Low-Income Borrowers Blamed in Bailout Crisis
Tuesday, September 30, 2008 at 6:00 am
Did poor and minority borrowers cause the housing crisis?
That seemed to be the consensus from the fight over the failed $700 billion bailout bill. As Congress and the Treasury Dept. debated how to fix the mortgage mess, the battle over what caused it took hold.
A prime suspect soon emerged: The government forced banks, lenders and Fannie Mae and Freddie Mac to make loans in poor neighborhoods to meet affordable housing goals and regulations. The loans went bad, setting off the market meltdown.
As a measure of how widespread that idea became, House Republicans revolted at an plan to give 20 percent of any government profits from the sale of toxic mortgage securities to affordable housing groups — asserting that ACORN and others like it caused the problem in the first place.
On Sunday, as it reported on the bailout bill negotiations in Congress, Fox News continually explained that ACORN and other community groups pushed for government regulations that caused the foreclosure crisis, citing this Wall Street Journal editorial as a source.
In the end, the proposal for money for housing groups was dropped, confirming that most lawmakers probably agreed with that theory — which has taken hold on the Internet, in conservative circles and in the business press. Last week, Investor’s Business Daily ran a front page story: “How a Clinton-era Rule Rewrite Made Subprime Crisis Inevitable.”
The only problem with all this: it’s completely wrong.
Neither the Community Reinvestment Act — the law most cited as the culprit — nor other affordable housing goals set by the government forced Fannie, Freddie or any other lender to make loans they didn’t want to. The lure of the subprime market was high yields and healthy profit margins — it’s as simple as that.
“The rest is a lie — and it’s industry propaganda,” said William Brennan, director of the Home Defense Program of the Atlanta Legal Aid Society, who, in 1991, began raising the alarm over predatory lending in poor neighborhoods. “It’s also racist.”
Popular belief now holds that government regulators ordered Fannie and Freddie to buy more loans made to low-income borrowers, and that housing advocates applauded the agencies’ move to enter the subprime market. In fact, the exact opposite is true, Brennan said.
He was among many advocates, back in 2000, who warned that subprime loans were dangerous and decried Fannie and Freddie’s decisions. By purchasing subprime mortgage-backed securities, the two agencies ended up providing capital to predatory lenders — leading to the foreclosures of borrowers Brennan and others saw in increasing numbers coming to them for help.
It makes no sense that housing advocates would have pressured the agencies. They were stuck with cleaning up Fannie and Freddie’s mess.
“They weren’t forced to do it,” Brennan said of Fannie and Freddie’s entry into subprime. “They wanted to do it. They were looking at raising their profit margins; and they wanted to please their shareholders.”
Everyone’s pointing fingers at Fannie and Freddie now because it’s convenient — they are down and out, seized by the government and they can’t defend themselves, said Guy Cecala, publisher of Inside Mortgage Finance, which follows the subprime industry. It’s all part of larger search for villains in a saga where everyone is guilty, he said.
“Basically, everybody’s rewriting history now,” Cecala said. “One thing that’s difficult is that there is no villain when everyone can be blamed.”
To Gregory Squires, a sociologist at George Washington University who studies banking practices, the motivation in the blame game is more nefarious. “My guess is that there are some observers out there who view any targeted effort to serve under-served communities as problematic,” Squires said, “and are quick to point to such initiatives today to try to explain away our problems. Better to point to low-income blacks than high-income [white] executives, perhaps.”
The main initiative usually cited is the Community Reinvestment Act, a 1977 law that required banks to provide credit to the communities they served. The law was an attempt to offset years of redlining in poor neighborhoods and in minority communities, some of which were middle-to-high income, that had been cut off from conventional credit. In the late 1980s and mid-1990s, the law was strengthened so that banks pursuing mergers or takeovers had to show their compliance with the CRA to get federal approval.
In recent months, the idea that the CRA caused the housing crisis took hold, as proponents of the theory argued that lenders were forced to make bad loans to poor borrowers to meet their CRA requirements. That expanded into blaming the poor and minority borrowers, and the community organizers who helped them:
“I always listen to Mark Levin while making Friday night dinner … Funnily enough, he has explained just what it is community organizers do. Advocating, for instance, for affordable housing for the poor — the poor who traditionally rent, because they are bad loan risks. The day that reasoning by banks was junked as “racist,” was the day this crisis became a possibility.,” – Lisa Schiffren, NRO.
But despite its current portrayal as a burdensome regulation, CRA rules were always viewed as loose guidelines within the industry, said Cecala, of Inside Mortgage Finance. Banks were routinely found in compliance with the CRA, and an insider joke among bankers was that you’d have to mug a disabled, elderly, minority homeowner to lose your outstanding CRA rating, Cecala said.
Beyond that, as the housing boom grew, so did the number of unregulated mortgage lenders, who made the bulk of subprime loans and who didn’t even have to comply with CRA rules, said John Taylor, president of the National Community Reinvestment Coalition, which represents housing and community development groups. Some 75 percent of subprime loans were made by independent mortgage banks and lenders not covered by the CRA, he said.
Taylor’s group met with Federal Reserve Chairman Ben Bernanke last week, and he was “aghast” that the CRA was being fingered as a culprit, Taylor said.
“People see an opportunity here, because the economy’s in trouble,” Taylor said. ” The easiest thing to say is, ‘Oh, it was all those poor people.’ It’s easier to try to shift the focus, and to blame the victims and blame the government.”
Banks that were making CRA loans profited from them, and they had few complaints, said Squires of George Washington. If they had tried to sell high-rate subprime loans and count them toward their CRA goals, it wouldn’t have worked.
“The CRA explicitly calls for safe and sound lending,” Squires said. “It does not call for lenders to engage in riskier lending than they would normally practice. A few years ago, both the Fed and Treasury conducted studies which found that CRA-related lending was profitable. If a lender is making bad loans, or a compliance officer is encouraging a lender to do so, neither party understands the CRA. That is not the fault of the legislation — but of those who do not understand it.”
When it comes to Fannie and Freddie, there’s also a lot that’s been misunderstood.
The two agencies were created by Congress but privately run, until their takeover. They’ve always had dual missions — to serve their shareholders and increase homeownership.
Like the CRA rules, requirements for either agency to provide affordable housing were pretty loose, Cecala said. At the end of the year, both agencies usually would meet their goals by purchasing some loans for multi-family dwellings, he said. In 2004, the agency that regulated their housing efforts, the U.S. Dept. of Housing and Urban Development, informed both entities they needed to increase affordable housing efforts, with the mortgage market so strong.
But HUD never told Fannie and Freddie to jump into the subprime market. Both chose to dive into subprime mortgage securities, and the purpose wasn’t to satisfy regulators — it was to increase market share, Cecala said. Afterward, they asked HUD if some of the securities they purchased could count toward their affordable housing goals. HUD agreed.
Fannie and Freddie were huge players in the subprime market, buying 48 percent of all subprime-mortgage-backed securities offered in 2004 — way above anything they would ever need to meet affordable housing goals. They continued to buy loans made to multi-family dwellings, as in the past, to satisfy regulators.
Despite claims to the contrary, the two did not rely, for the most part, on subprime securities to meet their regulator’s goals. In any case, the majority of subprime loans were refinancings, which wouldn’t have counted anyway.
“Everybody and their dog had refinanced their prime-rate mortgage” by 2003, Cecala said. And there was no way to make money except by aggressively moving into subprime — meaning it was a business decision by Fannie and Freddie, not a government-mandated one.
The arguments over who caused the crisis go beyond politics alone.
In the last two decades, non-profit community development groups across the country have been making strides in helping increase home ownership among under-served populations – but not through subprime lending. Groups like Manna, Inc. in Washington counseled homeowners through Homebuyer’s Clubs, a support group for borrowers that helped them to clean up credit problems, save for a downpayment and prepare for homeownership.
The default rate on Manna’s prime, fixed-rate loans is zero. There are streets in Washington’s tough Anacostia neighborhood, once abandoned and dangerous, that have been rebuilt entirely by Manna, one house at a time. Banks like working with these groups because it’s profitable for them while it increases homeownership.
That all this success could become sullied by partisanship and finger-pointing worries many housing advocates. “The facts don’t support the people who are trying to undermine fair lending,” NCRC’s Taylor said.
But in the bitter politics of bailing out, the search for a scapegoat is only likely to continue.
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