As published in Scotsman Guide's Residential Edition, December 2008.
When the government placed Fannie Mae and Freddie Mac under conservatorship, several critics balked against what they called a “bailout.” They characterized the government intervention with the backing of taxpayer funds as a negative occurrence.
On the other hand, proponents say that if our economic boat is sinking, we should be bailing it out as fast as we can.
Lost in the discussions of the government bailout of these companies and others in recent months, however, is what brought the economy to this point. Ultimately, market efficiency was reduced. Certainly, with loosened lending guidelines and lax products, mortgage brokers, lenders and others played a role in bringing the market to its current state.
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It can be argued that certain human factors crept in — specifically greed, indifference and fear. When examining the current mortgage crisis, it is clear that all three factors were at work.
Greed played a critical role in pushing the mortgage market out of efficient bounds. To a greater extent than likely was prudent, market participants pursued their own interests:
Home-builders built a majority of new homes priced well greater than local median home prices to maximize their profits;
Mortgage brokers and banks greatly boosted their revenue by relaxing lending standards at the front end of a capital conduit to homebuyers;
Investment bankers reaped profits creating the back-end source of the capital conduit through selling dubiously risk-adjusted mortgage bonds; and
Ratings agencies failed to exercise adequate diligence in monitoring the activities and risk profiles of the securities related to mortgage-backed debt and to the companies participating in the mortgage-banking market.
In addition, to varying degrees, homebuyers and homeowners refinancing their mortgages ignored simple truths about home values, affordability and excessive use of credit.
If you add the residential construction industry and the suppliers to the home-building and home-product industries, you would probably find more than half of all U.S. households benefited in some way from the growth in the mortgage- finance market.
Collectively, residents in this country knowingly participated in an increasingly dubious run-up in mortgage loans.
The risks were by no means a surprise. In fact, some members of the financial markets began betting against mortgage bonds as early as 2005.
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