Who should we blame for the mortgage crisis?
Here are questions asked on the FM website this week (some of these were assertions, which I’ve rephrased at questions). Click on the question to go directly to the answer.
- Did FNMA and the other Government Sponsored Enterprises cause the sub-prime mortgage crisis?
- Did the Community Reinvestment Act cause the housing crisis?
(1) Did FNMA and the other Government Sponsored Enterprises cause the sub-prime mortgage crisis?
Stuki Moi wrote about the subprime mortgages here. Did FNMA and the other Government Sponsored Enterprises cause the sub-prime mortgage crisis?
The primary cause of the housing bubble was a series of changes in regulation of the financial system, removing constraints imposed during and after the Depression — changes driven by banks. For a description of these changes in laws and regulations see “The Evolution of the Subprime Mortgage Market” by the St Louis Fed.
Let’s take the analysis one step further. Given the primacy of these structural changes by Congress and regulators, what was the role of the GSE’s as players in the sub-prime part of the bubble? At Calculated Risk, one of the go-to sites for reporting on the housing crisis, Tanta said:
I think we can give Fannie and Freddie their due share of responsibility for the mess we’re in, while acknowledging that they were nowhere near the biggest culprits in the recent credit bubble. They may finance most of the home loans in America, but most of the home loans in America aren’t the problem; the problem is that very substantial slice of home loans that went outside the Fannie and Freddie box.
For something more specific see:
Between 2004 and 2006, when subprime lending was exploding, Fannie and Freddie went from holding a high of 48 percent of the subprime loans that were sold into the secondary market to holding about 24 percent, according to data from Inside Mortgage Finance, a specialty publication. One reason is that Fannie and Freddie were subject to tougher standards than many of the unregulated players in the private sector who weakened lending standards, most of whom have gone bankrupt or are now in deep trouble. During those same explosive three years, private investment banks — not Fannie and Freddie — dominated the mortgage loans that were packaged and sold into the secondary mortgage market. In 2005 and 2006, the private sector securitized almost two thirds of all U.S. mortgages, supplanting Fannie and Freddie, according to a number of specialty publications that track this data. (source: McClatchy Newspapers)
A second calculation confirms this: “From 2004 to 2006, the two purchased $434 billion in securities backed by subprime loans, creating a market for more such lending.” (source: WaPo). That’s 5% of the roughly $10 trillion in outstanding mortgages, aprox 1/5 is subprime.
A third set of evidence provides definitive proof, since the housing bubble was a global event: “Safe as houses – Compare countries’ house-price data over time“, The Economist, 30 December 2009.
Two important notes about this, however.
- The GSE’s were major factors in the overall mortgage bubble by converting mortgages into government-guaranteed securities.
- Now owned by the government the GSE’s and FHA have become the subprime market. Conduits for massive flows of our money into subprime mortgages, attempting to save the banks and re-inflate the US economy. This is an almost certain-to-fail strategy, the cost of which probably be horrific.
(2) Did the Community Reinvestment Act cause the housing crisis?
Or, more mildly stated, was it a major cause of the crisis? Here we have another politically useful urban legend, confidently asserted many times in the comments. Since facts mean nothing when seeking political power, we can expect this story to circulate for many more years despite its almost total lack of factual foundation. There is near-zero evidence that the Community Reinvestment Act, passed in 1977 played a significant role in the mortgage crisis. This is just right-wing propaganda. Matthew Yglesias gives the nickel summary on this:
“The technical term for this argument is ‘bullshit.’ For one thing, the timeline is ludicrous. The Community Reinvestment Act was passed in 1977. Are we supposed to believe that CRA was working smoothly throughout the Carter, Reagan, Bush I, and Clinton years and then only under Bush II did overzealous anti-”redlining” enforcement come into play, perhaps a result of Dubya’s legendarily close relationship with ACORN? Or maybe overzealous enforcement back in the late 1970s is somehow responsible for a real estate blowout that only materialized 30 years later? It doesn’t even come close to making sense.”
Note that the people asserting this seldom (if ever) cite actual research, just op-eds and stray quotes. For a more detailed rebuttal see the following, a sample of the many studies on this subject:
- “Community Reinvestment Act: 25th Anniversary“, Harvard’s Joint Center For Housing Studies, 20 March 2002
- ”Did Liberals Cause the Sub-Prime Crisis?“, Robert Gordon, American Prospect online, 7 April 2008 — “Conservatives blame the housing crisis on a 1977 law that helps-low income people get mortgages. It’s a useful story for them, but it isn’t true.” (Gordon is a senior fellow at the Center for American Progress)
- “The Community Reinvestment Act: A Welcome Anomaly in the Foreclosure Crisis“, Traiger & Hinckley, 7 January 2008 — “Indications that the CRA Deterred Irresponsible Lending in the 15 Most Populous U.S. Metropolitan Areas” (PDF, 21 pages).
- “No, Larry, CRA Didn’t Cause the Sub-Prime Mess“, Ellen Seidman, New American Foundation, 15 April 2008. Seidman headed the Office of Thrift Supervision from 1997 – 2001, and has long experience in this area (bio), and this article has links to additional evidence.
- “Credit Where It Counts: Maintaining a Strong Community Reinvestment Act“, Brookings Institute, May 2005
For a summary of these studies see “Setting the Record Straight: Blame Conservatives, not CRA, for subprime mortgage mess“, Tim Westrich (bio), Center for American Progress, 30 September 2008:
Studies done by respected institutions—not just CRA’s cheerleaders—show that CRA works at what it was intended to do: overcoming market failures in low-income communities. Case in point: CRA-regulated lenders operating in their so-called assessment areas (census tracts where they maintain deposit-taking operations) have shares of conventional, prime home purchase loans that exceed the equivalent shares for out-of-area lenders or non-covered organizations, said a study by Harvard’s Joint Center for Housing Studies in 2002. And as late as 2005, when Bush-appointed bank regulators were trying to water down CRA, an evaluation by the Brookings Institution concluded that by fostering competition among banks in serving low-income areas, CRA generates larger volumes of lending from diverse sources and adds liquidity to the market, decreasing the risk of each bank’s loan.
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