By Barry Poulson
Denver Mayor John Hickenlooper recently signed on to “Take Root Denver,” a new affordable housing campaign sponsored by the Federal Home Loan Mortgage Corporation, a “government sponsored enterprise” more commonly known as Freddie Mac. Hickenlooper touts this as a new program to assist residents with calling Denver “home sweet home.”
But the federal mandate to provide “affordable housing” is fundamentally flawed, and a significant cause of the financial crisis. In other words, Mayor Hickenlooper and Freddie Mac have prescribed for Denver more of the same bad medicine that got us into our current financial mess.
Freddie Mac subsidizes and guarantees mortgage loans to individuals who do not qualify for loans from private lenders. These loans have very lax standards. Individuals can qualify for loans making a minimal or zero down payment. They do not need a good credit rating, nor need to earn the minimum level of income that private lenders would require to qualify for the loan.
These lax standards induced many individuals to invest in homes they could not afford, loans that are now in default. The government guarantees and subsidies for these loans also induced many financial institutions to invest in mortgage-based securities at the heart of the financial crisis. The federal mandate that Freddie Mac subsidize and guarantee mortgage loans has saddled the institution, and ultimately American taxpayers, with hundreds of billion of dollars in debt.
The origin of the financial crisis can be traced to government policies encouraging unqualified borrowers to assume risky mortgages, and to government mandates that financial institutions extend loans to these borrowers. The Federal Housing Authority (FHA) loosened standards applied in non-prime lending. Through federal legislation such as the 1977 Community Reinvestment Act (CRA), and agencies such as the Department of Housing and Urban Development (HUD), the government pressured lending institutions to extend credit to unqualified borrowers.
The financial crisis was exacerbated by the quasi-governmental institutions Fannie Mae and Freddie Mac. These institutions created a moral hazard by implicitly guaranteeing mortgages. By the time they collapsed in 2008, they together held $5 trillion in mortgages and mortgage-backed securities. They continue to incur billions in losses, requiring government bailouts.
If mortgage lenders had not been forced to abandon traditional underwriting standards on behalf of an ‘affordable housing’ policy, the financial crisis and taxpayer bailouts would not have occurred. Qualified mortgage borrowers would have purchased homes at competitive market prices. Now all homeowners, including qualified mortgage borrowers, must suffer the consequences of the mortgage meltdown and collapse in home prices.
We must end the myth of “affordable housing.” As economist Thomas Sowell has argued, an affordable house is a house you can afford. This means restoring traditional market criteria for mortgage lending: meeting strict income standards to qualify for a loan, and requiring a minimum down payment from creditworthy borrowers.
Residents will call Denver “home sweet home” when the housing market stabilizes. That will only happen when lending institutions write off mortgage loans in default, when individuals are in homes they can afford, and when housing prices stabilize. The best way to achieve that objective is to return mortgage lending to the private marketplace. In the absence of government subsidies and guarantees, private mortgage lenders have an incentive to lend to creditworthy borrowers, and to require minimum standards for individuals to qualify for these loans.
The same Freddie Mac and Fannie Mae that are implementing the “affordable housing” agenda got us into the housing pickle and financial crisis. They should be gradually phased out of the mortgage market. Critics will argue that private lending institutions are not able to perform the functions of Freddie Mac and Fannie Mae. But that is the point: no lending institution should be promoting mortgage lending to individuals who cannot afford to own a home. The Federal Housing Administration should return to the original role of insuring mortgage loans to low-income borrowers who can meet minimum standards to qualify for such loans.
There is no reason why Denver should be the guinea pig in a repeat of failed housing policies promoted by the Obama administration.
Barry Poulson is a Senior Fellow in Fiscal Policy at the Independence Institute