The Road to Hell Is Paved by ... Lax Lending Rules
Hall of Fame catcher Yogi Berra supposedly coined the phrase “It’s like déjà vu all over again.”
The amusingly redundant saying seems especially apt – if not all that amusing – following the announcement earlier this week that federal housing regulators, via the mortgage servicing giants Fannie Mae and Freddie Mac, plan to loosen lending requirements to help jump-start the sluggish U.S. housing market.
Perhaps the most eye-catching aspect of the broad proposal designed to ease the path for lower-income families and first-time buyers toward home ownership is to once-again allow borrowers to put down as little as 3% for a down payment.
Anyone who watched U.S. housing prices soar early last decade only to tumble calamitously as millions of Americans defaulted on their home loans can be forgiven for rolling their eyes, shaking their heads and slapping their foreheads while uttering, “Here we go again.”
Their sense of foreboding is entirely warranted.
Twenty-years ago, as stock markets soared and the economy boomed during the Clinton Administration, the federal government – Democrats and Republicans alike – made increasing home ownership a priority. After all, they reasoned, isn’t owning a home the epitome of the American dream?
With that laudable goal in mind, housing and lending regulators in the mid-1990s initiated a series of steps intended to bring that elusive goal of home ownership closer to millions of lower-income families, many of them minorities, which had up to then been shut out of the housing market.
Greed Led to 2009 Financial Crisis
It worked. Home ownership rates in the U.S. rose from 65.1% in 1995 to 69% in 2005, according to the Bureau of Labor Statistics. Meanwhile, during roughly the same period mortgage originations exploded by more than 600%, from $459 billion in 1990 to $2.9 trillion in 2005.
It’s the latter of those two figures that led to all of the subsequent trouble, and the primary cause of those troubles can be summed up in one word: greed.
After government regulators eased mortgage requirements – all the while promising to backstop many of those loans through Fannie and Freddie guarantees -- lenders began essentially rubber-stamping so-called subprime loans to millions of borrowers with virtually no realistic hope of paying the money back.
It didn’t matter. The money flowed in great torrents from Main Street to Wall Street and, for a while at least, everybody won. Home values soared, elevated by roaring demand triggered by the lax lending environment. Wall Street bankers printed money packaging the loans and selling them to an audience of seemingly insatiable investors. Bonuses for Fannie and Freddie executives also soared.
Then it all came tumbling down.
This is hardly ancient history. Nearly 10 million Americans are still underwater on their mortgages, owing more on their home loans than their homes are worth, according to data released in May by research firm Zillow. The biggest Wall Street banks are all fresh off multi-billion dollar government settlements stemming from charges they lied to investors about the quality of the mortgage-backed securities they packaged and sold in the runup to the financial crisis. And Fannie and Freddie remain under a government conservatorship put in place in 2008 when the two quasi-government entities teetered on the brink of collapse.
The return to a lax lending environment, notably allowing for 3% down payments, seems a sure fire way to start this catastrophic domino-effect all over again. Putting just 3% down on a home in a potentially volatile housing market would seem the first step toward leading a whole new generation of homeowners underwater.
Road to Hell…
Let’s do the math: someone buying a home for $300,000 needs to come up with just $9,000 for the 3% down payment. After subtracting the down payment, their mortgage comes to $291,000. Should a slight downturn in the housing market send the value of their home down to say, $275,000, that homeowner – and potentially millions like him across the country – will wind up underwater. And with just a 3% equity stake in the home, the prospect of mass defaults and foreclosures – in other words, people just walking away from their mortgages -- rears its ugly head again.
For years, ever since the pendulum swung in the opposite direction after the housing bubble burst in 2008, mortgage lenders and housing advocates have argued that lending requirements have become too strict, that otherwise creditworthy families were being denied the opportunity to buy a home because banks had grown understandably skittish.
According to that argument, despite the lowest mortgage rates in decades, overly stringent credit and down payment requirements have blocked millions of potential homeowners from taking advantage of the low rates. What’s more, the overly-strict lending environment has, in turn, contributed significantly to the slow economic recovery.
Now the pendulum is apparently swinging back.
Federal Housing Finance Agency Director Mel Watt addressed those concerns earlier this week in a speech to lenders during which he announced the newly proposed laxer standards. But Watt is known as a housing advocate, eager to expand home ownership to lower-income Americans seeking to achieve the American Dream.
An honorable endeavor, to be sure. But doesn’t this all sound a bit familiar?
In addition to the winsome “Yogism,” another phrase comes to mind: “The road to hell is paved with good intentions.”