by Jeff Sovern
The Becker-Posner Blog, written by Law and Economics Guru Richard Posner and the Nobel Prize-winning economist Gary Becker, always offers interesting commentary. In December they took on the suprime mortgage crisis (you can find their posts here, though you have to scroll down a bit). The posts are worth reading in full, but here are some excerpts. Becker offers this assessment about the Fed's proposal to prevent recurrences of the crisis:
Given the low interest rate lending atmosphere of the past few years, it is highly unlikely that borrowers would have turned down the mortgages they received if they had much better information about terms, or that lenders would have been more reluctant to originate or hold these mortgage assets if they had better information about the credit and other circumstances of borrowers. This is why I doubt that the rules proposed * * * by the Federal Reserve to require lenders to get more information about borrowers, and to provide more information to borrowers about the terms of mortgage loans, would have been effective in warding off this crisis, or will be effective in preventing future crises.
I'm not sure what the basis for his assumptions is, but it does make you think. He also comments:
* * * it is ironic that only a few years ago, banks were being investigated for "redlining"; that is, for avoiding lending to blacks and other residents of poor neighborhoods. The Fair Housing Act of 1968 prohibits discrimination in lending, and The Community Reinvestment Act of 1977 requires banks to use the same lending criteria in all communities, regardless of the living standards of residents. As a result of the present crisis, however, banks and other lenders are being criticized for equal opportunity lenient lending to all, including black residents of depressed neighborhoods.
That isn't precisely how I interpret the CRA, and I would have mentioned ECOA's prohibition on discrimination in lending, and my own understanding of the criticism for lenders is not that they provided equal opportunity lending to all, but that they made some loans on terms unsuited to their borrowers, but perhaps he's seen some criticism that I haven't. In any event, the perspective is interesting. Here's an excerpt from Posner's post:
It has been argued that the people who took out subprime mortgages with adjustable interest rates did not understand the risks they were assuming, and that the banks that bought mortgage-backed securities did not understand the risks they were assuming. I am skeptical. Suppose you have a low income, you'd like to own a house, and a mortgage broker offers to arrange a mortgage that will cover 100 percent of the price of the house. What do you have to lose by accepting such a deal? Since you haven't put up any capital, you have no capital to lose if you lose the house because you cannot make your monthly mortgage payments. As for the banks, they rode the bubble for too long; but, to repeat, had they got out too early, they would have left a lot of money on the table.
If there's any evidence floating around that borrowers did understand the risks they were assuming, I'd love to hear it.