10 Years After Crisis, Mortgage Market Needs New Fixes

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Happy Anniversary – or something…

It is a decade since the financial
crisis and ultimately the Great Recession began.  Bear Stearns collapsed in March of 2008, the
government sponsored enterprises (GSEs) Fannie Mae and Freddie Mac, were placed
in conservatorship in August, and AIG, Goldman Sacks and many other banks were “rescued”
by the U.S. Treasury in September.

Much of the blame for
triggering the events was laid at the feet of the housing industry.  Now, ten years later, the economy is booming
but housing is a bit of a mixed bag.  Robert Abare, editor of the Urban Institute’s
(UI’s) Urban Wire recently interviewed UI research associate Karan Kaul,
getting his assessment of the housing market’s status ten years later.

Kaul says the flawed regulations and lending practices
that the market crash revealed have mostly been addressed, but some, like GSE
reform, remain and other responses have been too severe, contributing to new
problems. 

He
said that GSE reform, or the lack of same, gets a lot of attention, but the
most pressing issue is the lack of new home construction.  The improving economy means more and more
young people are creating more than one million new households every year, but
the nation is adding only a net of about 800,000 housing units.  “This
gap pushes house prices up, leading to many potential homebuyers being priced
out of the market,” he said.  “This means
more families remain as renters, driving rents up significantly. This makes it
more difficult for renters to save for a down payment.”

So how can these potential
homeowners be helped? Kaul says access to mortgage credit remains too tight.
While pre-crisis lenders were making loans to people who couldn’t really afford
them, now the pendulum has swung too far the other way. The default rate on
loans originated today are as low as they can possibly get.

 

 

Lenders
are wary
about lending to riskier borrowers, in part because the higher costs
of origination and servicing has shifted the profitability equation for
lenders, making lending to less than pristine borrowers much more expensive.  Kaul’s assessment was born out by the
Mortgage Banker’s Association report on Wednesday that the average independent mortgage
banker lost money in the first quarter for only the second time since 2008.

The origination process has become
more time consuming and thus expensive because of the process involved in
collecting volumes of information and documentation from borrowers, then verifying
everything.  Lenders paid big fines for
originating faulty loans during the bubble era so now they double- and
triple-check everything to make sure the loan file is accurate. This costs
money.

Mortgage servicing costs have
changed drastically as well, partly due to enhanced regulation, but also to
changes within the industry itself.   Servicing was once a back-office operation; processing
payments, keeping track of late fees, paying insurance and taxes from escrowed
funds.  But, as the housing crisis
unfolded, Kaul said, servicers learned they needed to reach out to struggling borrowers
and understand their circumstances and why they may have fallen behind on
payments and then offer options to help them deal with these different
situations.  What is referred to as “high
touch” servicing is very expensive and became much more common during and since
the crisis.

To mitigate the high costs of
origination and servicing, lenders try to avoid making loans with a higher
likelihood of defaulting. If the loan defaults, the amount of money a lender must
spend on that loan is exorbitantly high. 
At the same time, many otherwise creditworthy borrowers are barred from homeownership
because of uneven income streams resulting from self-employment or working in
the gig economy, a problem that is not being addressed.

Kaul offers some solutions.  First, to boost the supply of housing there
should be a closer look at how land development and zoning regulations are
disincentivizing new home construction.  “It
can take years for builders to get permits, and the longer it takes to get a
permit, the more expensive it becomes to build.  Manufactured homes, for which production is
expected to gradually increase, can also be a part of the solution.”

He also suggests addressing the
rising cost of originating and servicing loans through technological
advancement.  He has written elsewhere
about so-called fintech non-banks which lend using technology
platforms . A study from researchers
at the Federal Reserve found that they reduce loan processing time  by an average of 10 days, a 20 percent
reduction. Creating more certainty for lenders would also allow them to save on
quality control costs. Other strategies like encouraging small-dollar mortgages
can help expand homeownership to those with less than perfect credit.



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