You can’t say they’ve been lazy in their efforts. When their first quantitative easing (QE) program failed to create a bounce back in housing, they started up another one, QE2. When that failed they brought in QELite, followed by Operation Twist.
After all of those failures, the Fed kicked the numbering system to the curb and introduced QE-Eternity, which allowed them to print money and buy bonds for as long as they wanted. Still, the housing market, that engine of middle class employment, has remained in a funk.
But have no fear! Across the land we can hear what Ronald Reagan considered the scariest words in the English language: “I’m from the government, and I’m here to help!”
In late 2013, Congress directed the Federal Housing Finance Agency, which oversees Fannie Mae and Freddie Mac, to increase the fees charged on mortgages. The idea was to better safeguard taxpayer dollars and to encourage private lending.
The agency’s new director, Melvin Watt, ignored this and left most rates the same. He actually lowered rates for the riskiest borrowers!
In the meantime, Fannie Mae and Freddie Mac have significantly lowered the size of the down payment required to qualify for a mortgage. It’s not the traditional 20%, or even 10%, but a mere 3%.
With real estate brokerage fees running at 6%, homebuyers are immediately underwater when they buy a home with 3% down. If they turned around and sold it for the same price, commissions would eat up twice their down payment! Brilliant! Isn’t this the sort of thing that got us into trouble last time?
But it doesn’t stop there. The Fed received another assist, this time from the private sector.
Credit rating firm Fair Isaac Company (FICO) recently announced the creation of an alternative credit scoring system. The point of the alternative approach is to give more consumers a high enough rating to qualify for credit.
Fair Isaac estimates that the new system will affect 15 million consumers, including those who rarely used debt in the past or who even have negative credit events on their history, like foreclosures. FICO expects a full one-third of these consumers to be rated at least 620, which is the minimum for many credit decisions.
Apparently the new approach is in response to lenders who have been looking for ways to increase the number of people that qualify for credit.
Something about this doesn’t seem quite right. Maybe it’s because under the old system of credit scoring we still went through the worst economic crisis since the Depression, and now the main credit rating company is looking for ways to increase the number of people that can take on debt.
But it doesn’t matter what we think. The Fed has determined that the way to solve America’s problems is to increase spending through credit. Lowering down payments and increasing the number of people who qualify for credit are two great examples of how the government and private companies are “just trying to help.”
What if these efforts do more harm than good? What if, instead of a fairy tale ending where all asset prices only march higher, some of the borrowers under these new programs default? What if reality invades and, just like last time, borrowers with low credit scores or those who put down very little when buying homes can’t make their payments?
With the U.S. economy stuck in low gear while Europe suffers inflation and China slows down, the chances of a downturn here at home loom larger every day. When the next recession happens, many of these newly-minted (or recently reinvented) borrowers could fail.
That’s where you and I would enter the picture.
We might think lending 97% to home buyers is a bad idea and could lead to losses, but as we proved in 2008, the American taxpayer is the one left holding the bag when Fannie Mae and Freddie Mac make bad decisions.
As for private lenders, we backstopped them during the last recession as well, no matter how many questionable borrowers were approved for credit.
When the economy eventually turns south and stories of borrowers defaulting on loans once again fill the papers, there will be a knock on our door. Whether we want to or not, we’ll once again be forced to help.