Posts tagged ‘Variable Interest Rates’

05/11/2012

Adjustable Interest: Still A Big Problem

Between 2001 and 2007, “Adjustable Rate Mortgages” were sold by predatory lenders like Countrywide, who profited quickly by pocketing high closing costs, and then by promptly selling their Notes to Fannie Mae or Freddie Mac, so they could recoup their principle. When unsuspecting borrowers later faced significant interest rate increases, millions found themselves unable to pay, and fell into default. While mortgage foreclosures grew at a galloping rate, the crisis turned into a housing sector depression. As fair market values fell precipitously, millions of homes took on the label of being “underwater,” because their mortgage balances exceeded what could be realized in an arms-length sale.

Even though “adjustable rate mortgages” and “interest only” loans were a major contributing factor in the 2008 housing collapse, they are still used today, because wealthy financiers continue to purchase the votes of House and Senate members, and this keeps Congress from banning usurious lending practices. Despite the best efforts of Democrats through the Dodd-Frank Bill, variable rate mortgages are not eliminated, and are not even regulated.

There was a time in America, however, not so long ago, when “variable interest rates” were not allowed, and relatively low caps were set on “fixed rate mortgages.” Historically, each state had laws that set maximum interest rates. After the United States was formed, most states limited interest rates to no more than 6%.

During the right-wing Reagan Revolution, conservatives started pushing de-regulation as to nearly everything, including interest rates. When South Dakota completely eliminated their cap on interest in 1978, many credit card companies relocated there. With the approval of a conservative U.S. Supreme Court, they started charging unlimited sums of interest under South Dakota law, even though their credit cards were being used in states that had caps.

The loss of control on interest rates got another boost under the federal Depository Institutions Deregulation and Monetary Control Act, which exempted federal banks from state usury laws in 1980.

Before the reckless Reagan Revolution, the country had witnessed a great expansion in housing after WW II, during the 1950s and 1960s, when banks and savings and loans were limited by law to using only “fixed rate mortgages” with capped low interest rates. Payment schedules remained unchanged for 15 to 30 years, and there were no spikes or adjustments to throw buyers into default.

While Wall Street banks make billions from variable interest rates, they are nowhere near as good for consumers as fixed rates. The absence of caps on the amount of interest that can be charged, only leads to unnecessary profit-taking, and many hardships for the millions of victims who lost their homes in the crash of 2008.

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05/10/2012

Housing Crisis: “Easy Credit” Not Cause

While Republicans attributed the 2008 housing collapse to many factors during the 2011 and 2012 debates, including Fannie Mae and Freddie Mac, “easy credit,” and “loans to people who could not afford them,” they never really hit the nail on the head, because they never even mentioned “adjustable interest rates.”

Fannie Mae and Freddie Mac were not in and of themselves a problem. In the Great Depression, when housing crashed the first time, the Congress responded in 1938 by establishing “Fannie Mae,” the Federal National Mortgage Association (FNMA), which created a “secondary mortgage market” by accepting the assignment of mortgage notes from banks in consideration for cash, so banks could promptly turn around and make more loans. It was good public policy, because it effectively increased the sum of money available for lending, and increased the level of home ownership. There is no reason today to abolish that concept.

After Fannie proved useful, the Republicans in Congress made the mistake of converting it into a “mixed ownership corporation” in 1950, by allowing private investors to purchase its common stock. They also erred in 1968 by making Fannie 100% privately-owned, while maintaining their line of credit to the U.S. Treasury. Since Fannie wanted only lower risk private mortgages, Freddie Mac, the Federal Home Loan Mortgage Corporation (FHLMC), was created to accept the riskier notes, made by the FHA, VA, and FmHA. While the privatization of Fannie made it harder to monitor, that mistake did not cause the recent housing meltdown.

Some argued “easy credit” and relaxed lending standards contributed to the crisis, as borrowers were no longer required to put 20% down, or sufficiently prove a credit worthiness. As the crash hit and the values of many mortgages went underwater, many borrowers had little or nothing to lose, and simply walked away from their obligations. While this sounds like a possible cause, if the borrowers had stayed employed, and their interest rates remained unchanged, they would have continued making their monthly payments, and no defaults would have occurred. “Easy credit” allowing people to buy with small or non-existent down-payments had nothing to do with why they defaulted.

Mortgage Notes, containing “adjustable interest rates” which could escalate or balloon to unsustainable levels over time, were the real problem. Notes that allowed “interest only” payments, reduced no principle, and left borrowers in a perpetual state of debt, were also a menace. Once rates jumped upward for borrowers who had no extra cash, breaches were inevitable. Lenders like Countrywide should have been stopped from making such bad loans. President Obama said in his Jan. 25, 2012 speech, mortgages were sold to people who could not afford them, by lenders who knew it, and this is why regulations are needed to prevent financial fraud.

The way to get back to financial stability in the housing market is to outlaw “adjustable interest rates,” and permit only “fixed interest rates.” If borrowers had the certainly of knowing a monthly payment that could never change, defaults would have been limited to only those who lost their jobs, and the downturn in the housing market would have been relatively mild.