Thoughts, essays, and writings on Liberty. Written by the heirs of Patrick Henry.

“Men are expendable; women and children are not. A tribe or a nation can lose a high percentage of its men and still pick up the pieces and go on, as long as the women and children are saved. But if you fail to save the women and children, you've had it, you're done, you're through! You join Tyrannosaurus Rex, one more breed that bilged its final test.”     Robert A. Heinlein,    Address at the U.S. Naval Academy April 5, 1973

December 20, 2007

Federal Reserve To Reduce Your Access To Risk

by Brad Warbiany

In the subprime meltdown, there were some problems on the front end, and some problems on the back end. The front end is the lender/borrower relationship, and most of the major-media attention has been placed here. The major media is torn between blaming borrowers for taking too much risk, and blaming lenders for making too much risk available. Not enough attention is being placed on the back end, regarding the reason why those lenders offered so much risk. The Federal Reserve is attempting to fix the problem, but is only focusing on that front end:

The Federal Reserve moved Tuesday to impose new restrictions intended to curb unfair and deceptive home-lending practices and prevent a recurrence of this year’s meltdown in subprime mortgages.

By a 5-to-0 vote, the Fed approved a plan that would tighten provisions meant to protect borrowers and apply them to a far larger share of home loans — whether from banks, mortgage companies or other lenders — than under current regulations.

Well, in two sentences you understand the political leanings of this writer. “Unfair and deceptive” practices, which will be curbed by provisions “meant to protect borrowers”. If you’ve read much of what I’ve written on the issue, you’ll note that I’m not the type who angrily wants to punish borrowers for their actions, but neither am I about to call them victims.

Let’s face it. Lending standards were disregarded in a wave of irrational exuberance, and while many homeowners will end up paying the price for taking on risk they couldn’t accept, it also opened the doors to borrowers who may not have had access to home ownership in the past, and who will be able to weather the storm in a home of their own.

It’s clear that the fed is lining right up behind those who believe this bubble was caused by unscrupulous lenders, who simply want to foreclose on your home and ruin your life:

“Our goal is to promote responsible mortgage lending, for the benefit of individual consumers and the economy,” the Fed’s chairman, Ben S. Bernanke, said. “We want consumers to make decisions about home mortgage options confidently, with assurances that unscrupulous home mortgage practices will not be tolerated.”

The plan includes provisions that would require more extensive disclosures, restrict advertising and make it harder to lend to borrowers with little or no documentation and a questionable ability to repay. It would also allow borrowers, in some circumstances, to sue lenders who violate the rules.

You know, maybe it’s just the way I was raised, but when someone offers me a chance that they’re not quite sure I’m ready for, it gives me motivation not to let them down. Not to sue them if I fail. But then, maybe I was just born a generation or two too late. I don’t fare well in this victicrat society, where everything you do wrong is someone else’s fault– and they should be made to pay.

All this, though, obscures the real issue. It’s a lot more complex, and thus a lot less easy to demagogue, but let’s explore why those lenders were so loose with their cash. It’s not because they wanted to foreclose. It’s because they didn’t believe their own holdings were at risk, even though they were lending to people that they knew weren’t good credit risks. Mortgage brokers were willing to bend the rules on the front end, because they knew that there were willing buyers on the back end who thought they too were insulated from risk, a portion of the problem that deserved only one mention in this article:

But those personal misfortunes — whether the result of individual misjudgment, excessive optimism, shady lending or all of those — have mushroomed into a national problem, further complicated by the packaging and reselling of mortgages in ways that are so arcane that even some bankers acknowledge they are befuddled by them.

Simply put, nobody worried about the risk of foreclosure. Buyers didn’t care, because prices were going up so quickly that they were sure they’d be able to sell at a profit if things got bad. The mortgage brokers and lenders weren’t worried, because they were selling those mortgages off their balance sheet to investors. The investors didn’t care, because those mortgages were sliced-and-diced into all sorts of packaged investment options that was meant to distribute the risk evenly.

This isn’t an issue of poor lending standards, it’s an issue of lenders getting careless because they were no longer playing with their own money. It was an issue where everyone thought someone else was carrying the risk, when in reality they all were carrying the risk.

In short, the real result of these actions by the fed will only hurt poor and mid-credit borrowers, who now won’t be able to get a loan even if they’re able to repay it. This is done in order to fix a problem caused by rich investors seeking high returns in an expanding asset bubble, and willing to invest in products they didn’t understand in order to find them.

In the days of the tech bubble, it was commonplace for investors to throw gobs of money at companies that didn’t produce anything– be it software, or widgets, or positive revenue. They forgot that they weren’t buying a product, they were buying a belief– and beliefs change fast in the investing world. In this bubble, they threw gobs of money at housing-backed assets, thinking that if there were a few isolated foreclosures, they were protected. They forgot that it was a housing bubble, and that prices only keep rising if everyone believes prices will continue to rise– and beliefs change fast in the investing world.

So thanks a lot, Federal Reserve. Your band-aid will hurt the middle class, and won’t fix the problem. But I’m sure you feel real good about yourselves right now.

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2 Comments

  1. Group Think is a distructive force in human nature. While everone was piling on the band wagon, no one thought to look around the next curve and failed to see the cliff ahead.

    It’s not going to be the fall that hurts, it’s going to be what happens when the overloaded wagon hits the bottom….. in about 5 years….

    Comment by mlimberg — December 20, 2007 @ 5:46 am
  2. This bandaid will not impact the working poor as you have stated or the middle class it will impact the entire process and disrupt almost all buyers.
    I do not believe the Feds should regulate it or any other market. If the market determines it is a risk they will bet on and the buyers decide they can accept the terms then government should not tell them otherwise. The real problem is the inability of everbody to not except their mistakes and move on.
    I have lost everything because of my mistakes in the mortgage industry: entire business and home but guess what it was my mistake, I learned and I moved on with my life. I dont need the nanny state to protect me or stop me from repeating my past foolishness.

    The sad thing is with government regulations comes a lack of freedom to ALL not just a few.

    Comment by LBest — December 20, 2007 @ 10:41 am

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