Real cause of the subprime mortgage crisis



If you want to know the root cause of the current subprime crisis, there are
three things you need to understand:
First, the problem was caused by politicians (primarily Democrats) pushing
their "entitlement" agenda in to the free market. It started with "The
Community Reinvestment Act" (CRA) which required banks to make high risk
loans to minorities and others who could not have qualified for a home loan
or business loan under normal circumstances.

Second, Bill Clinton further liberalized the CRA and signed a bill to repeal
the Glass-Stengal Act. This Act was put in place in the 1930s following the
bank failures during the Great Depression. It was designed to keep banks
out of the speculation business.

Third, George Bush proposed major changes in the CRA, FMAE and FMAC in 2003
that would have tightened requirements for these business loans and subprime
home mortgages. The vote went along party lines, the Democrats won and the
proposed changes were defeated.


The Community Reinvestment Act (or CRA, Pub.L. 95-128, title VIII, 91 Stat.
1147, 12 U.S.C. § 2901 et seq.) is a United States federal law that requires
banks and savings and loan associations to offer credit throughout their
entire market area and prohibits them from targeting only wealthier
neighborhoods with their services, a practice known as "redlining." The
purpose of the CRA is to provide credit, including home ownership
opportunities to underserved populations and commercial loans to small
businesses. It has been subjected to important regulatory revisions.




Original Act
The CRA was passed into law by the 95th United States Congress in 1977 as a
result of national grassroots pressure for affordable housing, and despite
considerable opposition from the mainstream banking community.[1] Only one
banker, Ron Grzywinski from ShoreBank in Chicago, testified in favor of the
act.[2] The CRA mandates that each banking institution be evaluated to
determine if it has met the credit needs of its entire community. That
record is taken into account when the federal government considers an
institution's application for deposit facilities, including mergers and
acquisitions. The CRA is enforced by the financial regulators (FDIC, OCC,
OTS, and FRB).

The bill encouraged the Federal National Mortgage Association, commonly
known as Fannie Mae, to enable mortgage companies, savings and loans,
commercial banks, credit unions, and state and local housing finance
agencies to lend to home buyers. It also encouraged the Federal Home Loan
Mortgage Corporation, commonly known as Freddie Mac, to buy mortgages on the
secondary market and sell them as mortgage-backed securities on the open
market.[3] Due to massive financial losses, on September 7, 2008 the Federal
Housing Finance Agency (FHFA) put Fannie Mae and Freddie Mac under the
conservatorship of the FHFA.[4]


[edit] Clinton Administration Changes of 1995
In 1995, as a result of interest from President Bill Clinton's
administration, the implementing regulations for the CRA were strengthened
by focusing the financial regulators' attention on institutions' performance
in helping to meet community credit needs.

These revisions[5] with an effective starting date of January 31, 1995 were
credited with substantially increasing the number and aggregate amount of
loans to small businesses and to low- and moderate-income borrowers for home
loans. These changes were very controversial and as a result, the regulators
agreed to revisit the rule after it had been fully implemented for seven
years. Thus in 2002, the regulators opened up the regulation for review and
potential revision.[citation needed]

Part of the increase in home loans was due to increased efficiency and the
genesis of lenders, like Countrywide, that do not mitigate loan risk with
savings deposits as do traditional banks using the new subprime
authorization. This is known as the secondary market for mortgage loans. The
revisions allowed the securitization of CRA loans containing subprime
mortgages. The first public securitization of CRA loans started in 1997 by
Bear Stearns. [6] The number of CRA mortgage loans increased by 39 percent
between 1993 and 1998, while other loans increased by only 17 percent. [7]
[8]

Other rule changes gave Fannie and Freddie extraordinary leverage, allowing
them to hold just 2.5% of capital to back their investments, vs. 10% for
banks. By 2007, Fannie and Freddie owned or guaranteed nearly half of the
$12 trillion U.S. mortgage market. [9]


George W. Bush Administration Proposed Changes of 2003
In 2003, the Bush Administration recommended what the NY Times called "the
most significant regulatory overhaul in the housing finance industry since
the savings and loan crisis a decade ago." [10] This change was to move
governmental supervision of two of the primary agents guaranteeing subprime
loans, Fannie Mae and Freddie Mac under a new agency created within the
Department of the Treasury. However, it did not alter the implicit guarantee
that Washington will bail the companies out if they run into financial
difficulty; that perception enabled them to issue debt at significantly
lower rates than their competitors. The changes were generally opposed along
Party lines and eventually failed to happen. Representative Barney Frank
(D-MA) claimed of the thrifts "These two entities-Fannie Mae and Freddie
Mac-are not facing any kind of financial crisis, the more people exaggerate
these problems, the more pressure there is on these companies, the less we
will see in terms of affordable housing." Representative Mel Watt (D-NC)
added "I don't see much other than a shell game going on here, moving
something from one agency to another and in the process weakening the
bargaining power of poorer families and their ability to get affordable
housing."[11]



Criticism
Some economists have claimed that the CRA encouraged risky lending[12][13]
and contributed to the development of the subprime mortgage crisis.
According to the Wall Street Journal, the law forced banks to make loans to
borrowers who often could not repay them.[14] Federal Reserve chairman Ben
Bernanke admitted that an underlying assumption of the CRA - that more
lending is always better for local communities - is questionable.[15]
However, this is disputed by Robert Gordon who has pointed out that
approximately half of the loans were made by independent mortgage companies
that were not regulated by the CRA, and thus had no government obligation to
offer credit to minorities. In the later part of the crisis, these mortgage
companies made subprime loans at twice the rate of CRA banks. Another third
of the major subprime lenders were regulated, but had very little CRA
involvement.[16][17] Gordon also makes the argument that the weakening of
the CRA in 2004 was followed by intensified subprime lending.[16] Austrian
economist Thomas DiLorenzo counters Gordon's statistic by arguing that even
if half of the subprime loans were made by non-CRA companies, the CRA had
still caused tens of billions in defaults on mortgages by unqualified
borrowers. He also argues against Gordon's three main propositions stating
that Gordon's first two propositions flatly contradict each other, whereas
the third is unequivocally false.[18]

Congressman and 2008 Republican presidential candidate Ron Paul has
partially attributed the ongoing subprime mortgage crisis to legislation
such as the CRA.[19] Economist Stan Liebowitz has also expressed his opinion
that banks were forced to loan to un-credit worthy consumers with "no
verification of income or assets; little consideration of the applicant's
ability to make payments; no down payment." However, the chief executive of
Countrywide Financial, the nation's largest mortgage lender, is said to have
"bragged" that to approve minority applications "lenders have had to stretch
the rules a bit", suggesting that Countrywide was responsible for relaxing
its standards rather than the other way around.[20]



Irish Mike




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