An Inside Look into the Mortgage Crisis

Banks and other mortgage originators have taken the bulk of criticism for selling so-called toxic mortgages and causing financial harm to investors and homeowners. But are these completely at fault?

Morgage Crisis Causes and Results

Thanks to much criticism, banks have changed how the underwrite and approve mortgage loans.

The federal government blames low-quality underwriting standards for producing Fannie and Freddie’s overgrown losses. While it’s clear that underwriting standards were at the center of the subprime crisis – losses taken by Fannie and Freddie reflect these low standards – declining underwriting standards were a response to mandates of a decade ago that called for the two agencies to increase their mortgages targeting low-income or minority borrowers in locations labeled as underserved.

It was in 2004, however, that issues with mandates began to surface. Because the agencies’ internal risk-management guidelines had them keeping their exposure to little- or non-documented loans low, they realized that in order to meet mandates underwriting standards would have to be greatly reduced.

Risk managers at the agencies argued against reduced underwriting standards and the move to non-documented loans, but to no avail.

According to some within the agencies, lower lending standards did not make sense since reduced standards had already been done and were dangerous – leading to large losses and even producing cases of fraud.

To risk managers, the consequences of the proposed reductions were foreseen, and the human costs were anticipated. To their credit, their advice was not to move forward. In the end, however, politics is what pushed Freddie Mac to do away with its previous limits.

It was the decision, then, by Fannie and Freddie to embrace non-documented lending eight years ago that unleashed the flood of bad-credit. It’s been examined and determined that if Fannie and Freddie’s mortgage underwriting standards had remained unaltered, the subprime crisis as we know it would have not occurred.

See also:
Are Fannie and Freddie emerging?
Reforming Fannie and Freddie: A Mid-Year Check-In
Elimination of Fannie and Freddie: More of The Same?

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New Home Sales Q4 Economic Outlook

With consumer spending steadily decreasing from mid-2007, sparked from the housing meltdown, experts have estimated that consumption will likely fall more than 4 percent annualized this quarter. To add fuel to the fire, the deteriorating credit market has negatively influenced all three major determinants of consumption.

New homes sales will likely remain suppressed well into 2009. Not good news considering the housing sector is already suffering from the rising unemployment, tightened credit conditions, declining household wealth, and in some markets, the affects of recent severe weather.

What does this mean for you?

This will directly affect your access to credit, not to mention your credit rates; and will indirectly affect both real disposable personal income and household wealth. In regards to the economy as a whole, this means that for the remainder of the year, and leading into 2009, we can anticipate diminishing consumer confidence and business confidence, which will cause further payroll cutbacks and additional suppression of real disposable personal income.

So here we are. We’ve witnessed declines in consumer spending, beginning in 2007, employment gains gradually diminish, soaring energy costs, oh… and let’s not forget the significant declines in household wealth and the continued declines in real estate values.

The experts have stated that even with the recent decline in energy prices, it’s not nearly enough to overcome our waning consumption concerns; mainly caused by the large decline in personal wealth.

There is some good news in all of this if you are a homebuyer, or at least a buyer who can meet the criteria to qualify for a loan, and that is new home costs have declined significantly. The fact is that many home builders are reducing pricing, increasing incentives, adding better upgrades, all in an attempt to attract buyers and shrink their inventories. I know what you’re thinking… and yes, there is a good chance that if you buy now your new home may decline in value while the market works its way towards recovery. But if you’re thinking long-term, the declines will be insignificant compared to your gain over the next five to six-plus years.

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