Mortgage Regulation Is Only Skin Deep
The Wall Street Journal
By: David Reilly
February 22, 2013
Housing markets are healing, but they are far from recovered.
So regulators, who have tightened the screws on a lending system that had run amok, are thinking about easing up. The danger is that by trying to add more fuel to housing's revival, they could again sow the seed for long-run problems.
The housing bubble showed that efforts to extend homeownership by loosening lending criteria can backfire badly. One thing that became clear: the need for home buyers to have a stake in what they purchase, or skin in the game.
Years ago, home buyers had to put down at least 20% to qualify for a mortgage. That later fell to 10%, with insurance. Then came no-money-down mortgages. While fueling the boom, this worsened the bust. Even the slightest fall in home prices would leave mortgage holders owing more than their houses were worth.
At the same time, many mortgage originators stopped holding loans they made, finding it more lucrative to package and sell them to investors. That opened the door to looser underwriting--a practice that came back to haunt investors and lenders themselves.
Now, as regulators work to finalize a new rule that will dictate whether a bank has to retain some portion of a pool of loans before selling it to investors, there are calls to again loosen down-payment requirements. When regulators first proposed this rule, for what would be a Qualified Residential Mortgage, there was a 20% down-payment requirement.
Following opposition from banks and borrowers, regulators look likely to waive any such requirement. During a recent Senate hearing, Federal Reserve Governor Daniel Tarullo said regulators would consider aligning requirements for this kind of mortgage with rules recently passed by the Consumer Financial Protection Bureau. Those didn't include any down-payment criteria.
Mr. Tarullo also said that, given the current state of the mortgage market, "We want to be careful here about the incremental rule making that we're doing not beginning to constrict credit to middle- and lower-middle-class people, who might be priced out of the housing market."
That marks a potential turn in regulatory thinking. Not that this would mean an immediate return of no-money-down loans. Mortgages guaranteed by Fannie Mae and Freddie Mac, for instance, would still have to meet certain criteria on this front.
Still, it would make it easier for lenders to sell more mortgages to investors without having to hold on to a portion of them. And that could lead to continued uncertainty among investors, who are already reluctant to hold mortgage bonds not guaranteed by the government.
It may also send the wrong signal to lenders, or leave it in the hands of the biggest banks to set a de facto standard. With memories of the crisis fresh, few lenders are rushing to return to the bad old ways. If anything, the pendulum has probably swung too far the other way, as seen by the drop in the homeownership rate to 65.3% at the end of last year from a peak of 69.4% in 2004, according to Census Bureau data.
Eventually, though, such memories will fade. Without a clear standard, lenders will inevitably push the envelope. Regulators may think that, once housing has fully recovered, they can go back and tighten rules. But that rarely happens in practice. And even if it does, it's usually too late.
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