The 67-cent down-payment mortgage

The financial collapse occurred because housing lenders wrote paper to people who couldn’t afford the houses they bought, often getting a no-down arrangement, while lenders sold the paper to Fannie Mae and Freddie Mac, which securitized them and spread the bubble throughout the financial markets in order to provide even more capital for even more bad loans.  After nearly watching the Western world’s financial structure melt down, one would hope that we would have learned a lesson from the catastrophe.  Apparently not, as CNBC’s Diana Olick reports (via Instapundit):

At around the same time this program went into effect, the New York Times did a piece on a small program Fannie Mae is implementing through state housing finance agencies, which have been crippled by the recession. It’s called Affordable Advantage, and it allows first-time home buyers in four states (Massachusetts, Minnesota, Idaho and Wisconsin) to get essentially no-money-down loans that are then sold to Fannie Mae. It requires $1000.00 down, but the couple profiled in the piece received a grant, and ended up paying just 67 cents for a $115,000 home.

The Fannie Mae program requires a minimum credit score of 680 (720 in Massachusetts) and the buyer must live in the home. All loans are 30-year fixed. The arguments for the program are persuasive: It wasn’t the no-money-down loans themselves that fueled the housing crash, it was the poor underwriting. These loans are very strictly underwritten. Adjustable rate loans were the primary drivers of default, while these loans are fixed.

No money down!  Government grants!  In other words, we are once again underwriting the process of putting people into homes they can’t afford at the moment, and ensuring that they have no really good reason to stick with it if times get tough.  Down payments are a means of ensuring positive equity in a home right from the start, an investment by the buyer that ties them to the property.

Granted, these don’t involve ARMs and balloon payments, but they do put the taxpayer in the position of guaranteeing questionable lending arrangements through Fannie and Freddie.  And that’s what got us into the problem in the first place.  Olick says it wasn’t the no-down loans that created the crash, but they were certainly a part of the problem, and they continue to be a problem.  Without positive equity, owners who get underwater have a lot less incentive to stick around and make payments.  While a down payment isn’t a guarantee of positive equity in the mid-term — prices may drop even farther, and probably will — no-down arrangements make a much higher risk of going underwater down the road.

The answer to the problem is to get government out of the lending business.  Fannie and Freddie should be wound down entirely, and the US government should take a lesson from our neighbors in Canada, who balk at social engineering through taxpayer subsidies and government interventions in the housing markets.  Instead, we’re repeating the same behaviors that created the bubble and the collapse, while telling ourselves that a little insanity isn’t all that harmful.

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