Varnished with a pale yet discernible mixture of complacency and pomposity, the developing assumption of late regarding America’s sub-prime crisis is that greedy, careless borrowers, and not bankers, should be held accountable for much of the emerged mortgage mayhem.
The starting point of this view diminishes and, to a certain extent, exonerates the role of the financial institutions in the crisis. On the contrary, it dictates that while some lenders hold part of the blame, they should be praised for bringing “the joys of homeownership to those who had not yet achieved that part of the American dream. Never mind that many lenders peddled the most abusive and costly loans to unsophisticated, first-time home buyers,” as Gretchen Morgenson has pointed out. (Sub-prime borrowers are typically described as people with blemished credit record who cannot get conventional loans - people from low and moderate-income neighbourhoods and minority communities).
These irresponsible borrowers, eager to put the blame for their plight on manipulative lenders, represent according to Gary Becker the “erosion of individual responsibility,” a strong trend toward shifting accountability to others that creates a “moral hazard” in behaviour within free societies.
In the end, the blame is passed on to all these “feckless” borrowers, prepared to “walk out” on their mortgages. But is that view adequate of explaining a crisis that has triggered a much deeper structured finance turmoil?
Sub-prime lending refers to higher-interest loans that involve higher credit risk, targeted mainly, as mentioned above, at low and moderate-income households and racial and ethnic minorities. In 2006, 53.7 per cent of blacks, 46.6 per cent of Hispanics, and 17.7 per cent of whites received high-priced loans. In minority areas, 46.6 per cent obtained high-priced loans compared to 21.7 per cent in white communities. Lenders are compensated for the increased risk through fees or higher interest rates. The problem is that these often unaffordable loans are aggressively marketed to unsophisticated borrowers, resulting often to default and foreclosure.
Yet, as this report from San Francisco research firm First American LoanPerformance shows, amid a booming sub-prime environment, many borrowers who should have qualified for conventional loans were also steered to higher-cost predatory loans, which charge extreme fees relative to the risk involved; in 2005 credit-worthy borrowers got 55 per cent of all mortgages, revealing how far such mortgages have diffused into the economy.
The US housing boom of the decade 1996 – 2006, driven among others by intense lender competition, innovations in mortgage loans and an abundance of capital from bank lenders and mortgage security investors, resulted to an 134 per cent rise in prices by 2006, affecting unavoidably the affordability in house ownership.
As Bertrand Renaud and Kyung-Hwan Kim suggest in their report “The Global Housing Pricing Boom and its Aftermath,” this “sharp surge in housing prices - especially during the period 2000-2006 - contrasts with earlier decades when indices of real housing prices, real rents and construction costs were moving closely together and remained not much higher than CPI inflation. As a result of the continuing rise in house prices, the initial affordability benefits of lower interest rates and longer loan maturity for middle and low-income households were eventually dissipated by rapidly rising prices as wage gains were not commensurate. Housing became a channel of wealth redistribution.”
According to Renaud and Kim, industry lobbying and “an almost laissez-faire regulatory framework” allowed the flourishing of unethical and deceptive behaviour by badly regulated state-licensed lenders and unlicensed mortgage brokers. In addition, the financially unsophisticated parts of the population received poor consumer protection.
In his aforementioned post, Becker claims that since many highly educated and experienced bankers were also hit by the crisis, the argument of limited information is invalid. Arguing otherwise would be like implying that these bankers and hedge fund managers "were also mis-sold mortgage-related products"; some of their actions driven by selfish motives. Also, his approach does not take into consideration the links between the evolution of financial services and the increasing inequality, mainly as mortgage lending is influenced by them. As professor Gregory D. Squires says relatively, “inequality and diminishing access to conventional financial services have become inextricably linked.”
A sad inescapable reality that obstinately accompanies human consciousness throughout the centuries is that when crisis take place, it is the poor and segregated populations that are usually hit. In the US, the memory of Katrina is not distant. The recent sub-prime crisis that is affecting a large number of families should not be valued separately from the wider forces of inequality and uneven development.
