that were are in the situation we are in today. Given all that has occurred during the past 8 years, I cannot blame only the Republican Party for today's state of affairs. Partisan politics, pandering to lobbyist groups and so on and so on, in my opinion, have led to the gridlock and economic disasters of today. For the economy to thrive, we have to spend less than what we are bringing in (common sense, right?), and that is not what is happening right now. I think John McCain is a very strong fiscal conservative (unlike Bush II), and he will be likely to be more responsible with American tax dollars than an Obama administration would. Obama offers great hope, because he tells us all what we would like to hear: He will end the war, give everyone free healthcare, and fix the economy. He will make our country energy independent, and bring food and gas prices back into reach for all. He will make sure low income people have the same access to affordable housing as everyone else does. He will somehow create jobs for the middle class, while at the same time, punish those evil, job creating, corporations with tax increases. He will cut taxes for everyone else. But anybody can SAY these things; Actually doing them is a whole different story. When someone promises the world but doesn't give any specific information on how they are going to accomplish those goals financially, I become very skeptical. John McCain has not made promises that he cannot realistically deliver upon, and for that, I respect him. • Concerned says: Kim, I understand what you are saying about private enterprises exacerbating the problems, but the point is: Why would private enterprises take on that sort of risk on their own? They wouldn't unless the investment was percieved to be safe...All the way up the chain, the ultimate fall-back was that Fannie Freddie were the insurer of MOST of the securitized subprime mortgages, far more so than any private entity. The unrealistic growth in the housing industry, created by the housing bubble, which was created by Clinton's regulation, gave investors (both private and public) a false sense of security, because they felt as though the increase in home equity would protect the investments, should the buyers become unable to pay. In a free market society, any investor will take advantage of a percieved safe investment, especially if the interest it bears is higher than average. This false sense of security was created by the federal government, not by private entities...And the origins of this mess all go back to one significant, pivotal point in history, which happened in 1995. I tried to read the link you posted, but it requires me to give my email address, and I don't want the spam. I did some research on the early pushes for reform and I watched video of the congressional hearings. From what I saw, lobbyist groups, Barny Frank, and the CEO of Fannie and Freddie INSISTED that there was no imminent crisis with Fannie and Freddie. http://www.youtube.com/watch?v=hxMInSfanqg Listen to the CEO of the GSEs telling Congress how "riskless" the assests were at the GSE hearings 4 years ago. • Kim says: You don't understand this because you apparently refuse to read the articles. They explain all of this rather well. You simply have many of your facts wrong. The mortgage meltdown was not caused by Fannie and Freddie securitized mortgages - it was caused by the privately securitized mortgages - since Fannie and Freddie had invested in those privately securitized mortgages, the value of Fannie and Freddie's investments declined. Private enterprises were making money all the way up the food chain as long as housing prices were going up. They did not realize the risk because they had never rated or insured such risky pools of mortgages before and they did not truly know what was in the pools of mortgages because of how they were packaged. Their history with securitized mortgages was with Fannie and Freddie securities which were not as risky because the quality of the underlying mortgages was better and because of the implicit guarantee of the government for the GSE's. The rating agencies and the credit swap default agencies completely misjudged the risk of these privately securitized mortgages. They rated them highly and insured them despite their risk. Once the credit rating and "insurance" was attached they were viewed as safe by the ultimate purchasers. (AAA ratings, remember). The false sense of security regarding these privately securitized mortgages was NOT created by Fannie and Freddie. The false sense of security was created by Moody's (and other credit rating agencies) and A.I.G. (and other credit-swap default dealers). Read this article for more: http://www.time.com/time/business/article/0,8599,1841699,00.html There were many possible reasons for the housing bubble, only one small piece of which was the 1995 change in HUD regulatations. Read this article for the many other possible and more likely reasons: http://en.wikipedia.org/wiki/Causes_of_the_United_States_housing_bubble In any event the housing bubble did not really take off until about 2001. And, I am not defending Fannie, Freddie, Barney Frank or any of the people who said that Fannie and Freddie were on solid ground. Fannie's and Freddie's investment in the private securitized mortgages should have been reigned in rather than encouraged. But, to say that McCain was right because he sponsored a bill which was criticized by the A.E.I. and never voted on in the Senate is simplistic. That bill had some merits, but it also had some problems as further witnessed by the fact that a Republican congress with a Republican president could not get it passed. • Kim says: I referenced the wrong article regarding AIG. Try this one instead: http://scientopia.org/blogs/authority/2008/09/the-subprime-mortgage-crisis-and-the-community-reinvestment-act • Kim says: I referenced the wrong article regarding AIG. Try this one instead: http://www.nytimes.com/2008/09/28/business/28melt.html?_r=1&oref=slogin • Concerned says: Kim, I DID read all of the articles you posted, and information certainly supports your arguments regarding how the private entities created our mess, but I challenge you to read this (an AEI publication): http://www.aei.org/publications/pubID.28704/pub_detail.asp Quote: "Increased Support for Affordable Housing Affordable housing loans and subprime loans are not synonymous. Affordable housing loans can be traditional prime loans with adequate down payments, fixed rates, and an established and adequate borrower credit history. IN TRYING TO INCREASE THEIR COMMITMENT TO AFFORDABLE HOUSING, THE GSES ABANDONED THESE STANDARDS. In 1995, HUD, the cabinet-level agency responsible for issuing regulations on the GSEs' affordable housing obligations, had ruled that the GSEs could get affordable housing credit for purchasing subprime loans. Unfortunately, the agency failed to require that these loans conform to good lending practices, and OFHEO did not have the staff or the authority to monitor their purchases. The assistant HUD secretary at the time, William Apgar, later told the Washington Post that "[i]t was a mistake. In hindsight, I would have done it differently." Allen Fishbein, his adviser, noted that Fannie and Freddie "chose not to put the brakes on this dangerous lending when they should have."[13] Far from it. In 1998, Fannie Mae announced a 97 percent loan-to-value mortgage, and, in 2001, it offered a program that involved mortgages with no down payment at all. As a result, in 2004, when Fannie and Freddie began to increase significantly their commitment to affordable housing loans, THEY FOUND IT EASY TO STIMULATE PRODUCTION IN THE PRIVATE SECTOR BY LETTING IT BE KNOWN IN THE MARKET THAT THEY WOULD GLADLY ACCEPT LOANS THAT WOULD OTHERWISE BE CONSIDERED SUBPRIME. (click above to read the whole article). • Kim says: Even though you apparently do not think so, I believe that this supports what I have been saying and disproves what you have been saying. To understand why, you have to take the time to truly understand what is being said because it is a little convoluted. Quoting from the article you cited: "To curry favor with Congress, they sought substantial increases in their support of affordable housing, primarily by investing in risky and substandard mortgages between 2005 and 2007." The key words are "investing" and "substandard." These were Fannie and Freddie's investments in loans which could not meet their standards for underwriting. Contrary to your prior statement, "that Fannie Freddie were the insurer of MOST of the securitized subprime mortgages, far more so than any private entity," these were not the loans Fannie and Freddie underwrote. These were the risky sub-prime loan packages securitized by, rated by and insured by private entities that I previously talked about that Fannie and Freddie "invested" in. And, note the time frame for the "substantial increase" - 2004 (not 1995). This was in accordance with the expansion of HUD's affordable housing goals announced by Bush in 2004 which I talked about above (after Clinton had started allowing "investment" in subprime mortgage packages to be counted toward affordable housing goals in 1995 and then limited the program in 2000). So, yes, increased "investing" in subprime mortgages by Fannie and Freddie from 2004 on had an impact, a fact previously discussed. And, as I have previously submitted, it is possible that, since Fannie and Freddie were not the only purchasers of these subprime mortgage packages, this could have been accomplished without Fannie and Freddie - if other purchasers were willing to purchase the packages that Fannie and Freddie purchased. I would submit that this is one of many intervening causes which exonerates Clinton's 1995 HUD affordable housing initiative and the unrelated, but like-minded, CRA rules. As you have argued, Clinton's rule change opened the door. In response, I would point out that it had no significant impact until Wall Street created this convoluted system to obfuscate what was in the privately securitized mortgages yet still get them bonded and insured. And to make matters worse Bush's increased affordable housing initiative of 2004 arguably fanned the flames. As I stated earlier "the problem was primarily the deregulation of the mortgage industry allowing unregulated toxic products to be sold by unregulated brokers who had every incentive to sell high risk products because they could pass them on to private (NOT FANNIE OR FREDDIE) securitization firms (not regulated), which could get the securities rated by credit rating agencies (not regulated), and which could get credit-default swaps (not regulated), break them into CDO's (not regulated) and sell them as AAA-rated investments to investment firms. These were all creations of private enterprise, not the government. Fannie's and Freddie's only role in this was as the ultimate purchaser of some of the securitized subprime mortgages (but there were other willing purchasers)." I believe your latest article supports this statement. • Concerned says: Kim, I am wondering if you really read the article very carefully. The biggest problem with your arguments is that they do not explain how and why private marketers and investors were enticed to became involved in the subprime market and take on risk that would surely have been unprofitable. The article I posted makes the argument. I'll post a few quotes so you can see what I mean. " In 1995, HUD, the cabinet-level agency responsible for issuing regulations on the GSEs' affordable housing obligations, had ruled that the GSEs could get affordable housing credit for PURCHASING subprime loans. Unfortunately, the agency failed to require that these loans conform to good lending practices, and OFHEO did not have the staff or the authority to monitor their purchases." "Beginning in 2004, after the GSEs accounting scandals, the junk loan share of all mortgages in the US began to rise, going from 8 percent in 2003 to about 18 percent in 2004, and peaking at about 22 percent in the third quarter of 2006. It is LIKELY that this HUGE increase in commitments to junk lending WAS LARGELY THE RESULT OF SIGNALS FROM FANNY AND FREDDIE THAT THEY WERE READY TO BUY THESE LOANS IN BULK". For example, in speeches to the Mortgage Bankers Association in 2004, both Raines and Richard Syron -- the chairman, ..."made no bones about their interest in buying loans made to borrowers formerly considered the province of nonprime and other nice lenders". So I wondered, why did they do it? Why Did Fanny and Freddy provide the tools to feed the private sector subprime mortgage boom, without which the private sector would not have engaged in such risk? The answer: "The events in 2003 and 2004 had undermined the legitimacy of the GSEs. They could no longer claim to be competently or even honestly managed...It was easy to see at this point that their political risk was rising quickly"..(without political backing, the GSEs could not remain profitable)..."THE ONLY ELEMENT OF THEIR ACTIVITIES THAT HAD NOT COME UNDER CRITICISM WAS THEIR AFFORDABLE HOUSING MISSION, AND IT APPEARS THAT THE GSEs DETERMINED AT THIS POINT TO PLAY THE CARD AS A WAY OF SHORING UP THIER POLITICAL SUPPORT IN CONGRESS." By the way, the Bush Administration DID try to regulate Fanny and Freddy in 2004 and 2005, and the fact that it was a BAD BILL had nothing to do with the Republican Party. From the article: "The House Financial Services Committee developed a bill that was SO badly WEAKENED by GSE LOBBYING that the Bush Administration refused to support it. The Senate Banking Committee, then under Republican control, adopted much stronger legislation in 2005, but UNANIMOUS DEMOCRATIC OPPOSITION to the bill in the committe doomed it when it reached the floor. Without any significant Democratic support, debate could not be ended in the Senate, and the bill was never brought up for a vote. This was a crucial missed opportunity. The bill prohibited the GSEs from holding portfolios of mortgages and mortgage backed securities. That measure alone WOULD HAVE PREVENTED THE DISASTROUS INVESTMENT ACTIVITIES OF THE GSEs in the years that followed." But why were the Democrats so tight with the GSEs? answer: "The list of friends of Fannie and Freddie changed over time; while the GSEs enjoyed broad bi-partisan support in the 1990s, over the past decade, they have become increasingly aligned WITH THE DEMOCRATS. This shift in policital equilibrium was especially clear IN THE CONGRESSIONAL REACTION TO THE GSEs ACCOUNTING SCANDALS OF 2003 AND 2004"...."THE GSEs AND THEIR EMPLOYEES CONTRIBUTED MORE THAN 14.6 MILLION TO THE CAMPAIGN FUNDS OF DOZENS OF SENATORS AND REPRESENTATIVES, MOST OF THEM ON COMMITTEES THAT WERE IMPORTANT TO PRESERVING THE GSEs PRIVELAGES. (You can read more in the Benefits to Congress section of the article). Kim, since I am really trying to understand this whole situation, please point to the legislation during the Bush Administration (supported by the Republican party) that expanded HUDs affordable housing goals. It is my understanding that this expansion was slated to happen automatically, every four years based on the 1995 legislation enacted by Clinton. The American Dream Downpayment Act you mentioned once before did not seem to have anything to do with compelling Fannie and Freddie to provide higher affordable housing numbers, although Fanny and Freddy did donate some to the cause. Here is the last few sentences from the article I wanted you to read, summing up it's conclusion: "Unfortunately, the sad saga of Fannie and Freddie is not over. Some of their supporters in Congress prefer to blame the Fannie and Freddie mess on deregulation or private market failure, PERHAPS HOPING TO USE SUCH FALSE DIAGNOSIS TO LAY THE GROUNDWORK FOR REVIVING THE GSEs for EXTRA CONSTITUTIONAL EXPENDITURE AND POLITICAL BENEFIT IN THE FUTURE." • Kim says: I got the information about Bush's revised HUD goals from this article: http://www.washingtonpost.com/wp-dyn/content/article/2008/06/09/AR2008060902626_2.html Which states: "But by 2004, when HUD next revised the goals, Freddie and Fannie's purchases of subprime-backed securities had risen tenfold. Foreclosure rates also were rising. "That year, President Bush's HUD ratcheted up the main affordable-housing goal over the next four years, from 50 percent to 56 percent. John C. Weicher, then an assistant HUD secretary, said the institutions lagged behind even the private market and "must do more."" And, I believe this White House Press Release is the verification of President Bush's involvement: http://www.whitehouse.gov/news/releases/2004/09/20040902-5.html I agree that Fannie and Freddie should have been reigned in (part of the increased oversight I have been arguing for) and I am not defending Fannie, Freddie or their supporters, but this was a Republican Congress and a Republican President and it did not even come up for a vote in the Senate. Hard to blame it entirely on the Democrats. A few more questions for you: 1. What was the real reason that Fannie and Freddie wanted to invest in sub-prime mortgages? To satisfy governmental desires for affordable housing or to make money for themselves and their shareholders? The second is the more practical answer although the first is the more political answer. I tend to think that the players were interested in making money and they used affordable housing as an excuse, duping the politicians into believing they were doing it for more altruistic reasons. But, keep in mind that Congress allowing such investment was, in reality, a form of deregulation - allowing Fannie and Freddie to invest as they wished. As your article says: "This Outlook tells the disheartening story of how the GSEs sold out the taxpayers by taking huge risks on substandard mortgages, primarily to retain congressional support for the WEAK REGULATION AND SPECIAL BENEFITS THAT FUELED THEIR HIGH PROFITS AND PROFLIGATE EXECUTIVE COMPENSATION." If true, Fannie and Freddie were investing in these risky investments, not because Bush and Congress wanted them to, but because they thought they could make a buck doing it. 2. Could Fannie and Freddie have invested in subprime mortgages if the bonds had not been rated AAA? Probably not. Congress or HUD likely would not have allowed that, but even if it did, Fannie and Freddie would have paid less for lesser-rated bonds (closer to true value?) and the resulting fallout would have been less. 3. Is there anything wrong with affordable housing initiatives which do not incorporate unduly risky lending? I don't think affordable housing lending automatically means risky lending. With proper oversight, I would think that the benefits outweigh the risks. You, of course, would think otherwise. 4. Is this the fault of the credit-rating agencies (Moody's, etc.) and/or the credit-swap default sellers (A.I.G., etc.) which convinced purchasers (Fannie, Freddie, Bear Stearns, Lehman Brothers, etc.), Congress and the administration that these bonds were not risky? Or is it the fault of the ultimate purchaser, Congress and the administration for allowing themselves to be duped by the credit-rating agencies and credit-swap default sellers into believing that these bonds were less risky than they were? Caveat emptor. 5. If Fannie and Freddie had not been in the market would other private investors have purchased the MBS's? Remember, that they appeared to be pretty good bargains - AAA-rated and "insured." Since Fannie and Freddie were really in it for the money, I tend to think that others would have entered the market in the absence of Fannie and Freddie. Some were already in the market. • Concerned says: Hi Kim, Good conversation. My thoughts on your questions: 1.) YES! That is exactly what I have been saying all along. Fannie and Freddie WERE investing (or rather, PURCHASING) subprime loans because it was PROFITABLE FOR THEM. But what you are missing here is that Congress, particularly the Democratic Congressmen, WANTED to help the GSEs avoid the proposed Republican regulation of 2004-2005, because it would hurt the profitablility of Fannie and Freddie, AND because these Democratic senators, lobbyists(including Barack Obama during his involvement with ACORN early on and in later years as a senator) and other representatives were receiving MILLIONS in contribututions from Fannie and Freddie. That's why the Democrats UNANIMOUSLY voted against the proposed regulation back in 2005, and without their support, there really wasn't anything the Republicans could to to get the bill passed. 2. Yes, Fannie and Freddie COULD have PURCHASED the subprime loans regardless of rating, because of the legislation that was passed in 1995 which "failed to require that these loans conform to good lending practices". Again, refer to the article I pointed you to. 3. Actually, I agree with you on this point, but the problem is that the strange public/private structure of Fannie and Freddie allows them to abuse their privelages in the name of well-intentioned housing goals. To fix the problem, Fannie and Freddie would need to be either fully privatized or fully public, but not a hybrid, because the inherent conflict between their government mission and private ownership breeds corruption, and has allowed them to take huge risks on the backs of the taxpayers in the name of their government mission to increase affordable housing. 4. No. It was the fault of Freddie and Fannie. THEY are the primary organization that purchased subprime loans in bulk, and with the implicit backing of the Federal Government (ie..the taxpayers), credit rating organizations, and therefore, investors, percieved these investments to be safe. Fannie and Freddie did invest in in MBSs, but they also actually PURCHASED the subprime loans too - IN BULK. Actually PURCHASING the loans themselves had nothing to do with credit ratings of the MBSs. 5. NO. The main reason why lenders such as Countrywide entered the market was because they were able to mitigate risk by actually SELLING many of the subprime mortgages to Fannie and Freddie. Without that safety net, they would not have entered the marketplace for subprime loans. • Concerned says: Kim, I wanted to provide more on the answer to your question #2. From what I read, Fannie and Freddie, in their public reports, "used their own definition of subprime" to purposely understate their commitment to subprime loans. (They defined subprime as loans originated to people with FICO scores lower than 620, when the actual definition used by Bank lenders would include loans originated to people with FICO scores lower than 660. Therefore, Fanny and Freddie had purchased more subprime loans than they were letting on (those to people with FICO scores between 620 and 660). ...And if you want more info on how Fannie and Freddie adopted accounting practices that made it difficult to detect the size of their exposures to subprime loans, the detail is on page 5 of the "Last Trillion-Dollar Commitment" article that I referred you to. • Kim says: 1. You earlier stated that "If Freddy and Fanny had not been encouraged, and in some cases forced, in the first place, to increase home ownership by taking on these high risk loans, we wouldn't be in this mess." That doesn't sound like the profit motive to me. Now you say that you have always been talking about Fannie and Freddie being motivated by profit? Which is it? Did they invest in these risky loans because they were coerced into it or because they saw a way to profit from it? If profit was the motive, then Freddie and Fannie merely wanted the regulators to get out of the way and allow them to invest as they chose (can you say deregulation?) I have never said anything favorable about Fannie and Freddie and their friends in Congress. I just think there are indications that the proposed legislation was not very good such as A.E.I.'s opposition and the fact that it was not even voted on with a Republican Congress and Republican President. I also think that McCain is taking far too much credit for his involvement with this proposed legislation since he signed onto it very late in the process and when it's fate was largely known. 2. I think less than AAA investments would have brought higher scrutiny and Fannie would not have wanted that. So, as a practical matter, Fannie stuck with AAA-rated bonds so as not to make waves. 3. Amazing, we agree on something. 4. Ultimately I agree that the purchaser is responsible (caveat emptor = let the buyer beware). However, if these investments has not been AAA-rated and insured, they would have been treated much more skeptically. The incorrect credit ratings and insurance created a "false sense of security" (to use your phrase). When did Fannie and Freddie start purchasing sub-prime mortgages in bulk? My information is that that occurred between 2005 and 2007. 5. I was talking about the privately securitized mortgages (mortgage-backed securities), not individual sub-prime mortgages. Initially, Fannie and Freddie were not buying many of the sub-prime mortgages. Towards the end (2005 and after), well after Countrywide and others were in the market, they increased their purchases of sub-prime mortgages in large part due to the competition from private entities in other areas of the mortgage business. See this article: http://www.nytimes.com/2008/10/05/business/05fannie.html Given that competition, it is quite likely that private entities would have bought these securities even if Fannie and Freddie had not. • Concerned says: Kim, I think we are obviously talking in circles. I looked all over the place for information about the opposition to the proposed 2004-2005 legislation. Again, the article you referenced required a sign up, and I don't want to get spam, so I'm not going to sign up to read that. The information I found through my own research stated that the reason the Republicans would not support the proposed regulation that was originally proposed by their own party in 2004 was because the original bill was BADLY weakened by Fannie's and Freddie's Lobbyists. When the Republicans tried to pass stronger regulation in 2005, the Democrats unanimously opposed it, so it never got anywhere. To answer your question #1. The answer is BOTH. The ball was set into motion after Clinton's 1995 legislative changes. But, after Fannie and Freddy burned bridges with Congress (and in particular, the Republican Party) due to their accounting scandals in 2003-2004, they realized that they only way they would continue to be able to reach affordable housing goals AND remain profitable (ie..avoid regulation) would be to "buy" support from the Democratic Party by playing on their Liberal Heartstrings. Fanny and Freddy and the Democratic Party had a relationship of mutual benefit. Fanny and Freddy gave millions of dollars to support the re-election efforts of the Democratic Party, and in return, the Democratic Party made sure that any attempts to regulate the organizations would not be passed in Congress. Once the scandals were behind them and the regulatory measures were shot down by the Democratic Party, Fannie and Freddie used their power (granted to them by the legislative changes of 1995) to ENCOURAGE subprime production in the private sector. They did this by expressing interest in PURCHASING "loans made to borrowers formerly considered the province of nonprime and other niche lenders". "According to their own reports, purchases of these mortgages and MBSs increased substantially between 2005 and 2007". They didn't do this BECAUSE of competition in the private markets...They did it to ENCOURAGE production in the private markets. Why? Because they could PROFIT from packaging the subprime mortgages they purchased (from private production)and turning these subprime mortgages into MBSs. The percieved safety of these government "insured" securities is why production in the subprime lending industry increased so much between 2005 and 2007. If Fannie and Freddie hadn't been able to purchase the subprime mortgages, thanks to regulation that was shot down by the Democratic Party, then we wouldn't be in this mess today. • Kim says: Why don't you just blame FDR for creating Fannie Mae to begin with? That has about as much connection to Fannie's and Freddie's actions from 2005 to 2007 as Clinton's 1995 changes. Far too many things happened in the interim to consider Clinton's changes to be a proximate cause. And, if it was such a horrible decision why wasn't it scaled back by Bush. Oh, that's right, it was scaled back - by Clinton - only to be later expanded again by Bush. Give me a break. According to the last article I referenced, which you either did not read or chose to ignore, Fannie and Freddie were concerned about their business because of the competition in the industry. They wanted to expand their business (and conveniently comply with Congress's demands). Again I cite: http://www.nytimes.com/2008/10/05/business/05fannie.html "But by the time Mr. Mudd became Fannie • Kim says: Since you can't open the A.E.I. report without a password, try this one instead: http://www.presidency.ucsb.edu/ws/index.php?pid=24851 Seems that the President also opposed the bill because it was not strong enough. I haven't been able to find anything about supposed weakening of the bill by Fannie and Freddie lobbyists. • Concerned says: Kim, I actually read that article several days ago myself. First of all, I don't think the NY Times is exactly an unbiased source of information. The AEI article I challenged you to read earlier provides much better, and in my opinion, accurate, detail. Plus, the NY Times article completely glossed over the details of the scandal hearings and the calls from the Republican Party for tighter regulation on Fannie and Freddie. The NY Times article brings up a big question in my mind: If the competitors, such as Countrywide, could continue to do SO well without Fannie and Freddie, then why would they pressure Fannie and Freddie to purchase their loans? This doesn't make any sense to me. Countrywide NEEDED Fannie and Freddie to purchase their riskier loans, so that they wouldn't have to worry about the risk. To remain profitable in the wake of the 2004-2005 accounting scandals, Fannie and Freddie CHOSE to abuse their government privelages and purchase subprime loans from entities such as Countrywide so that they could profit from turning those loans into MBSs...and all of this activity was praised under the 'guise of altruism. I don't remember saying anything about supporting "deregulation" of Wall Street in any of my posts above. I am not the type of person to support government regulation of free markets, but when necessary, to control greed, regulation is sometimes necessary, and I am OK with that... as long as it doesn't interfere with the ability of markets to perform. In all of the documentation that I have read, I can't find one piece of legislation involving "deregulation" of Wall Street that happened in the time between 1995 and 2008, so I really don't understand what you mean when you say that the "deregulation of Wall Street" is what has caused the economic crisis. Perhaps there may have been a lack of regulation over Wall Street which has existed throughout many different Presidencies, but I don't know of any examples where the Bush Administration specifically "deregulated" Wall Street during the subprime lending crisis. The Clinton changes of 1995 are very relevant in this whole matter because they: 1.) Required banks & Fannie & Freddie to meet strict numerical goals for affordable housing. These goals were required to be re-visted every four years. This is the kind of regulation I disagree with, because it attempts to artificially manipulate markets in a way that could be detrimental to a business's ability to function properly. 2.) Ruled that the GSEs could get affordable housing credit for purchasing subprime loans. (which undermined earlier, stricter lending practices). 3.) Failed to require that these purchased loans conform to good lending practices. Like I've discussed in several earlier posts, the Bush Administration tried to place restrictions on the portfolios of subprime mortgages and MBSs held by the GSEs, but the legislation never passed the Senate in 2005..not because Republicans didn't want to support the bill, but because Democrats unanimously opposed the bill. • Concerned says: Kim, Read the second paragraph of "The Last Trillion-Dollar Commitment" under the section named "The Accounting Scandals". http://www.aei.org/publications/pubID.28704/pub_detail.asp It goes over very specifically, the details of the proposed Republican legislation and the Democratic opposition of the bill. • Kim says: Read it and weep: http://bigpicture.typepad.com/comments/2008/10/fannie-mae-and.html Game, set and match. • Kim says: Why do you consistently ignore crucial facts? THE PRESIDENT OPPOSED THE GSE OVERSIGHT BILL THAT PASSED THE HOUSE AND WAS BEFORE THE SENATE. http://www.presidency.ucsb.edu/ws/index.php?pid=24851 Maybe "The Last Trillion-Dollar Commitment" isn't quite as unbiased as you believe it to be since they don't include that minor detail in the description of why the bill failed. The bill failed because it did not have enough support in either party. • Concerned says: Kim, Think what you wish. Your read it and weep article makes a lot of good points, but His final point is wrong. If the CRA affordable housing standards had not been changed in 1995 (again, slated to be enhansed every four years, which also happened to be when Bush was in office), then Congress would not have pushed for more lending to low income borrowers. So, the CRA does play a part in this mess. I am not ignoring crucial facts. In 2004, Republicans wouldn't agree to pass legislation, because the bill was weakened by lobbyists. In 2005, they couldn't pass legislation due to unanimous opposition by the Democratic party (a point you seem to continuously ignore). This was another crucial, pivotal point in the whole mess, because had regulation occurred at this point in time, there would have been checks and balances in low income lending, and the effects on the economy would have been greatly reduced. Yes, competition did play a part, but not to the extent that the crisis was completely the fault of the private enterprises. The mutual dealings between private and public entities exacerbated the problems. Without the implicit guarantees of a government bailout, private markets would have failed long before 2008, because private entities can't succeed when there is more money going out than coming in. Let's just agree to disagree. • Kim says: Yeah, I know. The Republican talking point is that this was all caused by Democrats. What a crock!!!! Even assuming that Clinton's 1995 changes in the law caused this (a fact I clearly dispute), why did the Republicans allow those changes to remain in place once they were in control of the Congress and the Presidency? Why, instead of scaling them back, did they expand the programs? Why did the President and the A.E.I. oppose the bill that you are so critical of the Democrats for failing to pass? And, most importantly in my mind, why didn't the government put reasonable regulations in place to control this out-of-control industry? As I have said numerous times, Fannie and Freddie should have been reigned in, but both parties deserve blame for not doing so. That said, even if the bill had been passed, it is VERY unclear that the change would have solved the problem. It is quite likely that the cat was already out of the bag. You can put your head back in the sand now. • Kim says: Wow. Have you ever worked with legislators to try to change bad legislation? I have...and it's extremely difficult to do. The Bush administration was required to have HUD review equal opportunity housing requirements, because that's what the 1995 legislation required. If the administration had tried to repeal the 1995 changes, I am sure that they would have met up with a lot of strict opposition from lobbyists and those receiving big contributions from Fannie and Freddie to keep the status quo. That aside, I've already mentioned to you that Bush is not a Fiscal Conservative. He supported affordable housing initiatives just like prior administrations did, and I'm sure there was a lot of pressure from powerful groups to expand Clinton's 1995 initiatives. That doesn't mean either Clinton's actions or Bush's actions with regards to low income lending initiatives were good for the economy. I've already told you that the President and A.E.I opposed the original 2004 bill was because it was much too watered down, and probably would not have had the effect that it was originally intended to. If you are a legislator with a cause, you don't pass weak legislation just for the hell of it...because it's much too difficult to change bad legislation once it is passed. That's why the Republicans in Congress tried to bring a regulatory bill back up again in the 2005 legislative session, but the second time, it had absolutely no Democratic Support. Without any Democratic support, it would have been impossible to pass the bill, and that's why it was never brought up for a vote in the Senate. I don't understand why you keep asking the same question over and over again. Why didn't the gov't place heavier regulations on the private industry? This is my theory. Fanny and Freddy had an awful lot of power, but as you said, they were losing quite a bit of their business to competitors that had figured out a way to tap into some of the profit being made on riskier loans. To compensate for that loss of business, Fannie and Freddie used the power granted to them by the 1995 regulatory changes to the CRA, which gave them the OK to purchase riskier loans in order to obtain affordable housing credits, as an excuse to profit from purchasing these loans from their competitors, thus mitigating some of their losses to their competition. Fanny and Freddy NEEDED their competitors to sell subprime and other riskier loans so that they could profit by purchasing these loans and turning them into MBSs . It was a way to gain back some of those lost profits. I'm sure there would have been a lot of opposition from both political parties for private industry regulation....From the Democratic side because they would have lost political support from Fannie and Freddie if they damaged the subprime market activity with regulation, and from the Republican side, because Republicans generally oppose private industry regulation. If the bill had passed, Fannie and Freddie would have had much tighter regulations on they types of mortgages they would have been able to hold in their portfolios. Without the ability to sell subprimes and other riskier loans to Fannie and Freddie, the private markets would have lost a very important partner, and they would not have been able to continue to thrive in the subprime industry. Remember, Countrywide practically begged Fannie and Freddie to purchase their riskier loans. Why? Because they needed Fannie and Freddie just as much as Fannie and Freddie needed them. • Concerned says: Oops..The above post was from Concerned...not Kim...Guess I got carried away with my typing. • Concerned says: Oops..The above post was from Concerned...not Kim...Guess I got carried away with my typing. • Anonymous says: aseks.com • Anonymous says: aseks.com • Kim says: (My last 2 posts have not appeared so I will try again. I apologize if more than one post eventually shows up in response to Concerned's last comment.) It seems as if you either ignore the facts, change the facts to suit your needs or create facts in order to support your preconceived notions. Clinton's 1995 changes were REGULATORY not LEGISLATIVE. You do understand the difference, right? Apparently not. There is no need to go to Congress for REGULATORY changes such as those that happened with regard to the CRA in 1995 and again in 2005 or those that happened to the HUD affordable housing standards in 1995, 2000 and 2004. President Bush and the A.E.I. opposed the 2005 bill to change oversight of Fannie and Freddie. They may have also opposed the 2004 legislation, but the citation I provide and which you apparently DID NOT READ was with regard to Bush's opposition to the 2005 legislation. The rest of your last post is merely speculation, i.e. made up facts. • Concerned says: One of the things that I like about these kind of opinion forums is that they teach me so much. Through the comments of Kim and others, I have been inspired to study more about this issue. Despite your nastiness and accusations, Kim, I have gained a lot of knowledge from reading your posts and ALL of the information in the links you have provided, so for that, I am thankful. I do admit that I was unaware the CRA was regulatory as opposed to legislative, but aside from that, I think the main issue here is whether or not the idealism of "home-ownership" despite one's ability to truely afford it, and the power that our government has used to encourage it, has had a negative effect on today's economy, and I still think it very much has. My core belief system has not been changed by the information posted here. I still believe both the Clinton adminsistration AND the Bush Admistration were and have been fiscally irresponsible in the decisions that have been made to facilitate home ownership in America. I think Barack Obama would be more likely, even moreso than Clinton or Bush, to use his power to further facilitate this cause and other socially liberal ideals, regardless of the ultimate effects on our economy, and that frightens me. I found the following link which details each and every legislator's opinions on the FEDERAL HOUSING FINANCE REFORM ACT OF 2005. http://www.govtrack.us/congress/record.xpd?id=109-h20051026-46. It seems to me that those who opposed regulation, which would limit systemic risk to our economy by providing for a mandatory reduction of Fannie and Freddie's mortgage portfolio holdings, were putting the priority of equality in home ownership (a socially liberal ideal) above the systemic risk to the economy, and that, I believe is wrong. Kim, you are obviously very bitter about capitalism, and you have also posted plenty of OPINIONS on this forum. That's what these forums are for. I see nothing wrong with my posting of opinions from the other side of the fence. After all, debates are the spice of life. I think our main disagreement is whether or not the private markets could have had enough power to do this kind of damage to our economy on their own. After everything I've read, I still think it would not have been possible for the private markets to create this kind of damage without the help of Fannie and Freddie. Since private markets (at least back in 2005) did not have the implicit guarantees of a Federal bailout like Fannie and Freddie did, they would have failed miserably in the subprime markets long before 2008 without the ability to sell their riskier loans to Fannie and Freddie on the secondary market. I am going to get a bit off the subject here, but this speaks to the further economic destruction headed our way if leaders like Barack Obama are put into power. I happen to be one of those small business owners who makes just over Barack Obama's limit for tax increases, and I think there are more of us out there than Mr. Obama would like to admit to the American people. I am a small employer with 4 employees. If my taxes are increased as Barack Obama has promised, I may be forced to lay off two of my employees, and they will lose their employer sponsored health benefits. What good is that going to do for the Federal Government's income tax revenues? The additional money the Gov't will make from my income taxes will be cancelled out by the lost income taxes from the people I will have to lay off...Plus, if the folks I have to lay off end up having difficulty finding other employment (due to higher tax burdens on all employers), the government will then have more responsibility to take care of them in terms of basic needs like food and healthcare. This is a backwards way to handle the economy, and I will not support it. All of my adult life, I have lived modestly in a small track home, in the hopes that I could retire early. I put a very large amount of my income into savings and investments for retirement. But now, because other people couldn't restrain themselves and decided to live outside of their means, I probably will not be able to retire early, AND, I will be forced to give them a good part of my income, in the form of taxes, so they can have the luxury of owning (as opposed to renting) their nice homes, which are probably even nicer than mine, even though they never saved for it. For this, I blame lack of personal responsibility and liberal idealism. • Kim says: I am going to call a truce. But, to clarify a few points, I am much more of a capitalist than you might think. I am not bitter about capitalism. I am bitter about unfettered capitalism. I am bitter that my kids' college savings is very much at risk (right when they need it) and that my retirement funds are being depleted. I think you are fooling yourself if you believe that private enterprise could not have done this without the government's help. I think the overwhelming evidence is that this was caused by private enterprise running amok because there was essentially no government oversight. I think the blaming of the Democrats, the blaming of the CRA and the blaming of the HUD affordable housing initiatives is completely off-base - there is plenty of blame to go around, including Alan Greenspan and the foolish people who were talked into these risky mortgages. Fannie and Freddie contributed to the mess precisely because they were acting more like businesses than they were government agencies - they were trying, first and foremost, to maximize their short-term profits. But, Congress looked the other way because they thought Fannie and Freddie were doing good for society (and, perhaps because some had been bought off). The other Wall Street firms which were actually taking business away from Fannie and Freddie at the height of the housing bubble - a fact which argues against your thought that private enterprise could not have done this alone. I believe that more oversight was called for - not just for Fannie and Freddie but for every firm deemed "too big to fail" or for any firm inextricably intertwined with the companies deemed "too big to fail." If the MBS's, CDO's, CDS's and credit-rating agencies had been under even minimal scrutiny, I don't think we would have the crisis we have today. What a wild day on Wall Street. Is there a bottom in sight? • Concerned says: I certainly hope there is a bottom. I still don't understand how you can think that just because private enterprise was able to compete with Freddy and Fanny means that they could have, as a group of competitors, single-handledly and without government encouragement caused this crisis on their own. Fanny and Freddy owned half of the market while all of the other private enterprises combined owned the other half, all operating as separate entities. If even one or two of them had been allowed to fail, such as Countrywide, by refusing to allow Fannie and Freddie to purchase their risky loans back in '05, then others would seen the errors of their ways and put in provisions to prevent further damage without the help of the government. That's how free markets work. Perhaps regulation in the private markets was called for, but I still don't think things would have escalated to where they are today if it weren't for the underlying ideals pushing for social equality that poisoned the housing market, and for the buying power of Fannie and Freddie. Truce. • Kim says: Short answer - the market did not need Fannie and Freddie in order to go on a sub-prime lending orgy - the market was doing it on its own before 2005 with limited help from Fannie and Freddie. Fannie's aggressive move into the market in 2005 was to recapture market share from private enterprise - at the end of the bubble. I believe that the facts will show that it was those earlier mortgages which resulted in the meltdown because it was those earlier mortgages which needed to be refinanced since their rates were adjusting after 2 or 3 years according to their terms. • Kim says: For more evidence that this was started by Wall Street well before Fannie's post-2005 buying binge: http://scientopia.org/blogs/authority/2008/09/the-subprime-mortgage-crisis-and-the-community-reinvestment-act • Kim says: (Correction) For more evidence that this was started by Wall Street well before Fannie's post-2005 buying binge: http://news.yahoo.com/s/bw/20081010/bs_bw/0842b4104036827981 • The Federal Reserve disagrees with this article's premeses: http://www.federalreserve.gov/newsevents/speech/Bernanke20070330a.htm • Kim says: Foe even more opinion that the CRA did not cause this: http://www.mcclatchydc.com/251/story/53802.html In what way does Bernanke's speech disagree with this article's premise? The most pertinent statement seems to be: "However, recent problems in mortgage markets illustrate that an underlying assumption of the CRA--that more lending equals better outcomes for local communities may not always hold." Saying that not all lending is good lending is different than blaming the crisis on the CRA. Lending in under-served areas is not necessarily risky lending as is shown by most of the history of the CRA. • Concerned says: Kim, I thought we had a truce? I can totally understand where you are coming from, and there is no doubt that private entities were the initiators of subprime lending, but just because they were the initiators does not prove that they would have succeeded in the longrun without Freddie and Fannie. We need to take a look back into history and try to figure out why private entities such as non-CRA regulated banks began subprime lending in the first place. Why? Because they discovered a niche for it that had the potential to be profitable. Why was there a market for it? Because there were some CRA-regulated banks that found a way to avoid the risk and still meet thier affordable housing requirements. How did they do it? They figured out how to sell the subprime and other riskier mortgages on the secondary market and avoid having to hold them in their own portfolios. Dumping off risk from one level to the next can only be profitable for so long. Sooner or later, the one's holding all of the risk will fail as forclosure rates increase. But, with Fannie and Freddie there to fall back on, failure in these markets was delayed until it reached "systemic economic crisis level". • Concerned says: From Bernanke's speech about the CRA that you posted earlier: "At its most successful, the CRA may have had a multiplier effect, supplementing its direct impact by stimulating new market-based, profit-driven economic activity in lower-income neighborhoods". • Kim says: Concerned-- Sorry. You said you didn't understand. I explained. I am not looking at who sold the mortgages (that was essentially all private), I am looking at who securitized the mortgages. Which pools of mortgages set off the crisis - those securitized by Fannie and Freddie or the riskier pools securitized by the private entitities? You are correct that, in the long run, the risk-takers (A.I.G., for example) would fail; however, because they were "too big to fail" we couldn't run the risk of allowing them to fail and taking down the financial system with them. There are two solutions - don't let entities get "too big to fail" or put reasonable regulations in place to minimize the risk of failure. • Kim says: "At its most successful, the CRA may have had a multiplier effect, supplementing its direct impact by stimulating new market-based, profit-driven economic activity in lower-income neighborhoods". And, this is a bad thing? The CRA was developed to deal with redlining. The CRA may have led the way to "market-based, profit-driven economic activity" in previously redlined areas. Perhaps the CRA was becoming irrelevant - if the quality of the lending was good. Wasn't that the goal? • Concerned says: Kim, I see your point. But let's not forget that the CRA was a catalyst in all of this. Since subprime lending, by nature, is so risky, it's hard for me to believe that the private markets (both primary and secondary) would have ever become involved in the first place, unless that were "shown" how to be successful in these markets by the example of CRA-regulated banks that used ingenuity to figure out how to avoid risk while still meeting their affordable housing requirements. The markets for subprime, Alt-A and other riskier loans were created by the affordable housing initiatives of our Federal Government. Private entities used innovation to create profit off of these markets, but the "low-income lending markets" would not have existed in the first place had it not been for the underlying push from our Federal Government for equality in home ownership. • Concerned says: And Yes, this is a bad thing, because the quality of the lending was not good, as obviously, we would not be in this mess if it was. Social programs like this and others typically do wind up hurting society more than helping with their severe unintended consequences. As I think I did agree with you before, some regulation to control the greed perhaps should have been put into place both in the private markets AND with Fannie and Freddie. But, what is absolutely disgusting here is that partisan politics has prevented both sides from doing what is best for the country. At this point, I am seeing serious mistakes made by both the Republican AND Democratic parties, and I am absolutely disgusted. • Kim says: "The markets for subprime, Alt-A and other riskier loans were created by the affordable housing initiatives of our Federal Government." Where did you get this information? Take a look at this: http://knowledge.wharton.upenn.edu/article.cfm?articleid=1901 "Subprime borrowers are typically described as people with poor credit who cannot get conventional loans -- people with spotty credit histories or low incomes. But not all subprime borrowers fit the mold. Some loans -- no one knows how many -- were made to people who could have qualified for conventional mortgages but were steered to subprime products by brokers seeking the higher-than-normal commissions these loans often paid. Other borrowers with good credit might have been drawn to subprime loans' low teaser rates. Some apparently used subprime loans to buy second homes or investment properties." Not all sub-prime borrowers had poor credit histories. Not all persons with poor credit histories fell within the CRA or affordable housing initiatives (different programs). Not all sub-prime borrowers had low incomes. The sub-prime market existed before they could be counted for CRA or affordable housing. The sub-prime market was created by private enterprise in the early 1990's and allowed to be used for CRA and affordable housing starting in 1995. The did not really take off until the early 200's. The sub-prime market was almost exclusively the realm of mortgage lenders not banks and thrifts. There are so many holes in your argument. • Kim says: But the CRA was not responsible for the quality of the lending being not as good. Private enterprise was. • Concerned says: I realize this, but these "innovative" subprime products were CREATED to tap into this "low income" market of potential home-buyers that the CRA created. Once the private investors realized they could profit from these products, it didn't take long for them to figure out ways to use the same products to tap into the "re-fi" market for middle income borrowers as well. Like I said before, I don't think that banks and other lending institutions would have looked for such a market on their own. In fact, they were so risk averse, that before the CRA was created, banks and other lending institutions avoided the low income markets. It took the CRA to bolster up a market for low-income home buyers. Otherwise, why was the CRA created in the first place? If these private markets could have figured it out on their own, as you say they could have, then why was there a need to create the CRA? • Kim says: In other words, Washington made Wall Street do this. Washington made Countrywide spend all that money on advertising. Washington made Countrywide make loans which were not in the spirit of the CRA. You really don't believe that do you? Do you really believe that Wall Street only entered this market because the CRA showed them the way? Or, do you believe that the lenders were eager to repeal the usury laws, which made sub-prime loans legal in the early 1990's? And that they were eager to make a profit on high-risk loans? And that they were especially eager to make a profit on high-risk loans once they could pass on the risk to private mortgage-securitizers? All the CRA did was show Wall Street that a profit could be made in these neighborhoods - they did the rest on their own. I would have preferred responsible lending in redlined areas - the only thing that the CRA promoted. Unfortunately, because Wall Street was not regulated, we ended up with bad lending in redlined areas. But, don't forget, Washington made them do this. They went into this kicking and screaming. Sounds like a little kid excusing his bad behavior. • Concerned says: No, I don't believe Washington MADE them do it, and I never said that. But Washington DID show them the way. Yes, OF COURSE they did it for the profit...that's the motivation that drives private enterprise. But, if they were never shown that profit could be made from these markets, they would not have done it on their own. • Concerned says: By the way, what I have stated above does not excuse the out of control greed. But, my whole point here is that the origins of this mess stem from idealism....The idealism that someone, who probably shouldn't own a home in the first place, has the right to own a home at someone else's expense. • Kim says: "But, if they were never shown that profit could be made from these markets, they would not have done it on their own." You don't really believe that, do you? What about the buy here-pay here lots? What about the payday loan places? • Kim says: And, I guess you must be a fan of redlining - unless, of course, private enterprise realizes that a profit can be made in those redlined neighborhoods. Oh, wait. That's what happened. It must only be bad if the government shows them. Bad, bad government. • Concerned says: The cost of a house requires a lot more risk to be taken on the part of the lender than a payday loan....especially when there is a possibility that the house can lose value. I'm not a fan of any kind of discrimination, but lenders were obviously avoiding certain demographic areas for a reason. From a marketing standpoint, lot's of different kinds of companies use demographics as a tool for determining profitability. If the market for low income home ownership was so profitable, one would think that the lenders would have caught onto that WITHOUT having to be "encouraged" by the CRA; that is what you are saying, correct? So then, why have a CRA? • Kim says: For the history of redlining, read this. http://en.wikipedia.org/wiki/Redlining Ironically it has its roots in government policy. Perhaps the CRA was necessary in order to overcome that prior mistake. I think private enterprise has now learned that certain types of lending in formerly redlined areas can be profitable - and the wrong types of lending in those same areas can be risky. As suggested earlier, perhaps there is no longer a need for a CRA. But that begs the point. The original question was what impact, if any, did the CRA have in this crisis. As far as I can tell, the only impact you have shown is that the CRA encouraged private enterprise to stop the practice of redlining which, in turn, awakened private enterprise to the possibility that making risky loans in previously redlined areas could be profitable - something which likely would have happened anyway, eventually. (I don't think Wall Street is as stupid as you apparently do. I think Wall Street would have figured out that there was a profit to be made in these neighborhoods even without the education allegedly provided by the CRA.) In other words, the CRA had very little impact. • Concerned says: So between 1934 and 1977 redlining was a common practice. ...Do you really believe that if the private lenders couldn't figure it out in 30 years they still would have eventually figured it out on their own? Honestly, I don't think there was anything to "figure out". Fannie and Freddie, in cooperation with the Banks that were regulated by the CRA "Securitized" loans in order to ensure that banks could meet thier goals without having to take on too much risk. Private, non-CRA lenders saw what they were doing, realized it could work in terms of profitability and followed suit. Without the example, these lenders would have continued to avoid neighborhoods seen as too risky. Think like a businessman. Are you going to loan money to someone who has a high risk of foreclosure in a run-down neighborhood where housing values are not inflating? I disagree that the CRA had little impact. • Concerned says: To continue from above... However, I do agree with you Kim, that obviously, some regulation was needed to prevent "out of control" greed. I think, in America, most regulators agree that it is generally best to allow private markets to thrive or fail on their own, but in hindsight, it is obvious that careful oversight was needed to make sure that the impact of the CRA did what it was intended to do without propogating the mess that we are now in. Unfortunately, regulators both on the Republican and Democratic side of Washington failed to have the foresight necessary to prevent today's crisis. On a positive note, it looks we are seeing some positive impact from Washington's bi-partisan efforts to undo the damage. I hope that our future president will continue to realize the importance of bi-partisan cooperation, so that we can get away from the one-sided politics of the past few years! • Kim says: "Think like a businessman. Are you going to loan money to someone who has a high risk of foreclosure in a run-down neighborhood where housing values are not inflating?" I bet they loan in these neighborhoods in the future now that they know that a profit can be made there - they'll just be more careful about it since it won't be as easy to pass on the risk. Redlined neighborhoods are not necessarily run-down and residents of redlined neighborhoods are not necessarily high risk. They were just assumed to be. The history of the CRA shows that credit could safely be given in redlined neighborhoods. Thus the reason for the CRA to begin with. Unduly risky lending was not supposed to qualify for CRA compliance. And, there are HUGE differences between the MBS's that Fannie and Freddie securitized and the ones securitized by private enterprise - the private ones contained riskier mortgages and were not implicitly guaranteed by the government (until now, perhaps). It wasn't the Fannie and Freddie securitized mortgages that created this problem, it was the privately securitized mortgages which did. It was private enterprise (not Fannie and Freddie) which obscured the differences and sold the privately securitized mortages as if they were essentially equal to those securitized by Fannie and Freddie, by AAA-ratings and insurance. And, it was private enterprise (along with Fannie and Freddie) which eagerly bought them up so long as housing prices were going up because it was good for the bottom line (in the short run). • Concerned says: Kim, You are just not getting my point at all. If you are a businessman, and you ASSUME that a particular zipcode or geographic area is too risky to do business in, then you are going to avoid doing business in that area. Period. It doesn't matter that some of the neighborhoods were not run down or that some of the people in those neighborhoods had good credit. It was the PERCIEVED risk alone that prevented banks from making a business investment in that area. Therefore, the CRA WAS NEEDED to promote business in that area. It took the CRA to get banks to start lending in those areas. Therefore, the CRA DID have an impact. The proof is that it took over 30 years for private banks to start lending in those areas. If they could have figured it out on their own, then we wouldn't have needed a CRA. It doesn't matter that the securitized loans that Fannie and Freddie purchased were Prime loans and the securitized loans that the private entities purchased were subprime. The private lenders did not learn about "Securitizing" any kind of loans until they saw Fannie and Freddie doing it. Therefore, the actions of the Federal Government DID have an impact on the future of lending in America. To say that the CRA had no impact in all of this is naive, just as I have submitted to you that to say regulation in the private markets was not necessary is also naive. • Concerned says: Continued from above: "I bet they loan in these neighborhoods in the future now that they know that a profit can be made there - they'll just be more careful about it since it won't be as easy to pass on the risk." My response to your quote above. YES! That's the beauty of private markets. They are self-regulating! That's why I prefer to avoid government regulation wherever possible...because it usually tends to lead to a lot of unintended consequences. Just imagine if "redlining" had not been enforced or practiced by the Federal Government in the first place back in 1934. Where might we be today? • Kim says: I understand your point. I just don't agree. Just as you don't want to agree with my point. You want businesses to wallow in their ignorance - to continue believing that their assumptions regarding lending in particular areas are valid. You apparently think redlining has validity and have no problem with them continuing the practice, if that is what Wall Street wants to do. I don't think redlining is valid and think that businesses would have eventually figured that out, with or without the CRA - it just would have taken longer without the CRA. I also think the evidence is abundantly clear that the businesses went far beyond the CRA by offering much riskier products that were far more likely to fail than those offered for CRA compliance. That was done because of the availability of private securitization which had absolutely nothing to do with the CRA - and these loans did not qualify for Fannie or Freddie securitization. Thus, if the businesses learned anything from the CRA, they learned the wrong things. Risky lending in under-served areas was specifically not to be counted for CRA compliance - the businesses came up with that on their own. (Some sub-prime lending is riskier than other sub-prime lending, and the businesses engaged in the riskier sub-prime lending.) How is it that the businesses misreading the successes of the CRA and going beyond the mandates of the CRA is the fault of the CRA? • KIm says: By the way, I don't think I ever said that the CRA had no impact. The New Deal had some impact. Causation is a little different than impact. Sure the CRA had impact upon this crisis, just not a major impact in my opinion. I am saying that there were many other things that had far more immediate impact upon this crisis than the CRA. • Concerned says: Kim, I told you that I HAVE come to agree with your point that there probably was a need for regulation of the private markets somewhere along the way. Of COURSE businesses went far and beyond the CRA. It was PROFITABLE for them. If you were shown a way, as a business leader, how to increase profits, wouldn't you do so as well? But would they have ever entered the market for low income home ownership without learning about "Securitization" from Fannie and Freddie? I doubt it. There would NOT have been a need for them to do so, and without a need or any foreseeable advantage to doing so, it wouldn't have ever happened. They were successful enough doing business with low risk clientelle. I really don't think any lender, back 1930's or even in the 1970's would have had any reason to look for business in percieved, high-risk, areas. I am a business owner. I don't look for business in areas where I think my costs will be greater than my income. That's just common sense, and there's nothing evil or discriminatory about that. This statement that you made is interesting to me: "I don't think redlining is valid and think that businesses would have eventually figured that out, with or without the CRA - it just would have taken longer without the CRA." I mean, don't you think 30 years of "redlining" was plenty of time for private banks to "figure it out"? Do you really think, if the CRA wouldn't have gotten involved, that lenders would have just happily gone into neighborhoods looking to market loans to people that they thought would be at high risk for foreclosure? Before the CRA, lenders held loans on their own books. They didn't even know about Securitization, and they didn't need to. It wasn't something that ANY lender would have ever needed to do had it not been for affordable housing requirements being imposed on them. I am NOT in favor of redlining or any other kind of discrimination. At the same time, however, I am not in favor of governments telling private businesses where and who they must do business with. I think business owners are generally smart enough to figure out what they need to do to remain profitable, and what they need to do to avoid losing profits. If redlining was occurring, it was probably happening due to the 1934 regulation you pointed out to me. Perhaps some lenders purposely discriminated, but my guess is that their superiors, based on that 1934 regulation, had already outlined areas where lending would bring them the most profits vs. areas where lending would be the least profitable for their business. Personally, I don't think that non-CRA lenders, in the beginning, looked for ways to exploit money from unwary borrowers. They were SHOWN by Fannie and Freddie that "Securitization" of loans (ANY kind of loan) can reduce risk and increase profits, and that's how they discovered that they could be profitable doing business with low income borrowers. Innovation, such as "Securitization of Loans" or any kind of innovation, occurs when a NEED is identified. Prior to the CRA, there wasn't a need to "Securitize" loans, because there WASN'T a need to pass on risk. That's why I think, without the CRA, lenders would have never started securitizing loans to secondary markets in the first place. That said, once private lenders did discover how to become profitable lending to high risk individuals, things got out of control. This is where I DO agree with you that regulation was needed to prevent unwary borrowers from being taken advantage of. Regardless of what you may wish to believe, there is some causation involved here with the CRA....just as there is causation involved with the lack of regulation. • Kim says: C'mon. Get real. Securitization is used for more than mortgages and it is used for more than just passing on risk: http://en.wikipedia.org/wiki/Securitization "Securitization is a structured finance process, which involves pooling and repackaging of cash flow producing financial assets into securities that are then sold to investors. The name "securitization" is derived from the fact that the form of financial instruments used to obtain funds from the investors are securities. "All assets can be securitized so long as they are associated with cash flow. Hence, the securities which are the outcome of securitization processes are termed asset-backed securities (ABS). From this perspective, securitization could also be defined as a financial process leading to an emission of ABS. "Securitization often utilizes a special purpose vehicle (SPV), alternatively known as a special purpose entity (SPE) or special purpose company (SPC), in order to reduce the risk of bankruptcy and thereby obtain lower interest rates from potential lenders. A credit derivative is also generally used to change the credit quality of the underlying portfolio so that it will be acceptable to the final investors. "Securitization has evolved from tentative beginnings in the late 1970s to a vital funding source with an estimated total aggregate outstanding of8.06 trillion (as of the end of 2005, by the Bond Market Association) and new issuance of 3.07 trillion in 2005 in the U.S. markets alone." This was a well-known financial product for all sorts of assets starting in the 1970's. And it is not just a product for risky assets. Wall Street did not need Fannie and Freddie or the CRA to show them the way. Wall Street already knew the way. Wall Street showed Fannie and Freddie the way. But Fannie and Freddie largely had the prime mortgage market sewn up. So Wall Street could not really get into the securitized mortgage market until there was a large pool of mortgages which Fannie and Freddie could not securitize - the sub-prime mortgages. But, first the usury laws had to be repealed. Then as the sub-prime mortgage market grew, Wall Street could begin securitization of sub-prime mortgages, feeding even more sub-prime mortgages. But, it really took off when Wall Street was able to get AAA-ratings and insurance on these securitized mortgages so that they looked as risk-free as the Fannie and Freddie mortgages. Yep, the Fannie, Freddie and the CRA taught Wall Street everything it knows about securitization of assets. Got any more fantasies? • Kim says: I have to correct myself. Upon re-reading the Wikipedia article cited above, the first securitization was of mortgages and was instituted by HUD (Ginnie Mae, instead of Fannie Mae or Freddie Mac). However, according to this article, it was an idea of the investment bankers in order to attract investors. So, while HUD created the original mortgage-backed security it was an invention of Wall Street. Wall Street showed the way. Did you really think that HUD could have come up with that on its own? "Asset securitization began with the structured financing of mortgage pools in the 1970s. For decades before that, banks were essentially portfolio lenders; they held loans until they matured or were paid off. These loans were funded principally by deposits, and sometimes by debt, which was a direct obligation of the bank (rather than a claim on specific assets). But after World War II, depository institutions simply could not keep pace with the rising demand for housing credit. Banks, as well as other financial intermediaries sensing a market opportunity, sought ways of increasing the sources of mortgage funding. To attract investors, investment bankers eventually developed an investment vehicle that isolated defined mortgage pools, segmented the credit risk, and structured the cash flows from the underlying loans. Although it took several years to develop efficient mortgage securitization structures, loan originators quickly realized the process was readily transferable to other types of loans as well."[7] In February 1970, the U.S. Department of Housing and Urban Development created the transaction using a mortgage-backed security." • Ginger Yellow says: ". That's why I think, without the CRA, lenders would have never started securitizing loans to secondary markets in the first place. " Which of course explains why there was until the credit crisis began a booming securitisation market all over the world, including in countries which forbid high risk mortgage lending. For God's sake, Fannie/Freddie MBS aren't even "proper" securitisations because they are explicitly guaranteed by their sponsors, so they would be useless as risk transfer. I don't understand this desperate need to find a single scapegoat for the housing crash. Housing crashes are one of the most common macro-economic events around, and they always have a multitude of contributing factors. • Kim says: The reason to fix blame is obvious. Blame it on the Democrats (despite the fact that the Republicans also pushed "affordable housing") so that Republicans can have an election advantage. Blame it on the poor (it seems logical even if the facts say otherwise) because the "deadbeats" are the root cause of so many problems in America. Blame it on government regulation so that we can continue with deregulation/non-regulation. Don't you know that government regulation and programs to help the disadvantaged are paths to socialism? They don't want to accept that deregulation policies and trickle-down economics have largely failed. Trickle-down has not occurred, the budget deficit has ballooned and deregulation/non-regulation (at least of those entities which are "too big to fail") has greatly contributed to the current economic meltdown. It's time for new economic policies, but I am not sure that anybody has a coherent economic theory that makes sense in this environment. Placing blame on the wrong causes will not help in the development of this new economic theory. • Concerned says: Kim - You are contradicting yourself with your arguments: You say: "This was a well-known financial product for all sorts of assets starting in the 1970's. And IT IS NOT JUST A PRODUCT FOR RISKY ASSETS." Wikipedia Says: "Securitization often utilizes a special purpose vehicle (SPV), alternatively known as a special purpose entity (SPE) or special purpose company (SPC), in order TO REDUCE THE RISK OF BANKRUPTCY" You say: "Wall Street did not need Fannie and Freddie or the CRA to show them the way. Wall Street already knew the way." Wikipedia Says: "Securitization has evolved from tentative beginnings in the late 1970s"....Hmmmm - interesting timing on that...isn't that right around when the original CRA was enacted by Carter? You say: "But Fannie and Freddie largely had the prime mortgage market sewn up. So Wall Street could not really get into the securitized mortgage market until there was a large pool of mortgages which Fannie and Freddie could not securitize - the sub-prime mortgages." What? I thought you said that Wall Street invented the subprime mortgage. Why would they have to wait for Fanny and Freddy? That makes no sense. Wikipedia Says: "To attract investors, investment bankers eventually developed an investment vehicle that isolated defined mortgage pools, segmented the credit risk, and structured the cash flows from the underlying loans" (I am using caps to different my answer from the quote - please don't interpret the caps as yelling). OF COURSE THEY NEEDED TO ATTRACT INVESTORS. THEY HAD TO, BECAUSE THEY WERE REQUIRED TO MEET SPECIFIC AFFORDABLE HOUSING GOALS, AND IF THEY DIDN'T FIGURE OUT HOW TO DO THAT WITHOUT REDUCING RISK, THEY WOULD HAVE BEEN IN BIG TROUBLE FINANCIALLY. SECURITIZATION WAS INVENTED TO HELP BANKERS MEET THEIR AFFORDABLE HOUSING GOALS. WITHOUT THE GOALS, THERE WOULD HAVE BEEN NO NEED TO SECURITIZE LOANS. HENCE, THAT IS WHY SECURITIZATION STARTED GAINING POPULARITY IN THE LATE 1970'S AFTER CARTER ENACTED THE CRA. Trickle down economics does work. There is plenty of evidence that tax revenues INCREASED as a result of the Bush tax cuts. But, the reason why were are in a huge deficit right now is because of out of control spending. When you spend more than you earn, you run a deficit. That's just common sense. Unfortunately, the Bush administration has had a spending problem. Obama will raise taxes, which will result in a reduction of total tax revenues earned by the government, PLUS he will increase spending...a recipe for disaster. McCain will reduce taxation, thereby increasing total tax revenues while at the same time reduce spending...this is what our economy needs. You don't increase tax revenues by increasing taxes on job creators, just as you don't increase sales in a department store by raising prices. It's the same concept. For the record, I blame both Democrates AND Republicans for our financial crisis. You seem to only blame Republicans....Who is partisan? • Concerned says: Continued from above: There is no desparate attempt here to find a single factor to blame the economic crisis on. As we have both agreed upon, lack of regulation, both on the private markets AND on Fannie and Freddie were likely contributors. But to truely learn from our mistakes, we need to look back into history and discover the ROOT cause of the problem..how it all began. If we don't do that, we can't prevent the problem from occurring again in the future. It is obvious to me that market responses to government policy are at the root of the problem. Governments need to be very careful about trying to manipulate markets in the name of societal equality. Carter's CRA had very good intentions, and worked well for a while, but it was a slippery slope, just waiting to be taken advantage of by activist groups and profiteers. Changes to the policy without regard to the consequences of market reaction led to corruption both publicly and privately. You cannot sit here, after all of this conversation, and say that the government's push for equality in homeownership had nothing to do with today's crisis. Just look at the timeline and it is obvious! I am not blaming only the Democrats. I am not blaming only the poor. I do blame irresponsible legislation and I do blame lack of personal responsibility. That goes for the poor as well as anyone who got themselves into a loan that was beyond their means. • Ginger Yellow says: "The reason to fix blame is obvious. Blame it on the Democrats (despite the fact that the Republicans also pushed "affordable housing") so that Republicans can have an election advantage." I see a similar mentality coming from the left as well, with different targets. But certainly the right have been worse for the obvious reason that the crisis seems to be benefitting Democrats politically, so they need to pin it on something that can be connected to them. You say: "This was a well-known financial product for all sorts of assets starting in the 1970's. And IT IS NOT JUST A PRODUCT FOR RISKY ASSETS." Wikipedia Says: "Securitization often utilizes a special purpose vehicle (SPV), alternatively known as a special purpose entity (SPE) or special purpose company (SPC), in order TO REDUCE THE RISK OF BANKRUPTCY" *sigh* The purpose of the SPV is to tie the risk of non-payment as close as possible to the performance of the assets themselves, rather than other factors such as the strength of the seller or inappropriate activities of the issuer. The risk of bankruptcy here is the risk that the issuer goes bankrupt, not the sponsor. SPVs have no employees, are tightly restricted in their activities by their terms of incorporation and so on. The riskiness of the assets has no bearing on the likelihood of bankruptcy, because the liabilities are explicitly tied to the assets. To the extent that the assets don't perform, the liabilities are written down. You say: "But Fannie and Freddie largely had the prime mortgage market sewn up. So Wall Street could not really get into the securitized mortgage market until there was a large pool of mortgages which Fannie and Freddie could not securitize - the sub-prime mortgages." What? I thought you said that Wall Street invented the subprime mortgage. Why would they have to wait for Fanny and Freddy? That makes no sense Nice reading skills. Kim's point was that until people started originating subprime mortgages en masse, there was no real motivation for mortgage securitisation because Fannie/Freddie could finance prime mortgages much more cheaply. In other words it was the fact that Fannie and Freddie couldn't fuel subprime, until 2005 anyway, that meant securitisation took off. This is absolutely true in the US. In Europe, there was much more prime mortgage securitisation because there is no Fannie/Freddie. Note that there is no CRA in the UK, yet there was also a subprime lending boom in the UK fuelled by securitisation. As for your comments about trickle down, they are a joke. Read some actual research on the subject, or if you want to be anecdotal just look at the headline tax revenue figures after the Reagan and Bush II cuts and the Reagan and Clinton increases. It's not even remotely controversial among economists who aren't paid by politicians or called Laffer (and even Laffer isn't as doctrinaire as you suggest). Hell, even Bush's former CEA chair, Greg Mankiw, agrees it's rubbish. Tax cuts recoup approximately 30% of their cost through increased private sector activity, while increases raise revenues by well over 50%. • Ginger Yellow says: Ah, sorry, screwed up the link. Here it is. • Ginger Yellow says: • Concerned says: The article you posted agrees that tax cuts for the rich pay for themselves. That's trickle down economics. According to the timelime, Securitization of loans began in the late 1970's. Please explain why it didn't happen earlier. Subprime lending became more popular in the mid 2000's, so that doesn't explain why securitization started. From what I have read, securitization of loans started becoming a trend in the late 70's. There had to be a reason why. IMO, it was to reduce risk, since banks were being required by the government to meet affordable housing goals, and they needed a way to reduce risk to meet these goals. Therefore, they securitized loans, rather than keeping the more risky mortgages on their own books. • Concerned says: Here is an article, with actual numbers, to disprove Ginger Yellow's statements that tax cuts do not result in additional revenue: http://www.heritage.org/research/taxes/bg2001.cfm "Critics often erroneously define supply-side economics as the belief that all tax cuts pay for themselves. They then cite tax cuts that have not fully paid for themselves as conclusive proof that supply-side economics has failed. However, supply-side economics never contended that all tax cuts pay for themselves. Rather the Laffer Curve[8] (upon which much of the supply-side theory is based) merely formalizes the common-sense observations that: 1.)Tax revenues depend on the tax base as well as the tax rate; 2.)Raising tax rates discourages the taxed behavior and therefore shrinks the tax base, offsetting some of the revenue gains; and 3.)Lowering tax rates encourages the taxed behav�ior and expands the tax base, offsetting some of the revenue loss." Click the above link to see actual numbers. • Concerned says: Ginger, in response to your statement: "In other words it was the fact that Fannie and Freddie couldn't fuel subprime, until 2005 anyway, that meant securitisation took off." Kim's main assertion is, if Fannie and Freddie and the CRA never existed, private lenders would have entered the low income and subprime markets on their own. I simply disagree with her. There is no way any profit seeking entity would have ever entered the low income home ownership markets, particulary those areas with the highest risk of foreclosure, without first learning from the CRA and Fannie and Freddie that there was a way to do it and still remain profitable through securitization of loans. Your argument is that, after all, they have had a subprime boom in the UK, and the UK doesn't have a CRA. But, that doesn't prove anything. We have a global economy. I would assert that the subprime boom started in the USA and then spread to the UK, once investors discovered how profitable it was. • Concerned says: From an article I have been reading: "The first mortgage-backed securities arose from the secondary mortgage market in 1970. Investors had traded whole loans, or unsecuritized mortgages, for some time before the Government National Mortgage Association (GNMA), also called Ginnie Mae, guaranteed the first mortgage pass-through securities that pass the principal and interest payments on mortgages through to investors. (Ginnie Mae is a government agency that guarantees securities backed by HUD- and Veterans Administration-guaranteed mortgages.) Ginnie Mae was soon followed by Fannie Mae, a private corporation chartered by the federal government�along with Freddie Mac�to promote homeownership by fostering a secondary market in home mortgages." "Pass-throughs were a dramatic innovation in the secondary mortgage market. The whole-loan market, the buying and selling of mortgages, was relatively illiquid. This presented a risk to mortgage lenders who could find themselves unable to find buyers if they wanted to sell their loan portfolios both quickly and at an acceptable price. Holding the loans also meant exposure to the risk that rising interest rates could drive a lender's interest cost higher than its interest income. But trading whole loans meant a raft of details and paperwork that made the business relatively costly. MBS changed that. By combining similar loans into pools, the government agencies are able to pass the mortgage payments through to the certificate holders or investors. This change made the secondary mortgage market more attractive to investors and lenders alike. Investors now had a liquid instrument and lenders had the option to move any interest rate risk associated with mortgages off of their balance sheet." http://financialservices.house.gov/media/pdf/110503cc.pdf Just as I had thought. It WAS Ginnie Mae that first securitized home mortgages "to promote homeownership by fostering a secondary market in home mortgages". • Concerned says: Continued from above: Sorry, I posted before finishing my thought. Anyways, I just wanted to point out, one more time, that innovation, such as securitization of loans, occurs when a NEED is identified. Without a government push to promote homeownership in low income markets, there would not have ever been a need (or desire on the part of private lenders) to securitize loans....so I guess I have answered my own question as to why loan securitization did not become popular until the late 1970's. • Kim says: Concerned-- Yep, just look at the timeline and it will show that you couldn't be more wrong. Securitization started in 1970 (by Ginnie Mae) at the request of Wall Street investment banks because they saw an INVESTMENT OPPORTUNITY (not originally for risk avoidance). This was before the CRA (1977) and was well before Clinton's much-maligned changes in the CRA (1995). This was also before Clinton's and Bush's affordable housing initiatives. The evidence is that there was a need for capital in the home ownership market in general. I am not aware of any evidence of a particularly increased need for capital in the low income housing market in 1970. So, Wall Street already knew about securitization in 1970 and "a government push to promote homeownership in low income markets" was simply not the primary driver of the original securitization of mortgage loans. Do you have any evidence that it was a primary driver of private securitizations? From approximately 2000-2005, private securitizations of sub-prime mortgages were increasing dramatically at a time when Fannie's and Freddie's influence in the mortgage market was waning. It was in 2005, that Fannie and Freddie began purchasing more of these private securitizations in order to INCREASE MARKET SHARE (a profit motive). If this was because of the government's push of housing in low income markets (especially from 1995 forward) why was private enterprise's role increasing at a time when the Fannie's and Freddie's role was decreasing? Must be another explanation - perhaps the profit motive? No, I did not contradict myself with my arguments. You just did not read what I had to say very well. I stand by my arguments. Trickle-down economics, as I understand it, is the theory that tax cuts for the rich will result in increased capital expenditures which will in turn result in increased jobs which will benefit the not-so-rich. The income gap between rich and poor has expanded greatly since the Reagan years. Tax revenues may have increased as a result of the Reagan tax cuts (a fact which is actually in dispute), but the tax cuts did not result in a trickle-down benefit to the not-so-rich that was promised. Just to be clear, I don't just blame Republicans. It is just that conservatives are the ones blaming the CRA and government regulation for the mortgage meltdown. I believe they are wrong. I believe that the mortgage meltdown was caused by Wall Street being allowed to run amok because of lack of regulation of institutions that are "too big to fail." To quote myself: "I am not sure that anybody has a coherent economic theory that makes sense in this environment." • CommonSense says: Ginnie Mae was specifically created to address affordable housing issues. It's mission: "to expand affordable housing in America by linking global capital markets to the nation's housing markets." It was created in 1970, and began expanding it's purpose in much greater numbers in 1977. Here is a link which discusses it's history. Take from it what you wish. The website boasts that Ginnie Mae was "The Pioneer of Mortgage Backed Securities".: http://www.ginniemae.gov/about/history.asp?subTitle=About Why did it take until 2005 for subprime and other high-risk lending to take off? It takes time for private industry to perfect innovation. As the percieved risk associated with subprime lending diminished, lending took off, because there was plenty of demand for the new products, and there was plenty of profit to be made. According to this article: http://www.wikinvest.com/concept/Subprime_lending "Subprime lending became popular in the U.S. in the mid-1990s, with outstanding debt increasing from33 billion in 1993 to $332 billion in 2003. As of December 2007, there was an estimated$1.3 trillion in subprime mortgages outstanding. 20% of all mortgages originated in 2006 were considered to be subprime, a rate unthinkable just ten years ago. This substantial increase is attributable to industry enthusiasm: banks and other lenders DISCOVERED that they could make hefty profits from origination fees, bundling mortgages into securities, and selling these securities to investors."

• Kim says:

Yes, I stand somewhat corrected, affordable housing did have something to do with Ginnie Mae and securitization - the desire to make more money available for mortgage lending to make all mortgage lending more affordable. But, affordable housing is not necessarily the same as low income housing. Ginnie Mae only guarantees FHA, VA, RHS (Rural Housing Service) and PIH (Office of Public and Indian Housing) loans. I believe that's different than the "government push to promote homeownership in low income markets" that Concerned is talking about.
The point is that Wall Street, in conjunction with government, knew of securitization as early as 1970 and were eager participants. To claim, as Concerned has, that Wall Street only discovered these vehicles after the government showed them the way is simply not true.
I am not sure whether you were intending to support my position or not, but I read the rest of your post as agreeing with me that sub-prime mortages were fueled, not by government low income housing programs, but rather by the profits that could be made at every step in the private securitization process. Investors did not realize how risky these products were because the pools of mortgages made it difficult to determine the risk, the AAA-credit ratings made them look better than they were and the credit default swaps effectively insured them from default. Government looked the other way.

• CommonSense says:

I was agreeing with Concerned. It seemed as though your argument was that Wall Street pioneered the Mortgage Backed Security, but according to the Ginnie Mae site, it was Ginnie Mae that pioneered the MBS. In fact the Ginnie Mae site states:
"Ginnie Mae solved this problem and revolutionized the American housing industry in 1970 by pioneering the issuance of mortgage-backed securities."
It had nothing to do with Wallstreet but everything to do with Ginnie Mae's mission to expand affordable housing. To argue over the difference between "affordable housing" and "low income home ownership" is a bit nit picky. Ginnie's purpose was to increase homeownership, and I am sure they weren't targeting the rich or middle class.
Sorry to confuse you by my post, but my last sentence was to support Concerned's argument that the subprime boom was fueled by banks and lenders who finally came to realize that it was OK to take on the risk. This was due to a multitude of factors, but mostly because Ginnie Mae had pioneered the MBS and successfully used it to help lenders divert risk for many years. The article I mentioned goes into more detail. To repeat the last sentence of my last post which was taken from this article:
http://www.wikinvest.com/concept/Subprime_lending
"This substantial increase (in subprime lending) is attributable to industry enthusiasm: banks and other lenders DISCOVERED that they could make hefty profits from origination fees, bundling mortgages into securities, and selling these securities to investors."
Note the word DISCOVERED. They did not actively persue lending in the subprime markets, but realized, after many years of watching the government do it, that subprime lending would have less risk than they originally thought it would, in part because of the MBS as well as other factors including inflation in the housing market, which by the way, was a direct result of higher demand made possible by the MBS.

• Kim says:

But you are missing something from your own quote:
Ginnie Mae was specifically created to address affordable housing issues. It's mission: "to expand affordable housing in America by LINKING GLOBAL CAPITAL MARKETS to the nation's housing markets."
The global capital markets, including Wall Street, were Ginnie Mae's partner in 1970. They knew about securitization as early as 1970. Ginnie Mae did not do this in a vacuum.
Distinguishing between affordable housing and low income housing is anything but nit-picky. Affordable housing is much broader than low income housing:
"Affordable housing is a term used to describe dwelling units whose total housing costs are deemed "affordable" to a group of people within a specified income range. Although the term is often applied to rental housing that is within the financial means of those in the lower income ranges of a geographical area, the concept is applicable to both renters and purchasers in ALL INCOME RANGES."
http://en.wikipedia.org/wiki/Affordable_housing
You also do not have your facts straight about sub-prime lending. The GSE's never sold, insured or securitized sub-prime mortgages. Fannie and Freddie did, however, INVEST in private sub-prime mortgage securitizations. Private enterprise was the only player in the primary and secondary subprime market. Fannie and Freddie were two of a number of investors in that market. Fannie and Freddie likley fanned the flames with their purchases of sub-prime securitizations, but they did not teach private enterprise how to securitize sub-prime mortgages. Sub-prime securitizations are a very different product than the GSE's prime securitizations. If Wall Street DISCOVERED sub-prime securitization as a result of watching the GSE's prime securitizations, it's no wonder we are in the shape we are in.
Instead, according to the quote you provided, what private enterprise DISCOVERED was that a PROFIT could be made at every step of the way in the sub-prime securitization market. Or so they thought, as long as housing prices kept going up.

• CommonSense says:

Yes, you've explained all of that in prior posts. It's not that Wall Street discovered subprime securitization. They THOUGHT subprime securitization was too risky before the boom. What they DISCOVERED, in later years, was that it was probably more profitable and not as risky as they thought it would be, based on a number of factors that all tie back to the origin of the MBS, which was the brain child of Ginnie Mae. Ginnie Mae USED securitization to LINK global capital markets to the nation's housing markets (NOTE: Global capital markets did not demand, ask or pressure Ginnie Mae to securitize loans. Ginnie Mae chose to utilize this method to fulfill it's mission.) Prior to the creation of Ginnie Mae, loans were never securitized. The original securitization of prime loans probably would not have ever been done had it not been for the creation of Ginnie Mae, and the securitization of subprime loans certainly would not have ever happened had it not been for Ginnie Mae's example of prime mortgage securitization. Again, I don't know if you thoroghly read the article:
http://www.wikinvest.com/concept/Subprime_lending
From the article: "The subprime industry has always existed, but didn't take off until the mid-1990s. Historically, LENDERS CONSIDERED THE RISK TO BE TOO LARGE to issue significant amounts of subprime debt. A number of factors changed this opinion, however, driving banks to originate subprime mortgages in larger and larger numbers."
These factors included:
1.) Home price appreciation - which would not have occured to the extent it did without the utilization of the MBS for prime lending.
2.) Lax Lending Standards - fueled by the increased acceptance of securitized products.
3.) Adjustable-rate mortgages and interest rates - Many non traditional loans, such as ARMs or interest only loans, were packaged together and sold in a security. As such, the security owns the loan and not the bank. Thus, the securitizing of ARMS reduced risk to the bank. Again, this would not have been done had securitization of prime loans never been introduced to the marketplace.
I think that clears up what Concerned has been trying to get across. I do realize you and others will continue to disagree.

• Kim says:

There is no doubt that securitization played a large part in this by separating risk from reward for sub-prime mortgages. The question is which came first, the chicken or the egg? Was this a Wall Street idea which was peddled to the government or was this a government idea which Wall Street copied - 25 years later and not very well?
"Asset securitization began with the structured financing of mortgage pools in the 1970s. For decades before that, banks were essentially portfolio lenders; they held loans until they matured or were paid off. These loans were funded principally by deposits, and sometimes by debt, which was a direct obligation of the bank (rather than a claim on specific assets). But after World War II, depository institutions simply could not keep pace with the rising demand for housing credit. BANKS, AS WELL AS OTHER FINANCIAL INTERMEDIARIES, SENSING A MARKET OPPORTUNITY, sought ways of increasing the sources of mortgage funding. TO ATTRACT INVESTORS, INVESTMENT BANKERS EVENTUALLY DEVELOPED AN INVESTMENT VEHICLE that isolated defined mortgage pools, segmented the credit risk, and structured the cash flows from the underlying loans. Although it took several years to develop efficient mortgage securitization structures, loan originators quickly realized the process was READILY TRANSFERABLE TO OTHER TYPES OF LOANS as well."
http://en.wikipedia.org/wiki/Securitization
The idea that Ginnie Mae could have come up with this on its own seems a little far-fetched. As is the idea that Wall Street would not have come up with this without Ginnie Mae's example.

• CommonSense says:

I see your point. The concept of the MBS, from what you are saying, existed long before actually putting it into use in the 1970's, and it was investment bankers, after all, that pioneered the concept of the MBS - DESPITE the fact that Ginnie Mae has bosted to be the pioneer of the MBS on their own website.
If that truely is the case, then why didn't investment bankers utilize the concept prior to 1970, when Ginnie Mae issued the first mortgage backed security?

• Kim says:

I didn't say it. Somebody else said it in Wikipedia. And, even if you want to ridicule it, it makes sense that Ginnie Mae did not come up with this in isolation. Ginnie Mae did create the first MBS (hence "pioneered"), but under your theory, it would have done so without knowing whether there was a market for the MBS it created. Under the theory proposed in Wikipedia, Ginnie Mae would have already known there was a market because Wall Street had been asking for the market to be created - they wanted to profit from the mortgage market which, until then, had been dominated by banks and Fannie Mae. The fact that it was a government agency which did it first was probably related to the fact that Fannie Mae already controlled the secondary market for prime mortgages (Ginnie Mae was a spin-off of Fannie Mae and largely handled Fannie Mae's purchased mortgages). So, Ginnie Mae was the only entity which had access to a high quality pool of mortgages to securitize.

• CommonSense says:

Kim,
I wasn't ridiculing. I was seriously asking why you thought the concept hadn't been used before 1970. I did a little research, and I just found this article which I think gives a good explanation. It's exactly what I assumed..there was too much risk and skepticism from the investment community for private investors to buy into the concept. It makes a lot of sense to me, because private investors don't waste time if they believe there is a profit to be made. The gov't didn't need to worry about the risk, because they had taxpayer dollars to fall back on in the case of failure.
http://www.ncua.gov/CorporateCU/corpexguide/GuideChapters/Appendix202A.pdf
"Mortgage securities are not recent innovations. High rates of default on mortgage bonds during the depression inhibited widespread use of these instrument until the introduction of the Government National Mortgage Association (GNMA) pass through security in 1970. Even with the federal government guarantee, there was considerable skepticism about accepting mortgage securities in the investment community when GNMA first issued its securities."
For the MBS to be attractive to investors, housing values need to be consistently appreciating. Housing appreciation did not really start taking off until 1995. See graph:
http://mysite.verizon.net/vodkajim/housingbubble/
So I guess the next question which begs to be answered is: What caused housing inflation to rise so drastically after 1995?

• Kim says:

Apparently, Wikipedia and I were wrong. But, if it was the government guarantee which made Ginnie Mae securitizations palatable, I suspect the same was true for the private securitizations. I suspect that investors were skeptical of the risks of private securitizations of mortgages until they could be AAA-rated and "insured." While not truly insurance, Credit Default Swaps (CDS) effectively insured private mortgage securitizations. According to this article CDS's were created in the mid 1990's. Could this have part of the reason for the upward trend in housing prices starting in about 1995?
http://www.rkmc.com/Credit-Default-Swaps-From-Protection-To-Speculation.htm

• CommonSense says:

I don't think the increase in CDSs was so much a cause of housing inflation but happened more in response to the confidence that housing inflation gave to the marketplace.
This is not to be condescending but economics 101 teaches us that inflation occurs when demand outpaces supply. What major event happened in 1995 that drastically increased demand for housing?
In 1995, Fannie Mae and Freddie Mac began receiving affordable housing credit for buying subprime securities, and this policy was later "enhansed" by the Bush administration in 2004.
Quote from article below: "In 1995, President Bill Clinton's HUD agreed to let Fannie and Freddie get affordable-housing credit for buying subprime securities that included loans to low-income borrowers. The idea was that subprime lending benefited many borrowers who did not qualify for conventional loans. HUD expected that Freddie and Fannie would impose their high lending standards on subprime lenders."..."by 2004, when HUD next revised the goals, Freddie and Fannie's purchases of subprime-backed securities had risen tenfold."
http://www.washingtonpost.com/wp-dyn/content/article/2008/06/09/AR2008060902626.html

• Kim says:

Would Fannie and Freddie have been permitted to buy privately securitized MBSs if they were not AAA-rated and "insured" by CDSs? I honestly don't know the answer, but my suspicion is that if the real risk of these investments had been known, Fannie and Freddie would not have been allowed to buy these instruments - by their shareholders, by HUD or by Congress. The ratings and "insurance", along with the increase in housing values, all helped obscure the real risk of these securities.
Also, the HUD affordable housing standards are similar to but different than the CRA. Unlike the affordable housing standards which Bush expanded, Bush contracted the CRA, which is why the CRA is wrongfully blamed for causing this crisis in my mind.
Finally, the uptick in housing prices started in 1995 from the bottom of a downturn. It did not look out of line until about 2000-2001 when inflation-adjusted housing prices started exceeding values from about 10 years earlier. As a result, I would date the true start of the housing bubble later than 1995. While subprime lending did increase from 1995-2000, it really took off after 2000.
From the same Washington Post article:
"In 2000, as HUD revisited its affordable-housing goals, the housing market had shifted. With escalating home prices, subprime loans were more popular. Consumer advocates warned that lenders were trapping borrowers with low "teaser" interest rates and ignoring borrowers' qualifications.
"HUD restricted Freddie and Fannie, saying it would not credit them for loans they purchased that had abusively high costs or that were granted without regard to the borrower's ability to repay. Freddie and Fannie adopted policies not to buy some high-cost loans."
So, just as the sub-prime lending and housing bubble was really accelerating HUD restricted the use of high-cost loans for affordable housing lending.

• CommonSense says:

Well, I wouldn't say that HUD did a very good job of restricting the use of high-cost loans. They key word in the quote mentioned above is they adopted policies not to buy "SOME" high-cost loans. And a following paragraph in the article says,
"But by 2004, when HUD next revised the goals, Freddie and Fannie's purchases of subprime-backed securities had risen tenfold. Foreclosure rates also were rising. ". Then later in the article, it states,
"The market knew we needed those loans," said Sharon McHale, a spokeswoman for Freddie Mac. The higher goals "forced us to go into that market to serve the targeted populations that HUD wanted us to serve," she said."
I'm going to do a bit more research, because I would argue that it was the required "affordable housing goals" that drove Fannie and Freddie to purchase subprime securities moreso than the ratings on those securities.

• Kim says:

As I read Ms. McHale's comments in context, I think she was referring to the post-2004 buying spree - after Bush upped the affordable housing standards. And, yes, I would agree that at that time the increased affordable housing standards (and the desire of Fannie to recapture market share and increase profits for its shareholders) contributed to the increase in purchasing of subprime securitizations by Fannie and Freddie. By that time the AAA-ratings and CDS's had already been in place for a number of years and there was a certain comfort level with these securities despite the fact that the underlying loans were actually getting riskier.
There were many types of sub-prime loans. Some were riskier than others. Some were higher cost than others. The fact that they increased their purchases of sub-prime mortgages from 2000-2004 does not necessarily mean that they were increasing their purchases of high-cost sub-prime loans. Part of the increase was driven by the fact that the number of all types of sub-prime loans was increasing tremendously at that time.
There is some very good information in the report linked below, but I haven't yet had a chance to fully digest it:
http://research.stlouisfed.org/publications/review/06/01/ChomPennCross.pdf
One of the interesting charts is on page 42 which shows that the majority of sub-prime loans from 1995-2003 were cash-out refinances - not normally what I would think of to comply with affordable housing lending.

• Kim says:

Take a look at this paper which is the only one I have found which has subprime statistics from 1995-2007.
Specifically, not this quote on page 4:
"Initially, relatively few subprime mortgage loans were made for purchasing homes - only 16 percent of all subprime loans in 1999. Most were for refinancing home purchases (82 percent), and the remainder were for home improvement. In 2006, however, almost half of all subprime loans (49 percent) were for home purchases, with slightly fewer for refinancing (45.4 percent) and the rest (5.6 percent) for home improvements."
On a related subject, for all the (deserved) blame Barney Frank and Christopher Dodd get for their roles in not reigning in Fannie and Freddie, it looks like both parties had their hand in this:
http://news.yahoo.com/s/ap/20081019/ap_on_bi_ge/the_influence_game_housing
As stated earlier, President Bush also opposed this legislation:
http://www.presidency.ucsb.edu/ws/index.php?pid=24851

• Concerned says:

Good info, Kim. You are right. Both parties had their hands in the cookie jar!
But, don't forget that the point of this issue has nothing to do with the KIND of subprime mortgages that were issued, but the fact that the rise in subprime mortgages ties directly back to the fact that Fannie and Freddie were allowed, after 1995 to recieve affordable housing credit, for the purchase of any kind of Subprime MBS.
I must stress that I still feel this whole issue ties back to affordable housing mandates that were placed on profit making organizations (a very liberal concept). I do believe that helping people into home ownership is good for the economy, to a degree, but once the camel's nose is under the tent, so to speak, things can go too far, and that's what happened here. Privatizing profit while at the same time, socializing risk, is a dangerous combination that is doomed to fail.

• Kim says:

Actually, the ORIGINAL point was the role of the CRA - which is similar to, but different than, the affordable housing initiatives of HUD.
I suggest that you also look at:
Confessions of a Subprime Lender - An Insider's Tale of Greed, Fraud and Ignorance by Richard Bitner.
He assigns a lot of blame to a lot of players. But, from 2000-2005, when he was in the business, he assigns a little blame to the Fed, hardly discusses HUD and, as far as I can tell, does not even mention the CRA. His culprits, in the order he discusses them: mortgage brokers, the appraisers, securitization firms, rating agencies, the Fed, consumers, retail lenders, homebuilders and realtors.

• Concerned says:

I think people are confused between the difference between the role of HUD and Affordable Housing Goals vs. the role of the CRA.
Still, I swear I read somewhere that the 1995 changes allowing Fannie and Freddie to purchase subprime MBS fell under the umbrella of the CRA.
I am in agreement with you that greed has caused the crisis, but the only reason we got to this point is because profit was separated from risk. Risk prevents greed from running amock. Had it never been for the influence of Ginnie Mae and the discovery in later years that the MBS could reap such rewards with very little risk, the housing bubble would not have formed. (I know that you and I disagree on this point). Once the housing bubble formed, greed took over, and the bubble fed itself until it was no longer sustainable.

• Kim says:

We'll never know - would Wall Street have securitized subprime mortgages with AAA-ratings and credit default swaps without the very different example of Ginnie Mae government guaranteed prime securitizations? I say yes, you say no. We'll never know. But, for better or worse securitization is likely here to stay.
Beyond that, we seem to be in agreement that there were many factors which caused this and that reigning in the players a little bit probably would have prevented the meltdown. To me, that calls for regulation of the mortgage industry, not deregulation or non-regulation.

• Concerned says:

Securitization may be here to stay, but I doubt there will be many private investors having much interest in investing in the securitization of subprime loans anymore...at least not in the near future. Like I said before, failure in private markets leads to self-regulation.
I am sure SOME government regulation is inevitable, regardless of which party is in office at this point. Washington is good at reactive vs. proactive regulation.
I wonder what the gov't will do NOW to prevent minority and low income ownership from dropping like a rock? Once the election is over, I can almost guarantee you that legislators and community activist groups will be demanding the government to help keep people from losing their home ownership. We know that McCain has a plan to use some of the bailout $$to allow people to refinance their homes at actual value, but what will Obama do? It scares me to think how he will use his power (and at what cost?)to protect those who really shouldn't own a home. • Kim says: The push for home ownership was for more than just minority home ownership - minorities were just viewed as an under-tapped market. Both parties believed in an ownership society and, fundamentally, I don't think that has changed. In the early 2000's, the push for home ownership appeared to be beneficial to virtually everybody - from the homeowner to the mortgage broker to Wall Street. What has changed is the belief that home ownership is good for everybody. While I still believe that home ownership is good for most people, I think there is now a recognition across the political spectrum (and, perhaps more importantly, across the markets) that not everybody can handle it. Home ownership by people who can't handle it is not beneficial to society. I do think that there is potential benefit to rewriting those mortgages that look like they can be saved with reasonable terms and, whoever is President should try to save those mortgages, if only to stabilize the housing market. And, I doubt if lending standards will ever again get as loose as they did in the mid-2000's. But, securitizaion of loans made with tightened standards (including some sub-prime loans) will continue once the market stabilizes. Sub-prime loans and securitization still have benefits as long as they are not allowed to get out-of-control. McCain's plan bothers me because it appears to be more of a rescue plan for the banks than for the homeowners. He proposes to pay the banks face value for the mortgages and then renegotiate with the homeowners on the taxpayers' dime. Why should the banks, who mistakenly bought up these toxic mortgages, get more than current fair market value for those mortgages? The answer may be that that is the only way the banks will participate in the program, but there has got to be a better way. What will the banks learn if they are paid face value? That government will rescue them? • Concerned says: If we don't allow people to re-finance their homes at current market value, those homes will just go into foreclosure. The banks aren't going to participate, as you have pointed out, without some sort of a bailout. I'm all for allowing the market to correct itself, but at this point, I think the problem is too systemic, and without intervention, we would be in for a very big economic downturn. A statement from someone in my profession sums it up very well: "I believe that our nation can easily afford the 810 billion bailout of banks and home mortgages. Our national debt is about 10 trillion (that • Concerned says: ...And here is more quoted from the same person mentioned above: "Today, our • Kim says: Can't we find middle ground? If the banks get more than fair market value, but less than face value, they have a reason to participate (they cut their losses), and still learn from their mistakes (they still have losses). My, you have suddenly become a socialist. lol. • Concerned says: Well, I would hardly call myself a socialist. I'm more of a realist. I'm looking for the most financially conservative way to fix a problem that we got into because two irresponsible presidents created a housing bubble by pushing socially liberal policy that was not good for the economy. Middle ground might work, but I don't see a democratic president looking for such a financially conservative way to fix this problem. A prime example is the 20 million the Democrats wanted to give to ACORN as part of the original bailout bill. What did we need that for? • Concerned says: To correct my statement above, that was 20 BILLION they wanted to give to ACORN. Not 20 Million. • Kim says: I give up. After getting you to admit that there were many causes to the housing bubble and mortgage meltdown, you are back to blaming the CRA and affordable housing almost exclusively. I am wasting my time. And, now this trumped-up accusation about ACORN. There was a provision in the bill - the amount of money was 20% of any profits earned by selling the purchased assets (an unknown amount, but likely far less than 20 Billion, let alone the 140 Billion reported by others), and the money did not necessarily go to ACORN. You need to start reading something other than the right wing blogs. • Concerned says: Yes, there were many causes that all tie back to a culture of entitlement that was created by our oversized government. I've never wavered from my original opinion. Sorry if I mistated the amount to ACORN. I don't read right wing blogs, but I did hear the number 20 on the mainstream news...thought it was a flat dollar amount as opposed to a percentage...but that's besides the point...The point is, we don't need any taxpayor from any profits earned, every penny, should be returned to the taxpayer.$$ slated to correct this crisis should be used solely to keep the economy afloat and nothing more.

• Kim says:

Former advocate of deregulation, Alan Greenspan, says that "he had put too much faith in the self-correcting power of free markets and had failed to anticipate the self-destructive power of wanton mortgage lending."
So much for the "culture of entitlement" being the sole cause of this.

• Concerned says:

I succumb. You are right - I am wrong. You have convinced me. Free markets have no place in our society. Those evil profiteering lenders tricked all those people into purchasing more than what they could afford...The fact that our government did everything possible to encourage a "home ownership society" for the last 13 years had absolutely nothing to do with the economic crisis. And yes, those lenders knew they were going to create an economic crisis...they even knew they might put themselves out of business, but they didn't care....they just kept on making those bad loans, just for the short term profits.
Yes, we all know that people are generally not smart enough to make their own financial decisions about home ownership, healthcare, or even retirement planning, and that's why we need our government to take care of them. Once we have a fully Democratic Executive branch as well as Congress, we might even be lucky enough for them to take over our 401k plans, for the "protection" of the people, just like they are doing in Argentina.
http://www.ibdeditorials.com/IBDArticles.aspx?id=309653051843388

• Kim says:

Now don't you think that's just a little over-the-top? I never said anything about free markets not having a place in society. All I said was that I thought that there was more that caused this crisis than "do-gooder" government programs. And now, Alan Greenspan and Christopher Cox - people who were in your corner with regard to self-regulation of the markets - agree that in this case the markets did not self-regulate. To my knowledge, they don't even mention these "do-gooder" programs as a cause of the mortgage meltdown. You are just in denial.

• Concerned says:

Greenspan was not in my corner. He artificially kept interest rates much too low in the interest of "affordable housing" initiatives as part of the government's push for a home ownership society. Again, big government at the root of the problem. If interest rates were not kept so low, the markets would have "self-corrected" much earlier, before we reached crisis level.
Of course Greenspan is not going to admit that the Fed's push to keep interest rates low was at the heart of the problem. It's in his interest to blame the free market, because that's what everyone wants to hear.

• Kim says:

Say what you will, but Greenspan was a disciple of Ayn Rand and believed in self-regulation of the markets. But, I agree that Fed policy is one of the bigger culprits in this mess.

• Concerned says:

Greenspan was right to believe in self-regulation of free markets. It was his bad policy of keeping interest rates too low that helped lead the way to the crisis, not the failure of the markets to correct themselves. The only reason Greenspan is blaming the markets is because he wants to take the focus off of his bad policy. He's a smart man. He knows that the media will latch onto blaming the markets moreso than they will to bad government policy.
The low interest createde an incentive for Wall Street to continue to invest in subprime lending. Had it not been for the incentive of low interest rates, the markets would have "self-corrected" long before reaching crisis mode.

• Kim says:

So it was reckless investing after all - encouraged by low interest rates - that caused this. I thought you said that this was all the fault of the "culture of entitlement."

• Concerned says:

The culture of entitlement (ie..I deserve to live in and own a house I cannot afford), was created by our goverment. The policies of President Carter and Clinton, including the CRA and affordable housing initiatives, Ginnie Mae, Freddy Mac and Fanny Mae, as well as Bush with his "home ownership society", and Greenspan helping to make it all happen by keeping interest rates way below where they should have been are all part of the culture of entitlement created by our big government. That's where this all begins. The reactions of the free market were a subset of the bigger picture, not a root cause. The fact that greed played a part in all of this is normal and human. The people who purchased homes that they knowingly could not afford were just as greedy and just as much to blame as our government and the corporations that provided the means for all of this to happen....But it all boils down to one root cause...LEADERSHIP with a liberal agenda that taught Americans it is OK to own a house or sue somebody if not given the equal opportunity to have one even if it requires you to go into more debt than you could ever possibly afford.

• Concerned says:

P.S Investing is not "wreckless" if there is little or no risk. If investors knew that their investments were risky, they wouldn't have made the investments in the first place. Low interest rates created an environment which reduced risk, thus encouraging investment in real estate. Therefore, it was not the investors that were wreckless. It was the policies of our government that were wreckless, because these policies created the environment in which a subprime market could thrive. You are not making the connection between cause and effect.

• Kim says:

Just because the investors did not recognize the risk involved in these investments does not mean they weren't risky. That's the whole point - these were riskier than they were thought to be. Wall Street did a good job of obfuscating the risk through MBSs, CDOs, AAA-ratings and CDSs. The ultimate purchasers of these derivatives would not have purchased them for the price they purchased them for had they known the real risk involved. Failing to properly evaluate the risk is what I was referring to as "reckless." (correct spelling)
I would like to see the FACTS which support your fantasy of cause and effect. Most of the sub-prime mortgages were either cash-out refinances or home improvement loans. Many were for very expensive homes. Many were for investors ("flippers"). Some were for CRA and affordable housing. Yet, somehow, this whole mess is caused because of the entitlement society.
The government simply did not create these toxic loans - they were created by private enterprise - only prime mortgages could be government insured. They were not sold primarily to poor people for home purchases - they were sold to all strata of society for a variety of reasons. Private enterprise was not selling these because the government made them do it, they were selling them because they could make money doing it. The government did not package these toxic loans into MBS's and CDO's - private enterprise did (perhaps using somewhat similar government products as a bad example of the risk involved). The government did not AAA-rate these derivatives - Standard and Poors and Moodys did and made a lot of money doing it. The government did not guarantee these derivatives - AIG and others did and made a lot of money doing it - for a while. The government did buy up some of these derivatives, but Fannie and Freddie were somewhat late to the party and there were plenty of other buyers. In my opinion, Wall Street did not properly recognize the risk of the underlying mortgages, over-leveraged themselves, and concentrated the risks in companies "too big to fail." (AIG probably being the most egregious example with its trillions of dollars in Credit Default Swaps.) Government's only involvement in this was looking the other way - non-regulation or deregulation of the derivative industry. Gullible (sometimes, criminal) people certainly took on obligations they should not have taken on, but they did so with the full encouragement of the mortgage broker, the mortgage lender, the investment banker, the rating companies, the CDS sellers, the ultimate investor and yes, the government. There were lots of causes of this which had nothing to do with the entitlement society you want to blame this on.
Please, for once, show me some facts that the primary cause of this was the liberal agenda. Show me that it was the CRA loans or affordable housing loans which failed in sufficiently larger numbers than the cash-out refinances. Not argument, facts. I don't think you can do it.

• Concerned says:

It simply doesn't matter which kinds of loans failed in bigger quantities. The FACT is that Ginnie Mae pioneered the first MBS in the name of affordable housing and private industry did not really delve into the subprime markets until AFTER housing values began to appreciate faster than ever before in history. In order for the MBS to be a worthy investment for private enterprise, housing values MUST be appreciating. Housing began to appreciate as a result of increased demand created by 1995 legislation that allowed Fannie and Freddie to purchase the subprime MBS. This was the beginning of the housing boom. Without increased demand for housing, the subprime markets would not have ever thrived.
If AIG, for example, realized the risk involved with guaranteeing the subprime loans, as you claim they did, then they would have known they were risking putting themselves out of business - No private enterprise is stupid enough to put themselves out of business. The reason they continued to invest in the subprime markets is because they believed that housing would continue to appreciate in value based on many factors, but most definately, on the professional opinion of Alan Greenspan who said that there has never been, nor did he believe there ever would be, a national decline in the housing market. Greenspan believed that housing declines were always localized, so therefore, there was very little risk in subprime lending and the buying and selling of MBS, because as long as housing continued to appreciate on a national level, the investments would be safe. To make sure that housing would continue to appreciate in value, Greenspan continued to keep interest rates artificially low.
This is common sense and basic economics.

• Concerned says:

Continued from above:
Private enterprise did not create housing inflation...housing inflation attracted private enterprise. Housing inflation occurred as a result of government policy...therefore, government policy is at the root of the problem.

• Concerned says:

Continued:
If any regulation was needed, it should have been regulation to slow housing inflation. If that would have happened, the MBS would have been rendered too risky, and the subprime markets would have dried up on their own.

• Kim says:

Facts please. Again you have NONE.
When you boil your argument down to its basics, you are saying that government policy fed housing inflation which, in turn, fed private enterprise investment in housing. But, what forced private enterprise to invest in housing? NOTHING. Didn't private enterprise CHOOSE to invest in housing because it looked like a good investment under then-current circumstances? And, in retrospect, isn't it obvious that these investments (in subprime MBSs) were not as good as they had appeared to be? What role did government play in this mis-assessment? NONE. Blame Wall Street firms such as S & P, Moodys and AIG. I maintain that even in an environment of housing inflation (whatever the cause) and government encouragement of subprime lending, if Wall Street had recognized the true risk of these investments, Wall Street would not have been as willing to buy them, they would have been more accurately valued and the credit crisis would have been avoided. In my analysis, Wall Street was far more influenced by the perceived safety of these investments than it was by government encouragement of these investments. It simply makes no sense that Wall Street would buy risky investments merely because the government encouraged it to do so.

• Gimpster says:

Your argument is 100% correct, except for one thing. You don't explain why the Credit Rating Agencies gave the subprime MBS such good ratings. Profit motive is not the answer. The Credit Rating Agencies reputations were on the line, so what influenced them to give such good ratings to the MBS?

• Common Sense says:

What role did the government play?
"As the Clinton administration�s top housing official in the mid-1990s, Mr. Cisneros loosened mortgage restrictions so first-time buyers could qualify for loans they could never get before."
Then, capitalizing on a housing expansion he helped unleash, he joined the boards of a major builder, KB Home, and the largest mortgage lender in the nation, Countrywide Financial � two companies that rode the housing boom, drawing criticism along the way for abusive business practices."

• Common Sense says:

More on above comment:
"It made for a cozy network. Fannie bought or backed many mortgages received by home buyers in the KB Home/American CityVista partnership. And Fannie's biggest mortgage client was Countrywide, whose board Mr. Cisneros had joined in 2001."

• Common Sense says:

...And why was the subprime MBS percieved to be so safe?
Here is an interesting article explaining why the MBS was considered such a "safe" investment - http://www.allstarstocks.com/gpage1.html
Among the arguments for safety:
"Most mortgage-backed securities are issued by three primary agencies, the Government National Mortgage Association (Ginnie Mae), the Federal Home Loan Mortgage Association (Freddie Mac), and the Federal National Mortgage Association (Fannie Mae). A SMALL NUMBER of MBS issues are sold by other lending agencies."

• Kim says:

His conclusion is different than I expected:
"The hypothesis that currently seems to best fit
with the evidence suggests that housing speculators
were taking out many loans with the hope of a quick
and profitable turnover. These housing speculators
did not much care about the terms of their mortgages
because they didn

• Common Sense says:

I'm guessing you didn't read the report except for the last page, and even then, you missed the third to the last paragraph, which explained the just of the article.
Basically, the "Anatomy of a Train Wreck" goes into great depth to explain how lax underwriting standards were created and endorsed by our federal government, and these standards planted the seeds of the mortgage meltdown. Page 11 of the report goes into detail explaining why investors were fooled and rating agencies were willing to give AAA ratings to the mortgage backed securities. Namely, he explains how the sales pitches of the issuers of the securities, backed by the Boston Fed Study on minority discrimination, influenced investors and the rating agencies. He also explains that the government required many financial organizations to invest only in highly rated securities as certified by government approved rating agencies. S&P, Moody's and Fitch were the only three government approved rating agencies, and they enjoyed political protection from free competition. Therefore, there was very little incentive for these rating agencies to act upon greed, as that would create political waves, endangering a potenial loss of their polically protected profits.
I highly suggest that anyone following this thread read "The Anatomy of a Train Wreck". It is thoughtfully written by an independent agency and includes very detailed information about all of the points discussed earlier in this thread.

• Common Sense says:

Another point to make with regards to Kim's comments above:
"Anatomy of a Train Wreck" points out on page 15 that preliminary evidence indicates that the recent increase in defaults has been dominated by those areas populated by poor and moderate income borrowers. Further, it points out that the low and moderate income borrowers had the largest share of speculative home buying --- Quote: "The fact that foreclosures among poor and moderate homeowners are not receiving the greatest amount of newspaper attention doesn't mean that they are not at the epicenter of the foreclosure problem."

• Common Sense says:

...And take a close look at page 18, section 4..."Problems with the Subprime Bogeyman Hypothesis". Quote: "That problem is the fact that subprime loans did not perform any worse than prime loans."

• Kim says:

I read the whole report, probably better than you did. His explanation of the faulty AAA ratings leaves a lot to be desired, even by his own admission:
"But how did investors, who are supposed to be cool and rational, misperceive the risk so badly? One of the questions about the current crisis is, why were purchasers of mortgages (i.e., mortgage-backed securities) willing
to treat them as AAA and, perhaps more surprisingly,
why were the rating agencies willing to give them
AAA ratings?
"Although it is not clear that any answer to this
question can be completely satisfactory, I believe
that if we understand how universal the idea of

• Kim says:

He also does some interesting things with his statistics. Despite the statement quoted above, his statistics actually show that subprime mortgages always performed much worse than prime mortgages. Fourth Quarter 2007 subprime foreclosures starts - between 3.5% and 4%. Fourth Quarter 2007 prime foreclosures starts - between .40% and .45%. (Charts page 19) The rate of increase in prime and subprime foreclosure starts was about the same. But, that does not mean that they performed the same - they clearly did not.

• Common Sense says:

...Yes, he explains that subprime have ALWAYS been 10 times more likely to fail than prime, even BEFORE the bubble. (What is interesting about that?) With all else being equal, the RATE of increase in subprime foreclosures did not perform any differently than prime. When comparing statistics in this situation, the RATE is a more important and meaningful statistic than quantity.
Also, it does not matter what kind of "flippers" were investing in what locations. The point is that it was the ubsurdly loose lending standards, created by our federal government, that allowed people to purchase homes without putting any money down.
The whole first half of the report explains how the flawed and politically heralded Boston Fed Study on minority discrimination in real estate markets is what led to the loose lending standards that were basically forced upon lenders of every kind...not just CRA lenders. Quote: "The Boston Fed gracefully reminds its readers of a few possible consequences of not paying attention [to government policy on lending standards]":
"Did you know? Failure to comply with the Equal Credit Opportunity Act or Regulation B can subject a financial institution to civil liability for actual and punitive damages in individual or class actions. Liability for punitive damages can be as much as $10,000 in individual actions and the LESSER OF$500,000 OR 1 PERCENT OF THE CREDITOR'S NET WORTH IN CLASS ACTIONS."
Later, he explains how this same flawed and politically heralded study made by the Boston Fed was used as proof that mortgage-backed securities were therefore safe investments, and that's why the rating agencies gave them such high ratings. Your argument that the high credit ratings were purely profit driven is incorrect.

• Kim says:

Why is rate of increase a more meaningful statistic than quantity?
I agree that there were absurdly loose lending standards, but they were the creation of the lenders, not of the government. The government may have encouraged loose lending, but it did not develop the underwriting standards, write the terms or sell the mortgages. Private enterprise CHOSE to sell these mortgages, government did not force them to sell these mortgages.
You stated: "Further, it points out that the low and moderate income borrowers had the largest share of speculative home buying --- Quote: "The fact that foreclosures among poor and moderate homeowners are not receiving the greatest amount of newspaper attention doesn't mean that they are not at the epicenter of the foreclosure problem." In fact, the evidence only shows that speculation occurred in poor and moderate areas. It does not show that it was done by poor and moderate borrowers. He speculates that it was done by "flippers" who may or may not have been poor and moderate.
The Boston Fed study was done in 1992. A lot happened - good and bad - between that study and the mortgage meltdown in 2006-07. The lending standards were a lot looser in 2005 than they were in 1995. I don't think that difference can be blamed on a study which happened 13 years earlier in a very different mortgage market. For one thing, privately-securitized MBSs were almost non-existent in 1992. Credit Default Swaps did not exist. The AAA-ratings did not exist.
I never said that the credit ratings were purely profit driven. But I have no doubt that making money was a part of why they were given.
I have always recognized that the government had a role in this, but I think it is foolish to blame the government alone. Wall Street also had a role in this.

• Common Sense says:

Percentages are always a more meaningful statistic than quantities. The fact that the rates of default on both prime and subprime mortgages grew at the same pace (relative to historic ratios) and starting at the same time is proof that the subprime meltdown was not a contagion to foreclosures in the prime markets. Rather, the author asserts that BOTH prime and subprime ARMs were the loans that tended to default, and this is due to the fact that the government created AND encouraged such lax lending standards on these kinds of attractive loans - loans that were particularly attractive to speculators. He argues: "Although the original mortgage "innovations" were rationalized for low and middle income buyers, once this sloppy thinking had taken hold, it is naive to believe that this decade long attack on traditional underwriting standards would not also lead to more relaxed standards for higher income borrowers as well."
The whole just of the report was about the birth of "Flexible Underwriting Standards" starting on page 5, and I think the author does a pretty good job of proving that it was the goverment, NOT the private lenders, that encouraged and forced loose underwriting standards on all lenders - not just CRA lenders. He explains that if a bank's underwriting standards do not allow a sufficiently high percentage of minority mortgage approvals, then they must be "arbitrary and unreasonable", which is enough to subject the bank to extreme legal penalties under the Equal Credit Opportunity Act or Regulation B.
Then he goes through each and every criteria that a lender must consider to avoid "arbitrary and unreasonable" penalties. These include:
Looser Credit History Standards
Looser Obligation Ratios
Looser Downpayment requirements
Looser "sources of income"
Looser Loan to Value Requirements
Looser payment history requirements
These were not a creation of the lenders, but a requirement of the Federal Government..or face legal consequences.

• Common Sense says:

What is foolish is to ignore the fact that the history of loose lending standards created by the government is the PRIMARY cause of the mortgage meltdown. What is foolish is to elect into office a Democratic majority in both Congress and the Executive Branch, a recipe for disaster, since it was liberal idealism, regardless of its good intentions, that led to today's crisis. Fortunately, private industry learns from it's mistakes, but when private industry is at the mercy of government regulation, there is little we will be able to do to prevent a repetition of the last 30 years of failed policy. There is no doubt in my mind that we will once again, under Democratic leadership, see lenders accused of discrimination as they try to avoid bad loans in the wake of this crisis. It will be interesting to see what Barack Obama tries to do "encourage" affordable housing in the future.

• Kim says:

At the risk of repeating myself, George W. Bush had the most aggressive affordable housing standards.
http://www.whitehouse.gov/news/releases/2004/09/20040902-5.html
If those standards were at fault, blame him more than the Democrats.

• Kim says:

If the government made mortgages riskier by loosening lending standards, why did private enterprise continue to be involved? Why didn't private enterprise choose to invest in something less risky?
Why were there about $60 trillion in CDSs on about$5 trillion assets?

• Concerned says:

I'm not blaming the Democrats. I'm blaming liberalism. Some Republicans are socially liberal. George Bush is one of them. McCain tends to be too, but Barack Obama is much worse, and McCain has a better vision with regards to reigning in spending.
The government convinced private enterprise that the mortgage backed security was both safe AND profitable, and therefore, that is why private enterprise chose to invest, because they beleived it was in their best interest...not to mention the penalties they would face if they didn't loosen underwriting guidelines. It wasn't all choice.
The flawed Boston Fed Study was used by politicians as ammunition and proof that looser lending standards would not result in higher rates of default. Private enterprise bought the argument.

• Kim says:

As I see it, private enterprise had 3 choices:
1. Believe the government when it said that these securities were safe. If private enterprise did that, they deserve the consequences of such stupidity.
2. Conduct their own risk assessment and decide that the risk was worth taking (a la Bear Stearns), OR
3. Conduct their own risk assessment and decide that the risk was not worth taking (a la Warren Buffett).
Unlike you, I doubt many in private enterprise chose the first action, but if they did, they were grossly negligent. Many chose option #2 and made lots of money for awhile, but ultimately lost their shirts. Some chose option #3. Private enterprise clearly had a choice.

• Concerned says:

If somebody told you that you could invest in a treasury bond, for example, AND earn high rate of return at the same time, and they had proof that it worked for them, how much of a study would you conduct before investing in the treasury bond? We both know that would never happen with treasury bonds, but that's what happened to private investors and mortgage-backed securities. Ginnie, Fannie and Freddie were the guinea pigs for mortgage-backed securities. Traditional thinking with regards to risk and reward was thrown out the window once private enterprise saw that these investments were proven (by our government) to be both safe and profitable, and they followed suit. Yes, private enterprise had a choice, but the government influence and political backing of the Boston Fed Study was very convincing. Government regulations with regards to equal opportunity housing did not provide for much CHOICE. Once private enterprise saw that they could both meet equal opportunity housing requirements AND pass off the risk legally via the mortgage-backed security, they really had no choice but to issue MBSs. If they didn't, they would lose money trying to meet equal opportunity housing requirements while keeping the loans on their own books.
Your line of thinking is non-sensical. Private enterprises do not invest in investments that they believe will result in failure. Do you really believe that Bear Stearns did what they did so they could earn hefty short term profits, knowing that they would soon put themselves out of business? I know that you are smarter than that, so instead, you argue that they invested, because they believed the rating agencies that gave falsely high ratings to MBS for the sake of profit. Again, this is a line of thinking that is non-sensical. The three main rating agencies, S&P, Moody's and Fitch were the only three government approved agencies, and government regulations stipulated that financial institutions could only invest in highly rated securities as certified by these government approved agencies, so their profits were already set in stone. They had no competition other than each other.
Policy makers need to take a look into history and be very careful about future policy regarding "affordable housing". I doubt Barack Obama will be prudent about budgeting tax dollars and creating new regulation for the sake of "equal opportunity housing" despite the fact it has been proven that both PRIME and subprime ARMs were at the epicenter of the mortgage meltdown.

• Concerned says:

I need to clarify my point about the rating agencies above. Because these rating agencies were basically politically protected, it would not makes sense for them to sabotage the mortgage industry for the sake of profit or they would risk losing their political protection against competition. Therefore, the argument that they falsely rated the MBSs for profit makes very little sense. These agencies had reputations to protect, and it would not be in their interest to misrepresent risk for the sake of profit. The rating agencies rated the risk based on what little historical evidence was available, and the lack of historical evidence (based on the successes Ginnie, Fannie, Freddie and other investors) was all they had to go on.

• Kim says:

Just stop it!!
I did not say most of the things you attribute to me in your last post. No wonder you think it was non-sensical - you made it up.
You refuse to recognize one important factor - the investment firms simply did not have to invest in these securities - the investment firms chose to invest in these securities. Perhaps the lending institutions under fair housing and fair credit rules had to make some of these loans, perhaps Fannie and Freddie had to buy some of these loans, but the government did not force the unregulated hedge funds (and other investors) to buy these securities. And the unregulated hedge funds (and other investors) bought most of them. The unregulated hedge funds (and other investors) CHOSE to invest in these securities because they viewed them as good investments. They viewed them as good investments because the government said they were, because they were AAA-rated and because they were insured. And, the speculative investing on Credit-Default Swaps, which the government explicitly chose not to regulate, greatly exacerbated the situation. YOU ARE SIMPLY IGNORING IMPORTANT EVIDENCE AND MAKING UP OTHER EVIDENCE IN ORDER TO PERPETUATE YOUR MYTH THAT THIS WAS ALL THE GOVERNMENT'S FAULT. WALL STREET CLEARLY DESERVES PART OF THE BLAME WHETHER YOU WANT TO SEE IT OR NOT.
I am through with this discussion.

• Kim says:

"the argument that they falsely rated the MBSs for profit makes very little sense"
You are correct. But, please stop attributing this to me as I never said it.

• Concerned says:

Wall Street played a part; I recognize that, but they would not have if it weren't for too much government regulation in the first place. I never made up any evidence. The examples I cite are all true and correct.
To solve a problem, you have to find out what the cause of the problem was. Wall Street investing was not a cause of the problem, it was a consequence.
You may not have said the exact words, but you certainly implied that the CAUSE of the meldown was due to greedy, profit seeking private enterprise, and you explicitly stated that regulation against this greed would have prevented the problem. Perhaps regulation to prevent the greed may have prevented a meltdown, but it may have also destroyed the ability of lenders to meet "affordable housing" goals. You can't fix bad regulation with more regulation. ...And yes, the non-discrimination/affordable housing regulations were bad, because they were based on a flawed study. Further analysis later showed that really, lenders were not discriminating, but just following normal underwriting standards which were interpreted as discriminatory....yet policitians latched onto the flawed study as proof that lenders were discriminating, and that is what led to all sorts of regulation that influenced the way that mortgages were underwritten and sold in the secondary marketplace.
Had the governement allowed private enterprise to lend as they felt appropriate for the success of their own business in the first place, rather than imposing equal opportunity rules and the threat of lawsuits for non-compliance...Had the governement never introduced the use of the MBS to the marketplace...Had the government never encouraged loose underwriting guidelines in the name of affordable housing, then we would have never gotten into this mess in the first place.

• Ben says:

For a different view of the financial crisis:
http://news.yahoo.com/s/csm/20081105/cm_csm/ylange06

• izle says:

The CRA was passed in 1975. It's almost 2009 now. It doesn't fit to current situation anymore.

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• John says:

In terms of how to evaluate the effects of the Modification to the CRA in 1995, I think I have an answer. What started off as loans to help LMI people to get homes spread to the middle and upper earner market for loans. When the no down loans started, I had my loan officer in the lat 1990s call me to tell me about the a no down no doc loan. I thought that not providing documents was exactly the opposite of what was needed. I then found an article in the NY Times warning that the CRA social engineering could spread into a wider body of mortgages, fixed and adjusting, no doc, etc.

Then, lenders turned a blind eye to all mortgage due diligence, because 1) fees were higher for risky loans, 2) so what, - loans are sold to RMBS's anyhow.

So CRA is the root cause even on loans that are not under the CRA, because of the "me too" effect. Without the waiving of down payment requirements, and securitization on steroids, there is no housing bubble, or a much smaller one.

Clinton and the Democrats therefore bear nearly 100% of this ruined economy. Not to mention the signing of NAFTA and the closure of nearly 500,000 Manufacturing businesses since that time.

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