Subprime blame game…Continued

Regulators

The charge: Government agencies such as The Federal Reserve did not use the authority granted them under the Home Ownership and Equity Protection Act to prohibit substandard lending practices.

Federal regulators came in for a large share of subprime blame during a series of Congressional hearings in March. Christopher Dodd, Democrat from

Connecticut

and, perhaps not coincidentally, presidential candidate, accused regulators of being "asleep at the switch" when they allowed lenders to push hybrid loans with low initial rates that would spike in future years.

Harry Dinham, president of the National Association of Mortgage Brokers, says, "The majority of these loans were being done by companies like New Century and Countrywide were not under the control of bank regulators."

Furthermore, there's nothing inherently wrong with the loan products themselves, according to Dinham. "They were designed to give the credit-challenged a chance," he says. "To see if they could make it."

Regulators were following a policy that they hoped would help increase home ownership, a goal regularly lauded by politicians.

Bottom line: Regulators could probably have acted sooner to stem the worst abuses.

Lenders

The charge: Lenders relaxed underwriting standards far too much and made loans they should have known would not be repaid.

Lenders got increasingly accepting of high-risk loan applicants. They had discovered years ago that they could sell subprime loans in the secondary markets by adding stiff risk premiums to the interest rates they charged.

Even though a far higher percentage of the loans would go delinquent, the higher payments from borrowers still paying back the loans would more than offset the delinquencies.

Rising home prices enabled lenders to maintain this equation for years. Appreciation meant that even borrowers who fall behind might have already built up substantial home equity in those two years, equity they could tap to make up shortfalls.

But when home price appreciation stopped its meteoric rise, it caught up many borrowers with no more home equity to draw on.

Bottom line: Lenders made far too many loans to borrowers they knew, or should have known, would not be able to pay them back. That, probably more than any other factor, will drive an increase in foreclosures during the next year or two.

Wall Street

The charge: Investors bought securitized loans with no regard for whether they met underwriting standards.

Wall Street investors introduced lots of liquidity into mortgage markets during the boom years. That should be a good thing; it made loans easier to come by and helped increase home ownership. But, as demand grew, it seemed that investors would purchase almost any loan, no matter how risky.

As Allen Hardester, director of business development for mortgage broker Guaranteed Rate, put it, "If someone wants to buy rotten fruit, there's going to be someone willing to sell them rotten fruit."

Critics, such as Shana Smith, president of the National Fair Housing Alliance, says Wall Street should not be buying these loans with no regard for whether the borrowers could make the payments. According to her, investors have a responsibility to make only those loans that are good for the borrowers and their communities.

Bad loans not only damage the borrowers, they can affect their neighbors as well. When a home is foreclosed on, it lowers the property values of every one around it. Boarded-up homes breed crime, discourage buyers and destabilize communities.

Bottom line: Perhaps not the direct source of the subprime crisis but an enabler of it.

Still more to come.......................