"Reckless at home, Reckless at War." Is that too harsh?

Some interesting stuff in the NYT this morning in a story by Floyd Norris headlined  In a Credit Crisis, Large Mortgages Grow Costly — on the housing/credit problem. The story starts off with a terrifying bang:

When an investment banker set out to buy a $1.5 million home on Long Island last month, his mortgage broker quoted an interest rate of 8 percent. Three days later, when the buyer said he would take the loan, the mortgage banker had bad news: the new rate was 13 percent.

Wow! A buyer capable of a $1.5 million dollar house gets bumped from 8 percent to 13 percent. Scary! But then a few paragraphs later we have this:

The size of the rate increase he faced is unusual. But all jumbo lenders have raised rates. Bankrate.com reports that conventional 30-year mortgages cost about 6.23 percent now, less than they did a few weeks ago, due to a decline in Treasury bond rates. But the average jumbo rate is now 6.94 percent. The spread between the two rates rose from less than a quarter of a percentage point to more than two-thirds of a point.

So the investment banker's situation was unusual. So why lead the story with the anecdote? A lot of people won't get past the first para so they are left with very much the wrong impression. (That is, I don't think that a spread between loans you can sell to Fannie Mae/Freddie Mac and ones you can't of 3/4% seems like the sky is falling. Bad writing/editing.)

Then we have this para:

Now, however, many mortgages call for sharply rising monthly payments after a few years, and borrowers were given loans without regard to their ability to meet the higher payments. Lenders assumed the mortgage could be refinanced, and that rising home prices would assure repayment of the loan. It became common to offer homebuyers loans to finance the entire purchase price of a home.

I have no sympathy for a lender which didn't pay attention to the customer's exit strategy because his exit strategy is also the lender's. If letting such lenders fail had no impact on the economy at large I'd say bombs away.

Then we have the really incredible para:

In June, banking regulators ordered that adjustable-rate loans be given only to borrowers who could afford the rate at which it was likely to be reset, meaning that many borrowers would not qualify for refinancings even if their homes had not lost value. (italics added)

I understand that if such requirement had been there at loan origination then many loans wouldn't have been made. And the whole point of low-entry adjustable is to let people into the housing market who otherwise couldn't otherwise get a loan. But I think it is incredible that with all the statistics available — the mortgage market is very heavily regulated so lots of statistics should be available — the regulators did not require some sort of projection on how the loans would be kept current. There is a big distinction between the relative free-for-all of commercial loans and ones for homes. If we want to subsidize home-ownership (through interest-rate manipulation) we shouldn't be doing at the back-end as way to avoid a market meltdown, which looks to be the way we are going to get out of this mess.

Comments

[Hal O'Brien]

We don't actually know how unusual the investment banker's situation was (other than it's being reported as news, and in current practice only unusual things are newsworthy by definition).

The reason we don't know is because of the difference between average and median. We don't know to what degree the average rate of jumbo mortgages is potentially being brought down by a few exceptionally low-rate loans. The median rate may well be much higher, and the investment banker's experience more "typical."

Given Krugman's reports of the increasing problems of liquidity in the system, it may well be that the interest rate had to rise as high as it did on the investment banker because that's what was needed to sell the loan. (One of the other things we're not told is just how recently this happened.)