Mortgage Loan Causality

The point which is being overlooked by those who find neither fault with the government creating a Community Reinvestment Act or the banks that agreed to do the loans on terms that often were based not on a person's ability to pay but instead upon their ability to be defined as a minority of some sort < race/gender/national origin/disability> is that while only 20% of them went bad, that 20% was bundled in resellings of the mortgages.

Consider in conforming loans, the default rate was less than 3%. Of those in the purview of the governmental program 20 % failed.

So when you had a 20% failure rate embedded in bundles of mortgages, suddenly instead of the normal default rate of only 3%, the holders of these securities began finding out that the default rates were maybe as high as 10%. In the mortgage security business your profit margins are razor thin. Normally 2%. Which is fine when you look at the cost of borrowing money at the time. But in the last 18 months, not only were these bundles seen to be seriously overvalued but also they represented additional costs in terms of what happens when a loan defaults. In markets heavily served by CRA loans, the number of foreclosures contributed directly to the decline in real estate values. People who had jumbos or ARMs suddenly couldn't sell their properties before the balloon payment came due or the mortgage interest rate expanded.

For the holders of mortgage bundles or derivatives based upon bundled mortgages, the decline in values in markets further depressed the value of their holdings. As more defaults and foreclosures happened, the valuation of mortgage securities declined. Meaning even if a mortgage bundle had no CRA mortgages within it, the market for existing real estate as it declined inherently made the bundles less valuable.

So anyone who says the mortgage loan practices of the federally backed home ownership programs, or the clearinghouses of Freddie and Fannie, or the fact that the community reinvestment act loans has nothing to do with the collapse nationwide of the mortgages and home lending business cycle is smoking something funny.

Are there other things that have contributed to the current recession? Yes. But considering the slice of the economy represented by the housing industry, when that industry gets hit with the negative effects of a government policy, the fall out will be massive.

By way of example. What if the Congress had initiated a "everyone gets car financing" plan? Suddenly lenders and auto dealers would be chomping at the bit to participate in the government's policy plan. But eventually, a lot of people would have car loans they cannot afford. The holders of those loans now find that they cannot turn them into secure assets that can be commoditized. Which then gets further compounded by the fact that now lots of people are having their cars repossessed. And a lot of other people who normally could get a car can't even get the financing. At that point you would have the big 3 coughing and wheezing.

Thing is the collapse of the housing market hit the financial sector so completely that it dried up any credit for day to day normal activity. So you have seen it transfer over into consumer credit markets. You have seen it trickle over into durable goods purchases. You have seen it cause a situation where automobiles cannot be purchased by average consumers.

This whole collapse was the fault of Bush not vetoing the measure. Even though he opposed the bill's expansion. It is also his fault in that he did not use the Federal Reserve board and the SEC to adequately investigate the degree of holdings the nation's top banks had in securitized commodities backed by mortgage derivatives. He could have stopped this 18 months ago. He didn't.

And it isn't as if he didn't realize the tidal wave was coming because even the people on the internet knew something was up.

The CRA compliant banks are coming out fine because most are local, small and sold the actual mortgages to Freddie and Fannie who in turn sold them to the investment banks and derivatives brokerages. To say that the CRA banks are "fine & dandy" avoids the reality that they already took the origination fee and didn't hold the paper anymore- often within a day of each closing. The evidence is that the government policy, served and implemented by small local banks became a poison which turned the investment banking industry on its head.