Truth and Nonsense About Mortgage Lending, the Housing Collapse and Homeownership
There may be no subject that has generated more nonsense from politicians and pundits than the subprime mortgage crisis and housing market collapse. Recently, a new book landed on my desk that cuts through the bull and obliterates a pile of widely-propagated falsehoods.
It’s an article of faith among many on the political right that the cause of the meltdown was pressure from the government — mostly through the Community Reinvestment Act. For example, as the crisis was exploding in the fall of 2008, Boston Globe columnist Jeff Jacoby wrote:
The pressure to make more loans to minorities (read: to borrowers with weak credit histories) became relentless. Congress passed the Community Reinvestment Act, empowering regulators to punish banks that failed to ‘meet the credit needs’ of ‘low-income, minority, and distressed neighborhoods.’ Lenders responded by loosening their underwriting standards and making increasingly shoddy loans.
Around the same time, Fox News host Neil Cavuto put it bluntly: “Loaning to minorities and risky folks is a disaster.” Similar views were and continue to be repeated in an almost relentless drumbeat from the likes of Rush Limbaugh, Sean Hannity, and the editors of Investor’s Business Daily, quoted on the House floor by Rep. Michelle Bachmann (R-Minn.)
Yeah, if we’d only watched out for those “minorities and risky folks,” the subprime collapse would never have happened and the economy would still be humming along. It’s a neat, easy answer. One problem, as the new book, Regaining the Dream, demonstrates: It’s not true.
Written by a trio of researchers from the University of North Carolina-Chapel Hill, Regaining the Dream focuses on a study of a North Carolina-based project known as the Community Advantage Program (CAP), aimed at promoting sustainable lending to low and moderate-income communities. It contrasts such responsible efforts (often promoted by the Community Reinvestment Act) with the irresponsible and often predatory lending practices that marked the subprime bubble. I’ll let the researchers speak for themselves:
The issue, center researchers discovered, is not whether low-income, low-resource individuals pose a greater risk than those with higher incomes. It is that the nature of the mortgage they receive can either amplify or mitigate that risk.
CAP worked with a group of borrowers who would normally be rejected for conventional, 30-year, fixed-rate mortgages. They had a median household income of $30,792 and 44 percent had credit scores of 660 or lower. Nearly 70 percent of CAP borrowers made less than a 5 percent down payment. Overall, 90 percent failed to meet at least one of the traditional lending criteria. Trouble waiting to happen, right?
Wrong. “Most of the households never missed a payment,” the researchers write. Some did have trouble, but the overall delinquency rate was almost as low as for prime fixed-rate loans, much better than the delinquency rate for prime adjustable-rate loans and one-fifth that of subprime adjustable-rate loans.
The CAP mortgages were carefully underwritten, fixed-rate loans without tricks or surprises. Borrowers were given counseling both to prepare them for homeownership and after purchase. It worked, providing sustainable homeownership for 46,000 families who have already built significant equity.
The subprime loans that blew up were marketed to similar customers, but they were dramatically different products. Often written with no documentation of income or assets, they had features like low teaser rates with payments that skyrocketed a few years later, negative amortization (meaning that the low early payments actually caused the loan principal and total debt to increase), high upfront fees and prepayment penalties. They were, in short, designed to suck money out of borrowers’ wallets without allowing them to build equity in their property. They made sense only if you believed that home values would rise rapidly and endlessly, making it irrelevant (from the lender’s viewpoint) whether the loan got paid off or not.
We all know how that turned out.
Simply put, the problem is not and never was “lending to minorities and risky folks.” It’s irresponsible and predatory lending practices that were allowed to run rampant.
This isn’t just about the past. The mythology about low-income home buyers is contributing to a profound reduction in access to mortgage loans, even for trustworthy borrowers. Banks have cut back, and a proposed federal rule could require securitized loans to have a 20 percent down payment — far more than is truly necessary to ensure responsible borrowing, as the CAP example shows. In a report released in July, Morgan Stanley argued that we may be heading toward a “rentership society,” in part because “The lack of mortgage credit availability due to tightened lending standards and lower consumer qualifications is severely hindering homebuying.”
Attacks on lending to low and moderate income buyers have gone far beyond what’s needed to avoid the excesses of a few years ago and create a stable system. This overreaction threatens to close the door to homeownership for millions of hard-working, responsible families.
There’s much more in Regaining the Dream that’s worth talking about. Next time, I’ll discuss another startling revelation in the book — a bit of disturbing history that explains why some communities have been at such a disadvantage in terms of homeownership, and how government policy put them in that position.
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