Friday, December 30, 2016

How to prevent the next housing crisis

New research suggests that lax lending standards caused all borrowers (prime and subprime) to increase leverage.  When house prices declined, defaults occurred across the spectrum.  In other words, the housing crisis of 2008 was caused by upper-, middle-, and low-income borrowers.

To prevent a housing crisis from bringing down banks that loan consumers money to buy houses, the authors suggest two things:
“And the question is how to absorb [losses]. Because one way to absorb them is by saying 'Even before prices become very high, can we dynamically regulate banks so that loan-to-value ratios have to be lower when prices are high. So there's more buffer in the loans of each individual person.” 
A bank collapse could also be prevented by increasing the burden on creditors in the event of failure, Schoar said. One example, she said, might be providing safeguards such as contingent convertible bonds (known as CoCos) that would convert to equity in the event of impending bank failure, stabilizing a bank before bankruptcy can occur. CoCos are undergoing a test in the European markets, where volatility among banks is causing investor concern.
Both measures will reduce moral hazard.  With higher loan to value ratios, banks will have less incentive to make risky loans; and CoCo's will discourage risky loans as well because creditors (not the government loan-insurance programs) will have to absorb losses.


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  2. Surely the borrowers were not the only participants in the crisis of 2008. The lenders, government and investment bankers are responsible also. Banks are in the business of making loans to people that can pay the loans back...I know you are only giving a brief synopsis of the research but to blame just the borrowers is only telling half the story. All parties were irresponsible. I am sure something similar will happen again...

  3. Preventing the Next Big Housing Crisis

    In my estimation borrowers definitely were not the sole contributors to the “2008 economic crisis.” Lenders were culpable as well for their risky investment behavior that prompted the Dodd-Frank legislation of 2010. Borrowers were to blame in part for irresponsible borrowing habits and lacking enough information regarding their mortgages before signing on the dotted lines at closing. Borrowers were not educated enough about no-doc, ARM’s, or balloon mortgages, for example, that are common among the portfolios of savvy real estate investors. The average family could not tolerate abrupt interest rate increases associated with risky mortgages.

    Dodd-Frank created the Financial Stability Oversight Council, Consumer Financial Protection Board and provides the “Volcker Rule” that restricts the way in which banks may invest. There are “inherent dangers associated with financial entities extending commercial and investment banking services at the same time.” Credit Default Swaps and other financial derivatives were being traded “over the counter” without the oversight of exchanges of clearing houses. As “loan to value” is one consideration when lending money, the enforcement of banking regulations is imperative if the U.S. is to avoid future recessions that originate from predatory lending.

  4. While the borrowers were partially to blame for this crisis since they alone had created their poor credit; lenders were the biggest problem. Borrowers go into a bank hopeful that they will leave with a mortgage, but it is the lender's responsibility to ensure that the borrower can afford and manage what they are requesting. Lenders started to get involved in mortgages called subprime mortgages which target borrowers with poor credit and delinquent payment histories. After securing a home, if the borrower had even one missed or late payment, the lenders could take possession of the property leaving the borrower with the losses. Companies such as Fannie Mae greatly profited from the mortgage crisis because aside from repossessing homes, they received tax incentives for granting these loans to lower income families. In 2008 alone, “Freddie Mac and Fannie Mae owned $5.1 trillion in residential mortgages”, not including government tax incentives. Had the United States government thought ahead, they could have prevented the crisis by implementing regulations controlling how lenders reacted should a borrower default on the mortgage. They also could have specified clearer qualifications on which low income families should receive mortgages.

    Subprime Mortgage Crisis. (n.d.). Retrieved January 31, 2017, from

  5. The housing crisis is go be blamed on two things. The first is economy as the job market keep declining. The second is the banks who are offering loans to individuals with bad credit and no longevity in their jobs. A lot of individuals are being forced to retire where the pension received is,not enough to cover the cost of living. Now there is the situation lies where they start to default in their payments. The banks makes it work where individuals with are approved for loans, even though they are not qualify. Due to the thirst the consumer take these raw deals with super high interest rates. A prime example, "As the housing market began to crumble five years ago, a desperate Seeno company began paying $30,000 apiece to obtain loans for unqualified buyers at an Oakland development, according to a federal criminal complaint unsealed Friday.

    In this latest revelation of legal problems involving Contra Costa’s Seeno construction family, kickbacks on those payments went to three people — one of Bank of America’s top loan officers, a mortgage broker and an employee of Discovery Sales, one of the Seenos’ companies, the complaint said.

    As part of this mortgage fraud scam, Jennifer Xiao, also known as Guo Xiu Xiao, a 47-year-old Chinese citizen, was arrested Wednesday on suspicion of one count of bank fraud and faces up to 30 years in prison and a $1 million fine if convicted on the charges outlined in an eight-page FBI complaint. Also named were co-conspirators who have cooperated with federal agents as part of plea deals in the ongoing probe that began with a 2010 raid on the Seenos’ Concord headquarters."

    Retrieved from