Housing Bubble & Government Complicity [View All]

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THE HOUSING BUBBLE and GOVERNMENT COMPLICITY

The biggest culprit in the housing bubble is the United States Government and the Federal Reserve. The lowering of the prime rate by Greenspan has resulted in a drastic reduction in mortgage rates, allowing people to apply more money toward principle, and less toward interest. This has allowed people to afford more expensive homes, causing prices to skyrocket.

The dubious performance of our economy has shifted money away from business and stock market investment into long term bonds investment. The resultant lowering of long-term bond rates has perpetuated the low mortgage rates that were initiated by Greenspan. (Banks usually sell mortgages as bonds or securities to a secondary holder. Banks must pay interest on the bonds to the secondary holder. In order to make a profit, banks must charge a higher interest rate on the mortgage than they pay on the bond. If bond interest rates are high, banks must pay the secondary buyer more interest on the bond. As a result, they must charge more interest on their mortgage loans to make a profit. This is why mortgage rates are tied to bond rates.)

Finally, an increased demand for bonds reduces the interest banks must pay to sell the bonds. As a result, banks can charge less interest on mortgages and still make a profit. This increased bond demand accounts for the lack of effect of recent prime rate increases on mortgage rates. However, purchase of long-term bonds by foreign governments has slowed recently, and will ultimately lead to an increase in bond rates and mortgage rates. Though non-government buyers have recently increased their bond purchases some, this is starting to level out.

Federally insured mortgage backers Fannie Mae and Freddie Mac have increased the limit on the mortgage value they will insure every year. This means banks can loan out larger amounts of money, and then sell them as securities on Wall Street. These securities are backed by the United States government. In other words, if the loan payments aren't made, the government will pay back the holder of the securities. This means the U.S. taxpayer will have to foot the bill for loan defaults.

Of the $2.6 trillion in mortgages last year, almost $900 billion were government backed through Fannie Mae or Freddie Mac. If these loans default, the American taxpayer will have to bail out Fannie Mae and Freddie Mac.

Government agencies have also relaxed the requirements for loans they will insure. This has resulted in many more risky loans. Standard loan practices in the past usually required a 20% down payment for a home mortgage. This placed some limits on those who could purchase homes. Now that particular limit has largely been removed. By removing the requirement of a 20% down payment, many more people are now able to borrow money to buy homes that would not have been able to previously. This has greatly increased the number of buyers on the market. This has caused a huge increase in demand for homes. This new increase in demand has greatly increased home prices. Again, this price increase is exclusively the handywork of the Federal government.

The loosening of down payment requirements has also allowed speculators to purchase a larger number of homes. If a speculator is only required to put 10% down, instead of 20%, he can buy twice as many homes. Many speculators are in double digits on homes purchased. This has artificially reduced the supply of homes, which also increases the price.

All of this government-sponsored housing overvaluation is greatly inflating the housing bubble. Unfortunately, the American taxpayer will be asked to bail out the banks when this all comes crashing down. As a result, even those of us who have been wise enough to stay out of the housing bubble will be paying for the greed and irresponsibility of banks and speculators.

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