What is the real cause of the mortgage crisis? It is dangerous to think so. This is because they were a prime example of the broader economic forces that have caused the banking credit crunch and crisis.
Legislative attempts to bring down Good Credit quickly would not prevent another recession. Even worse, it could destroy the housing market.
Role in the mortgage market
This meant they had to be competitive, as a private company, and maintain their stock price. At the same time, the federal government implicitly guaranteed the value of the mortgages they resold in the secondary market.
This resulted in them having less capital to support their mortgages in the event of a loss. As a result, Good Credit was pressured to take the risk of being profitable. They also knew that they would not suffer the consequences if things turned south.
The government has set them up this way to allow them to buy qualified mortgages from banks, secure them, and pass them on to investors.
Banks used the funds to make new mortgages. Over the years, Good Credit has supported half of all new mortgages issued each year. By December 2007, when banks began limiting their lending, they touched 90 percent of all mortgages.
Role during the housing crisis
Government regulations banned Good Credit from buying a high-risk mortgage.
But as the mortgage market has changed, so has their business.
Between 2005 and 2007, they acquired several conventional fixed-rate loans at 20 percent less. They participated in mortgages, hypotheticals, or negative depreciation. These are types of bank loans and issuers of unregulated mortgage brokers.
Good Credit makes things worse by using derivatives to insure interest rate risk on their portfolios. But as private-sector companies pleaded with shareholders, they seemed to remain competitive with other banks. They all did the same.
The credit credits for Good Finance are:
- 62% negative depreciation
- Only 84%
- 58% subprime
- 62% require less than 10% down payment.
Good Credit’s loans were even riskier, consisting of:
- 72% negative depreciation
- Only 97%
- 67% subprime
- 68% require less than 10% fall.
These exotic and subprime mortgages made Good Credit buy loans toxic.
Good Credit held less loan current than most banks
The regulations made sure that Good Credit took on less of these loans than most banks. They have acquired more of these loans to maintain market share in a highly competitive market.
In 2005, the Senate sponsored a bill that banned them from holding mortgage-backed securities in their portfolio. Congress wanted to reduce the risk to the government. In total, GSEs owned or guaranteed USD 5.5 trillion of the USD 11.2 trillion mortgage market.
But the Senate bill failed, and Good Credit increased their risky loans.
They were able to earn more from high-interest rates on loans than from the fees they received from selling loans. They were again trying to maintain high stock prices in the highly competitive housing market.
As state-sponsored businesses, Good Credit took greater risks than they should have. They did not protect the taxpayers who eventually had to absorb their losses. But they did not cause population decline. They have not flooded the market with exotic loans. Instead, they were the consequence, not the cause, of the mortgage crisis.
By 2007, only 17 percent of their portfolio as subprime or Alt-A loans. But then housing prices went down, and homeowners started working. As a result, this relatively small percentage of subprime loans contributed to 50 percent of the losses.
Because the GSE, Good Credit was not required to offset the size of their loan portfolio with sufficient capital from the sale of the stock to cover it. This was the result of lobbying attempts and the fact that their loans were secured. Instead, they used derivatives to hedge the interest rate risk of their portfolios. When the value of derivatives dropped, so did their ability to guarantee loans.
This exposure to derivatives proved their decline, as with most banks. As home prices fell, even qualified borrowers ended up more than worth a home. If they were to sell the house for any reason, less money would be lost allowing the bank to stop. Borrowers in negative amortization and interest-only loans were in worse shape.
Eliminating Good Credit would destroy the housing market
Some lawmakers propose to eliminate Good Credit. Others suggest that the United States copy Europe into using covered bonds to finance most mortgages.
With covered bonds, banks keep credit risk on their home mortgages. They sell bonds backed by these mortgages to outside investors. This allows them to exclude interest rate risk.
What would happen if Congress eliminated Good Credit? This would dramatically reduce the availability of a mortgage and increase costs.
Banks are hesitant to issue mortgages that are not guaranteed. Mortgage interest rates could be as high as 9-10 percent. Mortgages would become rare and expensive. The U.S. housing market would collapse.