Morici: Tough Choices Behind Obama's Mortgage Initiative
NEW YORK (TheStreet) -- President Obama wants private banks to use depositor and investor funds to write 30-year fixed rate mortgages at affordable rates. He won't admit those goals and others imposed by Congress require the federal government to guarantee mortgages and banks against failure.
Mortgages require banks to borrow short and lend long. They pay depositors and investors interest rates that fluctuate and offer funds to homeowners at fixed rates for the duration of loans.
Thirty-year mortgages require banks to bear three risks: homeowners will keep their jobs and not become disabled; rates paid by banks for money won't rise above the loan rates, and homes remain marketable at prices equal to outstanding loan balances.
Bankers are not clairvoyant, and before World War II, most mortgages were no more than three to five years with balloon payments when loans came due. Then federally sponsored, but privately-owned, Fannie Mae and Freddie Mac began purchasing from banks mortgages that met stringent conditions -- prime loans -- and a wholly private market emerged for sub-prime and jumbo loans.Fannie, Freddie and Wall Street investment houses sold mortgages bundled into bonds to insurance companies, pension funds and others. Fannie and Freddie guaranteed the loans behind their bonds by charging borrowers fees equal to a few percent of their loan, while investors that bought securities backed by sub-prime and jumbo loans took their chances as if they were buying corporate bonds. The system was premised on banks carefully evaluating borrowers -- verifying their incomes and stability of their jobs -- and appraisers accurately valuing properties. Leading up to the financial crisis, banks and appraisers did a sloppy job, and excessive lending drove home prices to bubble levels. When those collapsed, Fannie, Freddie and private banks required bailouts -- homeowners lost jobs, couldn't pay what they owed, and banks couldn't sell foreclosed properties. Bankrupt, Fannie and Freddie were purchased by the Treasury for $188 billion, and the FDIC absorbed the losses of smaller failed banks. The Treasury and Federal Reserve bailed out the biggest banks. Prior to the crisis, Congress forced banks to lend in disadvantaged neighborhoods, where property values are more subject to collapse and job security less certain. Adding those risks to bank portfolios guaranteed many would take outsized losses.
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