With regard to Fannie Mae and Freddie Mac, the CRA, and the recent financial crisis -
There are some critics who fault Fannie and Freddie and the CRA:
The Government Did It (Yaron Brook 07.18.08)
http://www.forbes.com/2008/07/18/fannie-freddie-regulation-oped-cx_yb_0718brook.html
All this overlooks a crucial fact: There has been no free market in housing or finance. Government has long exercised massive control over the housing and financial markets--including its creation of Fannie Mae and Freddie Mac (which have now amassed $5 trillion in liabilities)--leading to many of the problems being blamed on the free market today.
While it is true the Fannie Mae and Freddie Mac have amassed $5 trillion in liabilities, the rest of the statement is simply untrue - and dishonest. Yaron Brook is managing director of BH Equity Research and executive director of the Ayn Rand Institute.
Fannie and Freddie did encourage CRA-related mortgages, but it was low volume.
Fannie Mae's Targeted Community Reinvestment Act Loan Volume Passes $10 Billion Mark; Expanded Purchasing Efforts Help Lenders Meet Both Market Needs and CRA Goals
http://findarticles.com/p/articles/mi_m0EIN/is_2001_May_7/ai_74223918/
Fannie Mae (FNM/NYSE), the nation's largest source of financing for home mortgages, today announced that its acquisition volume of specially-targeted Community Reinvestment Act (CRA) loans passed the $10 billion threshold in the second quarter of 2001, reaching that milestone more than one and a half years ahead of schedule.
In the spring of 1999, Fannie Mae pledged to purchase at least $10 billion in CRA loans by the end of the year 2002.
. . . .
"Our approach to our lenders is 'CRA Your Way'," Gorelick said. "Fannie Mae will buy CRA loans from lenders' portfolios; we'll package them into securities; we'll purchase CRA mortgages at the point of origination; and we'll create customized CRA-targeted securities. This expanded approach has improved liquidity in the secondary market for CRA product, and has helped our lenders leverage even more CRA lending. Lenders now have the flexibility to use their own, customized loan products," Gorelick said.
. . . .
However -
Private sector loans, not Fannie or Freddie, triggered crisis
http://www.mcclatchydc.com/251/story/53802.html
[Some] Commentators [e.g., Yaron Brook] say that's what triggered the stock market meltdown and the freeze on credit. They've specifically targeted the mortgage finance giants Fannie Mae and Freddie Mac, which the federal government seized on Sept. 6, contending that lending to poor and minority Americans caused Fannie's and Freddie's financial problems.
Federal housing data reveal that the charges aren't true, and that the private sector, not the government or government-backed companies, was behind the soaring subprime lending at the core of the crisis.
Subprime lending offered high-cost loans to the weakest borrowers during the housing boom that lasted from 2001 to 2007. Subprime lending was at its height from 2004 to 2006.
Federal Reserve Board data show that:
• More than 84 percent of the subprime mortgages in 2006 were issued by private lending institutions [not subject to CRA or Freddie or Fannie].
• Private firms made nearly 83 percent of the subprime loans to low- and moderate-income borrowers that year.
• Only one of the top 25 subprime lenders in 2006 was directly subject to the housing law that's being lambasted by conservative critics.
. . . .
Fannie, the Federal National Mortgage Association, and Freddie, the Federal Home Loan Mortgage Corp., don't lend money, to minorities or anyone else, however. They purchase loans from the private lenders who actually underwrite the loans.
. . . .
Between 2004 and 2006, when subprime lending was exploding, Fannie and Freddie went from holding a high of 48 percent of the subprime loans that were sold into the secondary market to holding about 24 percent, according to data from Inside Mortgage Finance, a specialty publication. One reason is that Fannie and Freddie were subject to tougher standards than many of the unregulated players in the private sector who weakened lending standards, most of whom have gone bankrupt or are now in deep trouble.
. . . .
Fannie and Freddie, however, didn't pressure lenders to sell them more loans; they struggled to keep pace with their private sector competitors. In fact, their regulator, the Office of Federal Housing Enterprise Oversight, imposed new restrictions in 2006 that led to Fannie and Freddie losing even more market share in the booming subprime market.
What's more, only commercial banks and thrifts must follow CRA rules. The investment banks don't, nor did the now-bankrupt non-bank lenders such as New Century Financial Corp. and Ameriquest that underwrote most of the subprime loans.
Notice in 2008 which investment banks and mortgage companies are still issuing subprime mortgages - despite the fact that the subprime market had been collapsing during 2007. And actually defaults and foreclosures had been accelerating since 2005.
Goldman's offshore deals deepened global financial crisis
http://www.mcclatchydc.com/227/story/81465.html
NEW YORK — When financial titan Goldman Sachs joined some of its Wall Street rivals in late 2005 in secretly packaging a new breed of offshore securities, it gave prospective investors little hint that many of the deals were so risky that they could end up losing hundreds of millions of dollars on them.
McClatchy has obtained previously undisclosed documents that provide a closer look at the shadowy $1.3 trillion market since 2002 for complex offshore deals, which Chicago financial consultant and frequent Goldman critic Janet Tavakoli said at times met "every definition of a Ponzi scheme."
. . . .
In some of these transactions, investors not only bought shaky securities backed by residential mortgages, but also took on the role of insurers by agreeing to pay Goldman and others massive sums if risky home loans nose-dived in value — as Goldman was effectively betting they would.
Some of the investors, including foreign banks and even Wall Street giant Merrill Lynch, may have been comforted by the high grades Wall Street ratings agencies had assigned to many of the securities. However, some of the buyers apparently agreed to insure Goldman well after the performance of many offshore deals weakened significantly beginning in June 2006.
. . . .
These Cayman Islands deals, which Goldman assembled through the British territory in the Caribbean, a haven from U.S. taxes and regulation, became key links in a chain of exotic insurance-like bets called credit-default swaps that worsened the global economic collapse by enabling major financial institutions to take bigger and bigger risks without counting them on their balance sheets.
. . . .
Before the subprime crisis, the U.S. financial system had used securities for 40 years to help Americans finance their houses, cars and college educations, said Gary Kopff, a financial services consultant and the president of Everest Management Inc. in Washington. The offshore deals, he lamented, "became the biggest contributors to the trillions of dollars of losses" in 2008's global meltdown.
While Goldman wasn't alone in the offshore deal making, it was the only big Wall Street investment bank to exit the subprime mortgage market safely, and it played a pivotal role, hedging its bets earlier and with more parties than any of its rivals did.
McClatchy reported on Nov. 1 that in 2006 and 2007, Goldman peddled more than $40 billion in U.S.-registered securities backed by at least 200,000 risky home mortgages, but never told the buyers it was secretly betting that a sharp drop in U.S. housing prices would send the value of those securities plummeting. Many of those bets were made in the Caymans deals.
. . . .
In 2006 and 2007, as the housing market peaked, Goldman underwrote $51 billion of deals in what mushroomed into an under-the-radar, $500 billion offshore frenzy, according to data from the financial services firm Dealogic. At least 31 Goldman deals in that period involved mortgages and other consumer loans and are still sheltered by the Caymans' opaque regulatory apparatus.
. . . .
Community Reinvestment Act had nothing to do with subprime crisis
Posted by: Aaron Pressman on September 29
http://www.businessweek.com/investing/insights/blog/archives/2008/09/community_reinv.html
. . . .
The Community Reinvestment Act, passed in 1977, requires banks to lend in the low-income neighborhoods where they take deposits. Just the idea that a lending crisis created from 2004 to 2007 was caused by a 1977 law is silly. But it’s even more ridiculous when you consider that most subprime loans were made by firms that aren’t subject to the CRA. University of Michigan law professor Michael Barr testified back in February before the House Committee on Financial Services that 50% of subprime loans were made by mortgage service companies not subject comprehensive federal supervision and another 30% were made by affiliates of banks or thrifts which are not subject to routine supervision or examinations. As former Fed Governor Ned Gramlich said in an August, 2007, speech shortly before he passed away: “In the subprime market where we badly need supervision, a majority of loans are made with very little supervision. It is like a city with a murder law, but no cops on the beat.”
Not surprisingly given the higher degree of supervision, loans made under the CRA program were made in a more responsible way than other subprime loans. CRA loans carried lower rates than other subprime loans and were less likely to end up securitized into the mortgage-backed securities that have caused so many losses, according to a recent study by the law firm Traiger & Hinckley . . . .
Traiger & Hinckley Study
http://www.traigerlaw.com/publications/traiger_hinckley_llp_cra_foreclosure_study_1-7-08.pdf
Conclusion
Our study suggests that without the CRA, the subprime crisis and related spike in foreclosures might have negatively impacted even more borrowers and neighborhoods. Compared to other lenders in their assessment areas, CRA Banks were less likely to make a high cost loan, charged less for the high cost loans that were made, and were substantially more likely to eschew the secondary market and hold high cost and other loans in portfolio.
. . . .
Of course, CRA Banks, even in their own assessment areas, have a relatively small
portion of the mortgage market. In the 15 metropolitan areas analyzed, the CRA Bank market
share of all loan originations was less than 25 percent, limiting the law’s impact on the subprime
crisis.
. . . .
http://www.businessinsider.com/2008/10/oh-that-s-right-it-was-all-fannie-mae-s-fault
The vast majority of sub-prime mortgages and all the derivatives based on sub-prime mortgages (sometimes bundled with high risk consumer credit card debt and auto loans) were NOT subject to government regulation, but instead were subject to the vagaries of the 'free market'.
It now turns out that there was a lot of deception and fraud involved in addition to conflict of interest. Investment banks even went to the effort to move activities off-shore in order to avoid any possibility of regulation by the US government. Of course, the SEC under Cox decided not to bother performing their regualory duties vis-a-vis Bernard Madoff (~$60 billion Ponzi scheme) or regulation of Bear Stearns, Lehman, et al.
One can find more details in Andrew Ross Sorkin's "Too Big to Fail" and Charles Gasparino's "The Sellout".
In short, the government did not force any bank to make bad loans, but rather it was the decision of banks and mortgage companies (which are not banks) to make bad, in many cases fraudulent, loans.
