October 17, 2008

October 17, 2008 | Commentary on

Big-government fingerprints on murder weapon

Whose fingerprints are on the weapon that murdered the U.S. economy?

Multiple culprits deserve blame, but the Clinton administration stands out as a ringleader for diverting billions of dollars into junk sub-prime mortgages. Those loans have fouled the economy and siphoned away the capital needed by businesses and families today.

Government created a quota system that required lending to people who lacked the ability to repay.

Clinton's HUD (Department of Housing and Urban Development) decreed that big chunks of mortgages must be issued to borrowers with poor finances. It started at 12 percent of all Fannie Mae and Freddie Mac mortgages in 1996. By 2008, that proportion had more than doubled, to 28 percent.

Because Fannie and Freddie dominated the mortgage market, holding about $5 trillion in mortgages, they effectively dictated mortgage standards. The result: Their misguided practices rippled through lenders across the country. If banks made a sub-prime loan, they could re-sell it to Fannie and Freddie. And unless banks made those loans, there was a limit to other loans that would be bought.

As HUD wrote in a 2004 report, explaining its post-1996 quotas:

HUD's ... Regulation imposes no requirement for the total number of home purchase mortgages that a GSE [Government-Sponsored Enterprise] must buy. Rather, the rule provides that, however many home purchase loans in metropolitan areas the GSEs buy, a certain percentage must be in each goal category. For example, if a GSE buys 1 million home purchase mortgages in metropolitan areas in 2005, then 450,000 of these mortgages would need to be for low- and moderate-income families.

Under that scenario, for each million loans made in 2005 (when the "very low-income" goal was 22 percent), then 220,000 of those mortgages were required by federal regulation to be among the "special affordable" sub-prime group. Since Fannie and Freddie bought hundreds of billions in mortgages each year, this 22 percent quickly became a huge mandate to make poor-quality loans.

Lenders complied by creating the infamous zero-down loans and other loans that proved to be junk. This wasn't a failure to regulate. It was a failure by regulating too much!

Many motives were commendable, of course. The American dream of home ownership is common to all races, classes and income levels. But so, too, is the ability to get in over your head.

So how low was low-income to our government? "Very low-income," also called "special affordable loans," was defined as having less than 60 percent of an area's median income. Just being below the median alone put a household in the bottom half of income. Being in the bottom third of the bottom half was scraping along compared to most folks.

Local medians vary. Census numbers show a median range from $44,000 for a family of three in Arkansas to $81,000 for a family of three in Maryland. (These are 2008 dollars). Living on 60 percent of that would be $26,400 to $48,600, with all sorts of levels in-between, depending on locality.

Fannie and Freddie complied with HUD's requirements, increasing their sub-prime loans year after year. They didn't mind. Indeed, they and their congressional supporters bragged about it.

Protected by their political friends, especially in Congress, Fannie and Freddie not only met their quotas for backing home loans to people who couldn't afford houses, they surpassed them. In 2004, 24.2 percent of their mortgages went to very low-income families, beating the goal of 20 percent. The following year they bested the 22 percent goal, hitting 24.5 percent. In 2006 they smashed the 23 percent goal with 26.46 percent. A year later they slipped, but still exceeded the 25 percent goal with 25.65 percent.

Helping out was the controversial group ACORN, which joined other community organizations in channeling potential borrowers to banks that would make these special loans. Of course, ACORN and the other enablers received handsome fees for this effort.

But it wasn't a kindness to help poor people get into a house, only to be evicted because they couldn't pay. It was a setback to them.

So, what if Fannie and Freddie had balked, rather than happily complied? Ultimately, the law created penalties that could reach $25,000 each day if they were not aggressive enough in marketing mortgages to those who had limited ability to pay.

This quota system for mortgage loans began when Congress in 1992 created the requirement that Fannie and Freddie must back loans to very low-income persons. However, the legislation specified only that this goal must be "not less than 1 percent." Starting at 12 percent and scaling up to 28 percent, the Clinton administration went above and beyond this. And the Bush administration did not reverse that course.

The left is aggressively working to convince America that a "failure to regulate" made lenders go crazy and wreck our economy through greed. The truth is that our economy was legislated and regulated into this mess. Even if our economy isn't already regulated to death, it's still attempted murder.

Ernest Istook is recovering from serving 14 years in Congress and is now a distinguished fellow at The Heritage Foundation.

About the Author

Ernest Istook Distinguished Fellow
Government Studies

First Appeared on WorldNetDaily