I've seen lots of pissing and moaning about how the mortgage crisis is the fault of Fannie, Freddie and the poor.

We all know the poor are tremendously influential and can have things their way at every turn. They wield tremendous power in political and financial arenas after all! (That's sarcasm if anyone fails to notice.)

I thought this might be interesting to some of you all who want to blame the CRA, Fannie, Freddie and the poor. Oh and Obama too since he once represented one of these organizations.

Have a read ladies and gentlemen.

_ More than 84 percent of the subprime mortgages in 2006 were issued by private lending institutions.



_ 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.



To provide some context for the importance of those findings and for the article itself, I'll briefly summarize what Fannie, Freddie and the CRA are.



Fannie and Freddie were entities set up by the US government to make mortgage lending more available in the US. They do not make mortgage loans themselves, but instead buy mortgage loans from the lenders that originate them. After they buy the loans that meet their standards, they keep some of those loans for themselves, but they sell the vast majority of those loans to investors. Prior to selling loans to investors, they package many loans together. The thought being that packaged loans are less risky (and, therefore, more valuable) than individual loans because the risk of multiple loans going into default is less than the risk of a single loan going into default. That much is sound theory--diversification, as in the stock market, reduces so-called "idiosyncratic", loan-specific risk, although, as we are currently being reminded, it does not reduce market-wide risks. But, investors never cared too much about the riskiness of the underlying loans, because, in selling these loan packages, Freddie and Fannie guaranteed that if the underlying borrowers ever failed to make a payment, Fannie or Freddie would make that payment to the investor. Those guaranteed payments were supposed to be paid from premia that Fannie and Freddie collected in exchange for those guaranties. Unfortunately, we now know that those premia were too low to reflect the true cost of the default risk and that not enough of the premia that were collected were kept in Fannie's and Freddie's bank accounts to cover eventual losses. That is why Fannie and Freddie failed. Because of the significance of their role in the overall housing market and financial system and because investors, from the inception of Fannie and Freddie, have assumed the government would do so if the need ever arose, the government stepped in, took direct control over Fannie and Freddie and replaced the now-worthless Fannie and Freddie guaranties with guaranties directly from the US.



Now, back to the article. Many have argued that Fannie's and Freddie's standards were too low. Whatever you think about that, it happened that there were some loans that were so bad that they could not meet even Fannie's or Freddie's standards. (In fairness, some of the loans didn't meet Fannie's and Freddie's standards solely because of their size and not because they were poorly underwritten, but, for the most part, those are not the toxic loans that have caused the current situation.) Those sub-standard loans were bought up by a parallel, unregulated private system of investment banks and other similar institutions that did essentially what Fannie and Freddie did, but without the Fannie and Freddie guaranties and without the Fannie and Freddie standards. It is those sub-standard loans, which the article says made up more than 84% of the subprime loans, that are the most toxic in our system and that have caused the current freeze in our credit markets.



Indeed, if Fannie and Freddie were the problem, that problem would have been 100% removed the moment the US government put its full faith and credit behind the Fannie and Freddie guarantees and thereby made those investors' investments risk-free.



As for the CRA, that was an act passed in the late 70s to deal with the problem of banks refusing to lend money within certain undesirable neighborhoods. Thus, the CRA "encourage[s] [US-regulated commercial banks] to help meet the credit needs of the local communities in which they are chartered consistent with the safe and sound operation of such institutions." (Emphasis added.) Importantly, the CRA does not require any lender to make any loan. It merely "encourages" broader lending, with the sole penalty for not doing so being that the applicable regulatory authority will "take[] into account" that failure "among other factors" when making certain decisions relating to depository facilities. The CRA does not require any bank to reduce its lending standards. In fact, its implementing regulations provide that banks are "permitted and encouraged to develop and apply flexible underwriting standards for loans that benefit low- or moderate-income geographies or individuals, only if consistent with safe and sound operations."



Not only do the terms of the CRA squarely contradict the contention that the CRA encouraged risky lending, but also the facts on the ground contradict that contention. As the article notes:



In a speech last March, Janet Yellen, the president of the Federal Reserve Bank of San Francisco, debunked the notion that the push for affordable housing created today's problems.



"Most of the loans made by depository institutions examined under the CRA have not been higher-priced loans," she said. "The CRA has increased the volume of responsible lending to low- and moderate-income households."



In a book on the sub-prime lending collapse published in June 2007, the late Federal Reserve Governor Ed Gramlich wrote that only one-third of all CRA loans had interest rates high enough to be considered sub-prime and that to the pleasant surprise of commercial banks there were low default rates. Banks that participated in CRA lending had found, he wrote, "that this new lending is good business."



Finally, the CRA applies only to certain US-regulated commercial banks. As the article points out, only one of the 25 largest sub-prime lenders falls into that category. Thus, if any inference is to be drawn regarding the impact of the CRA on the current crisis, it is the opposite one to that being drawn by certain commentators--that it was the absence of the CRA (and the diversification it encourages) in those unregulated institutions that contributed to the current credit crisis, not its presence in the commercial banking sector.



It is easy to see why Republicans want to blame the current situation on Fannie and Freddie--since both parties had a hand in their regulation over the years, it is easy to deflect and diffuse blame. However, given the plain text of the CRA and the evidence that it has not led to any riskier lending, it is more difficult to understand why some conservative commentators would jump to the conclusion that the CRA played any negative role. Unless, of course, they are relying for their basis on something other than the evidence . . .

2 words, PHIL GRAMM