Obama Seeks to Mandate More Risky, Low-Income Loans by Banks, in New Financial Rules

by Hans Bader on June 17, 2009 · 11 comments

in Bailout Watch, Deregulate to Stimulate, Economy, Legal, Politics as Usual, Precaution & Risk, Regulation

The President has just announced proposals for a major overhaul of the financial system. The proposals would force banks to make even MORE risky loans to low-income people. Even liberal newspapers like the Village Voice have admitted that “affordable housing” mandates are a key reason for the housing crisis and the massive number of defaulting borrowers. But Obama will not accept this reality. Instead, he wants to create a new “Consumer Financial Protection Agency” to rigorously enforce regulations pressuring banks to make loans to low-income borrowers, such as the Community Reinvestment Act. (Obama once represented ACORN, which pressures banks to make risky loans).

In explaining why there is supposedly a need for this new agency, when other agencies already enforce the Community Reinvestment Act and fair-lending laws, his regulatory blueprint complains that “State and federal bank supervisory agencies’ primary mission is to ensure that financial institutions act prudently, a mission that, in appearance if not always in practice, often conflicts with their consumer protection responsibilities.” (Pg. 54).

In other words, the power to force banks to make low-income loans should be given to an agency that has no duty to ensure prudent lending or to take into account the effects of such requirements on banks’ stability or viability.

The President also wants to give financial regulators the power to seize key companies to prevent real or imagined “systemic risks” to the financial system. These are the same federal regulators who used the AIG bailout to give billions in unnecessary payments to Goldman Sachs, which neither needed nor expected that much money, and forced Freddie Mac to run up $30 billion in losses to bail out deadbeat mortgage borrowers. This is the same federal government that took over Chrysler and General Motors, and then used them to rip off pension funds and taxpayers and enrich the UAW union.

(There is one good thing in the President’s proposals, though: they get rid of the inept Office of Thrift Supervision, which poorly supervised savings and loans and AIG, and gives most of its responsibilities to the Office of Comptroller of the Currency, which competently supervises national banks.)

Obama’s regulatory blueprint disingenuously claims that the Community Reinvestment Act, which pressures banks to make low-income loans, can’t have contributed to the mortgage crisis, because it existed for years before the crisis began. But it is not the Act’s passage, alone, that economists credit with causing the mortgage crisis, but rather the unrealistic regulations adopted to implement the Act many years after the Act’s passage. Those regulations went into effect not that long before the mortgage bubble began, as historian Clayton Cramer notes. Economists, investment bankers, and historians have long noted the role of the Community Reinvestment Act and its regulations in promoting the risky lending that spawned the financial crisis. Investors Business Daily has chronicled how “the Community Reinvestment Act” pressured lenders to make the risky loans that led to the mortgage meltdown.

The current mortgage crisis came about in large part because of Clinton-era government pressure on lenders to make risky loans in order to make homeownership more affordable for lower-income Americans and those with a poor credit history,” the DC Examiner notes. “Those steps encouraged riskier mortgage lending by minimizing the role of credit histories in lending decisions, loosening required debt-to-equity ratios to allow borrowers to make small or even no down payments at all, and encouraging lenders the use of floating or adjustable interest-rate mortgages, including those with low ‘teasers.’”

The liberal Village Voice previously chronicled how Clinton Administration housing secretary Andrew Cuomo helped spawn the mortgage crisis through his pressure on lenders to promote affordable housing and diversity. Andrew Cuomo, the youngest Housing and Urban Development secretary in history, made a series of decisions between 1997 and 2001 that gave birth to the country’s current crisis. He took actions that—in combination with many other factors—helped plunge Fannie and Freddie into the subprime markets without putting in place the means to monitor their increasingly risky investments. He turned the Federal Housing Administration mortgage program into a sweetheart lender with sky-high loan ceilings and no money down . . . Three to four million families are now facing foreclosure, and Cuomo is one of the reasons why.” (See Wayne Barrett, “Andrew Cuomo and Fannie and Freddie: How the Youngest Housing and Urban Development Secretary in History Gave Birth to the Mortgage Crisis,” Village Voice, August 5, 2008).

In drafting his financial regulation proposals, Obama has turned to Barney Frank and Chris Dodd, lawmakers who are among those most culpable in spawning the financial crisis. The New York Times reports that “the plan is largely the product of extensive conversations between senior administration officials and top Democratic lawmakers — primarily Representative Barney Frank of Massachusetts and Senator Christopher J. Dodd of Connecticut.” Frank and Dodd were the lawmakers who defeated reform proposals to rein in the government-sponsored mortgage giants, Fannie Mae and Freddie Mac, which later had to be bailed out for hundreds of billions of dollars. Fannie Mae killed reform proposals by paying off liberal lawmakers and bullying critics. Dodd recently attracted criticism for financial and ethical lapses.

Banks and mortgage companies have long been under pressure from lawmakers and regulators to give loans to people with bad credit, in order to provide “affordable housing” and promote “diversity.” That played a key role in triggering the mortgage crisis, judging from a story last year in the New York Times.

For example, “a high-ranking Democrat telephoned executives and screamed at them to purchase more loans from low-income borrowers, according to a Congressional source.” The executives of government-backed mortgage giants Fannie Mae and Freddie Mac “eventually yielded to those pressures, effectively wagering that if things got too bad, the government would bail them out.” But they realized the risk: “In 2004, Freddie Mac warned regulators that affordable housing goals could force the company to buy riskier loans.” Ultimately, though, Freddie Mac’s CEO, Richard F. Syron, told colleagues that “we couldn’t afford to say no to anyone.”

As a Washington Post story shows, the high-risk loans that led to the mortgage crisis were the product of regulatory pressure, not a lack of regulation. In 2004, even after banking officials “warned that subprime lenders were saddling borrowers with mortgages they could not afford, the U.S. Department of Housing and Urban Development helped fuel more of that risky lending. Eager to put more low-income and minority families into their own homes, the agency required that two government-chartered mortgage finance firms purchase far more ‘affordable’ loans made to these borrowers. HUD stuck with an outdated policy that allowed Freddie Mac and Fannie Mae to count billions of dollars they invested in subprime loans as a public good that would foster affordable housing.”

Lenders also face the risk of being sued for discrimination if they fail to make loans to people with bad credit, which often has a racially-disparate impact (proving that such impact is unintentional is costly and difficult, and not always sufficient to avoid liability under antidiscrimination laws). They also risk possible sanctions under the Community Reinvestment Act.

Banks get sued for discrimination no matter what they do. If they don’t make enough loans in low-income, predominantly minority neighborhoods, they get accused of “redlining,” and are subject to sanctions under politically-correct laws like the Community Reinvestment Act, which contributed to the financial crisis by pressuring lenders to make risky mortgage loans.

But if they do make such loans, they get accused of “reverse redlining,” and get sued by the liberal special-interest groups and municipalities that encouraged them to make such loans during the mortgage bubble. Baltimore and various borrowers have also brought “reverse redlining” lawsuits against banks.

The Washington Post reported that bond-rating agencies like Moody’s and Fitch are now getting sued, too, for reverse redlining,” under the theory that they encouraged risky loans to low-income minorities (who subsequently regretted taking out those loans) by giving respectable ratings to the mortgage-backed securities produced by packaging those mortgage loans. The plaintiffs include the National Community Reinvestment Coalition, which has been pressuring lenders to make risky loans to low-income minorities for years. They blame the ratings-agencies for allowing lenders to make loans to minorities with “insufficient borrower income levels.”

UtahAlumnus June 17, 2009 at 12:50 pm

It is truly scary what you get away with in this country if you are a Democrat.

Robert O. Lopez June 17, 2009 at 8:22 pm

This is a great,informative article. I wish more people would take the time to educate themselves on these issues. Thanks. rol

Scott June 18, 2009 at 10:39 am

UtahAlumnus says:

June 17, 2009 at 5:50 pm

It is truly scary what you get away with in this country if you are a Democrat.

Change "Democrat" to politician.

What they get away with just benefits different people.

But in neither case do the benefits flow my way.

Frank June 18, 2009 at 11:52 am

And in 6 years we will be right back where we started and this joke of a President can then start blaming a Republican congress which will no doubt be in place. This administration has no interest in making policies that work,just policies that buys votes. If you are the leader of morons exactly how much of.a leader are you?

Nick June 19, 2009 at 9:49 am

Interesting and straightforward piece. Shows exactly where the problem began with this current economy. Too bad no liberal will ever read or believe it! Let's be frank (not Barney) it was and is a way to buy votes behind a veil of "caring" instead of prudence in lending, initiated by Dems, but, the GOP loved it too for the same reason with only halfhearted complaint. Both parties are too spineless to tell it like it is!

Sal June 22, 2009 at 5:22 am

Obama's plan leaves totally unfixed and unaddressed a big reason for the mortgage bubble and financial collapse: Fannie Mae & Freddie Mac, which created a market for junky sub-prime mortgage loans, and failed to limit excessive leverage that would never have been tolerated at any bank.

Using special government privileges, they levered themselves up like crazy, and bought up the risky low-income mortgages that banks were pressured into making under the Community Reinvestment Act, making it easier for the banks to knuckle under to such pressure and make those garbage loans.

CNS News, on June 19, quoted treasury secretary Geithner recently admitting that Fannie & Freddie were a "core part of why" the financial system collapsed.

But Obama's financial-regulation overhaul does nothing to place any additional checks on Fannie Mae and Freddie Mac, Geithner admitted.

They still are absurdly over-levered, still are buying up junky loans, and taxpayers are still spending hundreds of billions of dollars to bail them out.

Gray June 23, 2009 at 8:51 am

Obama's proposed financial rules also provide for federal takeovers — so that the government can take over financial institutions (not just banks) and dispose of their assets to benefit favored constituences.

The administration's white paper contains a "resolution regime" for "nonbank financial firms." In this "regime," the government would have "broad powers to take action with respect to the financial firm," including "the authority to take control of the operations of the firm or to sell or transfer all or any part of the assets of the firm."

That means the federal government could so what it did at AIG, where it overpaid politically-connected AIG customers like Goldman Sachs by billions of dollars, or at Freddie Mac, where it modified mortgage loans at a cost of billions, as the Washington Post reported, or at Indymac, where it wrote off mortgage loans to curry favor with borrowers, as John Berlau noted in American Spectator: "FDIC Chairwoman Sheila Bair, whom Obama held over because of the liberal policies she pursued in the latter half of the Bush administration (such as strong backing of the Community Reinvestment Act, as Matt Vadum reported, disregarded taxpayer interests upon seizing the large thrift Indymac and other banks and created a 'model' mortgage modification program for thousands of borrowers that wrote off principal on the loans and reduced interest payments to well below market rates. Initial results show a redefault rate in programs like these of more than 50 percent, but Bair and Obama show no signs of stopping this flawed experiment with taxpayer dollars."

Hans June 23, 2009 at 12:14 pm

Additional flaws in the Obama Administration's proposed financial regulation blueprint can be found in (1) CEI's press release, "Obama Overregulation Plan Won't Fix Financial Crisis" (June 17, 2009) (http://cei.org/news-release/2009/06/17/obama-overregulation-plan-wont-fix-financial-crisis), and (2) the blog post "Obama Backs Corrupt Status Quo in Financial Rules Overhaul," June 23 (http://www.openmarket.org/2009/06/23/obama-backs-corrupt-status-quo-in-financial-rules-overhaul/)

Lynne June 24, 2009 at 10:53 am

Every time for the last three years that I have tried to obtain a mortgage. I was turned down because of my low income and bad credit. I have resided in a mobile home park for the last 7 yrs. I've paid more than $25,000 in mobile home park lot rent. I have found a foreclosed home for $52,9000. This amount of park lot rent would have almost paid for half of this home. Our mobile home park is in foreclosed now.Because this company didn't use my low income rent payments to them to pay their mortgage payments. But it's the low income people that get the bad rap. I also have taken in disabled homeless people without any income during this period of time. That the government won't help. AIG and their employees didn't need the exotic vacations and the perks that they recieve either. I have survived just fine living on my $14,000 worth of income.

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