Not true at all. That bubble happened precisely because of regulation. Banks were practically forced to lower lending standards by Freddie and Fannie, not to mention the FED key interest rate affected mortgage rates to get artificially low enabling many to borrow who couldn't afford it. All Wall Street did was feed upon this circle and meet a demand that was created by the government and no one else. It's called moral hazard, look it up.
This is completely and utterly bass-ackwards. The only influence Freddie and Fannie had was that they wouldn't buy mortgages on the secondary market unless they met minimum underwriting standards. The pressure was actually in the opposite direction - the banks pressured Freddie and Fannie to lower their lending standard so the banks could make more money on risky subprime loans.
However that ignores the bigger picture, namely the amazing and astounding history of Freddie and Fannie from the 70s and the knock on effects. My oversimplified understanding of it is of the way in which those government-set-up institutions got used to force lenders to lend irresponsibly to fulfill political agendas.
I've heard this said a lot, but again the exact opposite is true. For instance have you looked at what the much-criticised Community Reinvestment Act actually did? It banned the practice of "redlining" - banks were no longer allowed to refuse mortgages to people who otherwise met their lending criteria just because they were buying homes in poor, largely black urban areas. That's it. It didn't require them to lend money to people who couldn't afford it or any of the other things blamed on it; that was a purely profit-motivated commercial decision by the bank.
Actually, things would probably have been worse without the CRA. Amongst other shady things, banks had been pushing black homebuyers into expensive subprime mortgages they couldn't afford
even though they were eligible for a much cheaper, affordable prime mortgage on the same house because those mortgages were more profitable for the banks in the short term. Without the CRA, the banks could and almost certainly would have refused to give prime mortgages to those buyers, forcing them to rely on the subprime mortgages that caused the problems in the first place.
OK, I've gone back to where I'd got this impression. The author is Eamonn Butler, Director of the Adam Smith Institute so his angle is not surprising. However, it sounded plausible when I read it and I've still not been persuaded otherwise. I will admit to wanting to continue believing because it supports my world-view but I will invite you to post any references backing up your argument so I can if necessary revise my opinion by being better informed.
How politicians forced bankers to make bad loans
The final ingredient in this poisonous cocktail was the Community Reinvestment
Act (CRA), which President Jimmy Carter signed on 13 October
1977. Its aim was laudable – to promote home ownership for minorities.
It made illegal the practice of redlining, whereby lenders would simply
refuse mortgages in poor (and commonly black and Hispanic) areas on
the grounds that low-quality housing and high levels of unemployment
and welfare dependency made local residents unattractive as borrowers.
From now on, the lenders were expected to conduct business over
the whole of the geographical area they served. They could not favour the
suburbs over the inner-city districts. To make sure they complied, the
1975 Home Mortgage Disclosure Act (HMDA) forced lenders to provide
detailed reports about whom they lent to. And the Carter administration
also funded various ‘community’ groups, such as the Association of
Community Organisations for Reform Now (ACORN), to help monitor
their performance on the CRA rules.
In 1991 the HMDA rules were strengthened to include a specific
demand for racial equality in the institutions’ lending. In 1992 the
Federal Reserve Bank of Boston published a manual for lenders that
went even further. It advised them that a mortgage applicant’s lack of
credit history should not be seen as a negative factor in assessing them
for a loan; that lenders should not flinch if borrowers used loans or gifts
for their mortgage deposit; and that unemployment benefits would be a
valid source of income for lending decisions. It also reminded them that
failing to meet CRA regulations could be a violation of equal opportunity
laws that exposed them to actual damages plus punitive damages of
$500,000.
The government went further, ‘streamlining’ the CRA regulations in
1995 to allow, and indeed force, lenders to ignore most of the traditional
criteria of creditworthiness in their loan decisions. Mortgages could
now be any multiple of income; a person’s saving history was irrelevant;
applicants’ income did not need to be verified; and participation in a
credit counselling programme could be taken as proof of an applicant’s
ability to manage a loan. In other words, the government was now
forcing the institutions to make loans to people who they knew were not
creditworthy.
And to make sure all this happened, more taxpayer funds were
given to monitoring groups such as ACORN. As public scrutiny of
bank mergers and acquisitions increased following their 1994 Riegle-
Neal deregulation, these groups were actually able to hold the banks
to ransom. Under the CRA, if a lender wants to change its business
operation in any way – merging with another bank, opening or closing
branches, or developing new products – it must convince the regulators
that it will continue to make sufficient loans to the government’s
preferred groups of borrowers. ACORN and others can file petitions
with the regulators to stop the banks’ plans.
Bad loans and booming markets
Not surprisingly, the banks paid the ransom. And now that creditworthiness
was no longer a requirement for getting a loan, the number of
sub-prime loans boomed. Home ownership increased, from 65 per cent
of households to 69 per cent between 1995 and 2004, representing about
4.6 million new homeowners. This put pressure on house prices, which
also rose sharply from their stable position in the early 1990s.
Meanwhile, a 1992 law was pushing the government-sponsored
Fannie Mae and its younger twin the Federal Home Loan Mortgage
Company (Freddie Mac) to devote more effort to meeting wider home
ownership goals. High-risk loans were everywhere. Even the FHA
promoted more credit to poor borrowers by offering low-deposit loans.
And Freddie Mac actually developed the process of securitising bad
loan packages and selling this bad debt around the world. This business
boomed after 1995 too.
Fannie and Freddie profited from this system, while passing most
of the risk on to taxpayers. To make sure, they contributed heavily to
congressional offices, and spent hundreds of millions on lobbying and
pressure groups. Other unscrupulous lenders also knew that Freddie
and Fannie – and ultimately the taxpayers – would guarantee their bad
loans, so were happy to make more of them.
While house prices continued to rise, everything seemed to go well.
Even the riskiest borrowers were meeting their payments. Some people
refinanced on the back of rising house prices and pocketed nice profits.
And other government interventions kept the bubble growing. Land-use
regulations, limiting the opportunity for house building, pushed prices
up further. Income tax deductions for mortgages favoured housing over
other savings.
Meanwhile, the Federal Reserve – assisted by the Bank of England
– had flooded world markets with credit after the stock market crash
of 1987. They did the same again whenever any downturn threatened
– the dotcom crash, and spectacularly after 9/11, when interest rates
came down from 6.25 per cent to just 1 per cent – which just boosted
borrowing even more. So house prices continued their rise, and homeowners
enjoyed the boom.
There seemed every reason to buy houses, and no reason not to.
By 2006, perhaps a fifth of buyers were simply speculators – not just
middle-class speculators, but low-income ones too. In states like California,
where lenders could not go after a borrower’s assets, there was
no risk at all: if things went wrong, you simply sent the keys back to the
lender and walked away. They called it ‘jingle mail’.
Butler - The Financial Crisis: Blame Governments, Not Bankers -
from the IEA publication Verdict on the Crash, Edited by Philip Booth
