Friday, August 31, 2007

'Sub-prime' lending: who knew Mr. Potter was right?


Today, the President offered a "package" of things aimed at helping folks caught up in this "sub prime lending" problem. He wants to do some things to help the borrowers who are in danger of losing their homes, to take steps against "predatory lending," to change tax laws, and to have government agencies involved in home-buying and related borrowing to have more "flexibility."

Help me understand this.

Folks borrowed money to buy a home. The whole reason these loans are "sub prime" is that they would not have qualified, in the past, or don't qualify, in usual situations, for loans, or loans on these terms -- for lack of a good enough credit history, or they are a "bad risk."

But, for various reasons--feel free to fill in this part via the comments--someone lent them money, perhaps with no money down, or so forth.

And, now, the chickens are coming home to roost, as it were--it turns out, some loans are "bad risks" for good reason.

Now, as to the idea of "predatory lending." Sounds bad; and given the reality of Original Sin, I am confident there are predators out there. Still, this seems a mite too easy an explanation.

I recall an editorial cartoon by the talented-but-tiresome Pat Oliphant, depicting the borrowers as helpless, lost-at-sea waifs with dazed looks in their eyes. Just as an aside, it is remarkable to me when someone, offering a "compassionate" view of humanity, unconsciously reveals how low an opinion he or she actually has of real human beings. In this case, borrowers are childlike figures, whom we must patronize and protect. There are such people, no doubt, but this whole problem is about preying on grownups who really should have others as custodians to manage their financial affairs?

So beyond the lost-at-sea innocents being devoured by ravenous wolves (this happens, I don't deny it), are borrowers and lenders who, with eyes wide open, came together to try to get a good deal. If you are "high risk," and you want a mortgage, and some bank will give you one, you are not thereby a "victim" when you turn out unable to pay the bill. Nor, for that matter, is the lender who goes crying about the pain of so much default.

Now we hear about what the government must do now to help, but what I'd like to hear more is questions about what the government might have done to help create this problem?

After all, wasn't President Bush saying, a few years back, how he wanted to help get more and more people to be homeowners? Every politician endorses that, and of course, it's a good goal.

But there are tedious ways of getting there, and there are shortcuts. We all like shortcuts. I'd be very interested to know what the last round of legislation, regulation, tax-policy and so forth was on this, and I have a hunch at least some of it was giving lenders "incentives" to do these things.

By the way, in case someone thinks a priest doesn't know about these things: I bought a home before I entered the seminary; I went through what is normal in these situations, including seeking a loan on a home that was just out of my reach--the builder said, don't worry, we can make the loan happen. Well, it didn't happen, and it was disappointing to me. But I did buy something less ambitious, and I made it work.

Still, like many folks, I got a bit of help from my dad on the down payment, and I had to buy a mortgage insurance, "PMI" if memory serves, precisely because I was a bit riskier than others, given what I put down--10%, as I recall. I sold that house, when I entered the seminary, despite the fact that it almost certainly was going to appreciate in value, and it really did, being in the D.C. metro market, because I did not want the headaches and there was a risk that I'd have to cover payments out of my pocket if it wasn't rented 12 months a year, or a bad renter caused me headaches.

And, I suppose someone may suspect me of a lack of sympathy.

No, I have great sympathy for folks who had great hopes they could make it work, and they saw it all run through their fingers. I can't imagine the pain of losing ones home; but it happens too often to people who were never high-risk, but bad things happen like divorce or abandonment, medical crises, loss of a job, and so forth.

But when lenders say no to a loan, they are also accused of a lack of sympathy. I love the movie, "It's a Wonderful Life," but who was the villain in the movie? The cold-hearted banker, Mr. Potter, while the heroic George Bailey gives out what sort of loans? Why, sub-prime! Somehow, it all works in Bedford Falls, but reality has a way of reasserting itself. And perhaps some of the folks who have faced foreclosure would have been treated more compassionately if the lender had said "no"?

But when's the last time you heard anyone get cheers for advocating lenders do that? By the way, I don't recall the president sounding the alarm, say two years ago, that we were heading for trouble. Nice job that: "I'm from the government, and I'm here to help you (ahem, at least in part from what we did to help you the last time, but nevermind about that...)."

16 comments:

Jackie said...

Let's face it - the root cause of MOST (not all) foreclosures is materialism and a lack of discipline.

'I want to live at the same standard my parents did after 20 or 25 years of work - now - as I enter the workplace.'

'I want really nice furniture in my new house - I can't be seen with that ratty stuff.'

'I must have new clothes, sporting equipment, lawn furniture, ridding mower, and evenings out at dinner - I can't deprive myself of these things - I deserve them.'

Last I heard if you spend less than you make, have some savings set aside to buffer yourself against emergencies, and save and give - without an extreme emergency (catastrophic illness, etc.) you don't get foreclosed.

This is really materialism and lack of dicipline.

Anonymous said...

"He wants to do some things to help the borrowers who are in danger of losing their homes..."

Great. Will he personally be writing checks to these folks? Or will the help come from those of us who are trying to live within our means, not buying homes we can't afford, making do, and doing without.

Lynne said...

So the question is, would you rather live in Pottersville or Bellows Falls?

Anonymous said...

Ahem....

I believe the Holy Church has a long history of condemning USURY as a sin. You analysis seems to have skipped over that.

TerryC said...

Rather hard father. While I do think that there are certainly people who have bad credit in many parts of the country housing costs are just ridiculous. So you rent for more than many people are paying to buy. Or you try to buy, but find that only families with two working professional can afford a decent house which is not falling apart.
Also people are not necessarily going into foreclosure because they overspend. The problem is they could only afford a house by keeping their payments low on a variable rate mortgage. The problem is that interest rates are going up and now they can't afford the payments.
Considering wages have been flat for almost a decade it's not hard to understand why these folks couldn't put money away to afford the big down payment that would let them get a good rate. Some of us don't have parents wealth enough to bankroll our first house. My son certainly won't be getting any such sum from me. The only reason I got a good rate is that Uncle Sam subsidized my loan because I'm a veteran.
As for the president don't think for a minute he is worried about the individuals who are about to go out on the streets. He's worried about the banks and credit unions which will fold if they're forced to foreclose on hundreds of thousands of houses in this market.
Just like when they government bailed out all of the rich fat cats who made bad investment decisions in the Savings & Loan bailout, except purely by chance some regular people who made bad decisions might actually benefit in this multi-billion dollar bank bailout, instead of only rich guys who made bad decisions.

Fr. Larry Gearhart said...

I'm inclined to agree with terryc. The reality, of course, is that there are irresponsible borrowers, and there are irresponsible lenders. Yet, I had to gag when I first heard about "variable interest rate" mortgages. Talk about bait and switch. That was one for the books. And, no, I'm afraid the vast majority of people are not capable of fully appreciating the mathematics of simple compound interest.

There may be "a few scraps falling from the master's table" in the Fed's pending manipulation of credit, but I doubt many defaulting homeowners will benefit.

As to comparing today with the situation in the time depicted in "It's a Wonderful Life," there is a huge difference in the work ethic and in the consumption ethic today. "Subprime" loans to immigrants with no collateral but a steady job were a much better deal than most bankers in those days were ready to admit, or it would have been were it not for the bursting of the speculation bubble in 1929. The immigrants were buying in at the bottom of the market. People a few years ago were buying into the middle, but without collateral.

Hah! There was another example of the big boys playing fast and loose with credit, in order to make "easy money."

CPT Tom said...

I have to agree with Jackie. This is a sad case of materialism. My first home that I owned was 700sq feet and we had us and our three young kids in that house. This was in the late 80s when the North East had a ridiculous boom in the housing market. The house loan was at 11 percent, and that was with 20 percent down. We did it with some help from my father in law on the downpayment. We scrimped and saved to pay for it. We saved for our next house that was more than double the size, but still reasonably priced.

I don't see many buying a home today thinking about buying what they need, but rather they have bought the image the world says they deserve. This sense of false entitlement helps ensnare many in to a life of following the god of materialism and not our Lord our God. This is why most families have to have both parents work, which will tear at the family fabric, this is why most parents can't "afford" to have more than a couple of children. They can't bear to give up the lifestyle they are accustomed to.

I have no sympathy for the banks. They are on a binge as well. They should of learned from the real estate collapse of the early 1990s in the North East. Since they haven't, history will repeat itself, and the herd of banks will be culled.

Father Martin Fox said...

TerryC:

Too-easy credit has a great deal to do with soaring prices -- that's how inflation works.

I.e., maybe you have cause-and-effect reversed: the easy-term loans may have contributed to soaring real estate prices.

I had an adjustable-rate mortgage when I had one. Perhaps they've changed, but at the time, it adjusted once a year, and it could only adjust up so much at a time. And, the adjustment, as I recall, didn't take effect immediately. Meaning, I had plenty of warning it was coming.

In addition, interest rates are still pretty low now -- and when you have an adjustable-rate mortgage, it used to be the rate you got was 1-3 percentage points lower that a fixed rate.

While everyone is for home-ownership, not owning ones home is not a great tragedy. Lots of people prefer not to own their own homes. It doesn't always follow that owning a home is a better investment than, say, renting and investing extra money elsewhere.

Anyway, I thought my point was that these loans ran in the face of reality -- reality being that there really are such things as bad-risk loans. The answer to hard reality is not to wish it were otherwise, but to do what you really can to change it.

Father Martin Fox said...

Father:

I was being facetious about "It's a Wonderful Life" which is a wonderful movie, but I doubt it was intended as a presentation of economics.

I think adjustable-rate mortgages, depending on how they adjust, and how much gap between their rate and the fixed rate, are a good deal, because you get the use of the money you would otherwise pay toward the mortgage. That can be invested or saved and earn interest. (Although I admit, I haven't figured out whether the federal tax-deduction for interest changes this.)

Of course, living on the edge of ruin is never a good plan, whether you have an adjustable- or fixed-rate mortgage.

Opal said...

Fr,
We are no where near your parish or diocese (many states south) but I would like to comment.
One of our wishes is that more parishes would have classes offered for young and older couples to help us with our finances. We have just started, on our own, Phil Lenahan's 7 Steps to Becoming Financially Free. We like this course; especially the so needed help to create a budget. He is also Catholic and includes scripture and catechsim reflections.
We were astounded that not only were our friends getting in way over their heads in debt, that they then were using the equity on their homes to pay it off at a rate that doesn't seem should be legal.
Some people have the mistaken notion that if they qualify for a loan, then they should be able to pay for it; which just isn't the case most of the time. They may have developed a pattern of spending well over their income.
This also affects tithing too.

It is our hope that more parishes offer this course. It is good to do it in a group setting so WE are held accountable.

Just wanted to add that.

God Bless

TerryC said...

Father,
Yes, most adjustable rate mortgages only adjust once a year, hence my comment on flat wages. At a time when the typical wage increase is between 1 and 3 percent a year with housing costs increasing 3.4 to 6 percent per year it doesn't take a math major to see that anyone who purchased a house who is any way close to their budget limits is going to have problems. Add the fact that in some areas rent increased at an even higher rate than housing prices and you can see that at the lower margins of the economy people are in real trouble.
It does no good to see that your mortgage is going up in three months if you have no way to increase your income in that time.
I do a mission trip with my parish every year. I see a few people who live in broken down trailers and have 40 inch TVs. I see many more people who have purchased homes which would be condemned in other areas of the country. Out where there at there aren't a lot of rental properties. Those that exists are not much better than the broken down homes available for sale, and often cost more than the equivalent house payment.
In almost every case these people have no family to bail them out.
The availability of rental property as an alternative is very dependent on the area of the country. In my area I pay quite a bit less for my townhouse than I would pay for an equivalent rental property. An apartment or rental townhouse in a decent neighborhood, that is one without drug dealers on the street and shootings every week, would be almost double what I pay. To buy my house now would probably require I pay almost as much, unless I had as much to put down as the original total price on my house, since other units in my community are going for about double of what I paid a decade ago.
What has contributed to soaring real estate prices is the lack of affordable housing. Some people do buy beyond their means, anxious to get into a McMansion, for others its just impossible to find a decent new house which is not a McMansion. We have new communities around where I live. None of the houses are either reasonably sized or reasonably prices. If you want a two or three bedroom one bath house, the kind that would be reasonably priced you won't find it, unless you want to buy a 30 year old fixer upper. And in this area it's likely to be a real fixer upper, because 30 years ago builder were allowed to use aluminum wire, which has a useful life of about...30 years.
Unless you're moving into a Habitat for Humanity house there is no bottom market for a new house and again depending on the area, a small market for used houses that are in any kind of decent shape.
Rental property in my area is primarily owned by large out of state corporations, who have no interest in keeping up the property. All in all a bad situation which is being repeated all over the country.

Joseph Bailey said...

These are all good points but let us here perhaps address the real issue as to why this crisis has, in fact, become one. This post will address that first and then the crisis itself second.

In our society of 2007, a human being is measured up against a metric called "credit score/risk," more than any other measurement. A man goes to apply for a job but because he is considered a "credit risk," (never mind that his academic and/or employment credentials are impeccable) he does not even get an offer. Then there is a woman, who perhaps has stayed at home for several years and when she applies for a credit card is denied because she is a "credit risk."

Now how are such things translated into everyday life? You are labeled a "bad credit history." What does that mean? All it means is that by metric's not known to almost all consumers, they are assigned a number related to their income/previous credit history and from that it catapults into being a definition of what type of person you are to be. Take the mindset of companies who look at an applicants credit score and report to determine the "probability that they may embezzle" company funds. Never mind that the applicant has never been convicted of such a crime, much less arrested but that score says they will do that-how insane!

The subprime mess is a mess because of the greed, unbridled and unrestrained, of the organizations that loan out the money-plain and simple. Yet, our illustrious federal government is going to risk the hard-earned dollars of its taxpayers to bail out what any idiot would have known not to do. It sickens me to hear the two most important political people in the world (US President and Fed Chairman) make statements about how the US federal government (funded solely by taxpayers-shareholders like me) will do all they can to bail out what a bunch of greedy idiots got themselves into to make a buck.

What should be done is those organizations should be told they created it, fix it, or go under. Just as the tech craze of the '90's led to wild and delirious notions and dreams of mega-money, the same applies here-let them fix it or go under. Why is it that every time some moron with an MBA, who comes up with an idea to make a quick dollar falls flat on their face and then has the feds to bail them out? All this latest financial crisis does is to show how the pursuit of money and wealth-when done for its own lustful end-can lead to misery and negative consequences. Furthermore, if the USA got away from its entitlement mentality and realized that hey, sometimes a person has to do without. It may not be right, may even be a sin, but guess what? It is life. Besides, whatever happened to faith in Providence for provision of one's daily bread?

Tom S. said...

Jackie is exactly right. Period.

But the deeper story is the symbiotic relationship that has eveolved between the housing and lending industries. They conspire to push for any "financing product" that they can come up with that allows the buyer to max-out their house purchase. They look at your credit and income and tell you what you can "afford". What you can afford, at least in their theory, is usually absurdly out of proportion.

Less than two years ago, my wife and I were told over and over that we would be smart to buy a house that was 2 times larger than we needed and about 1.5 times more than we knew we could afford. In fact, we were told, it would be silly to buy anything less, because - get this - we would be "losing money" by having less appreciation over time. We recognized this madness for what it was and bought what we should, not what we could.

Sadly, few people have that much sense, ecomomic education, or personal discipline - hence the present situation.

David L Alexander said...

Of the many bad risks that were taken on, were a number of borrowers who would have had no trouble in a more stable housing market. In Washington DC in 2005, if you couldn't afford a $500K mortgage, most lenders didn't want to talk to you. Can we honestly say that bad risk was a factor, or was it the greed of the lending industry?

Yes, I'll have to refinance in the next year. But at my age, it was either this or be a renter for the rest of my life. That wasn't an option either.

For many borrowers until the bubble burst, there was nothing "easy" about the situation, just a lot of bad choices while searching for the lesser of them.

Freder1ck said...

I'm with anon. Where's the discussion of usury? ~Fred

Father Martin Fox said...

Freder1ck, Anonymous:

Well, what holds you back from posting something?