Remember John McCain’s explanation for the mortgage crisis?: “The regulators were asleep at the switch.” The crisis handed him an opportunity to give the voters a clear choice between capitalism and socialism, and he chose to join Obama in embracing the socialist narrative. No wonder he lost.
Now, an unlikely source calls the socialist narrative into question. Christopher L. Foote, Kristopher S. Gerardi, and Paul S. Wille—three economists at the Federal Reserve—have issued “The Causes of the Foreclosure Crisis”. According to the abstract, “This paper presents 12 facts about the mortgage market. The authors argue that the facts refute the popular story that the crisis resulted from financial industry insiders deceiving uninformed mortgage borrowers and investors.”
Source: Federal Reserve
The twelve facts are:
Fact 1: Resets of adjustable-rate mortgages did not cause the foreclosure crisis.Instead of the “Insiders” theory, the authors offer a much simpler explanation for the mortgage crisis: the “Bubble Fever” theory. Everything lenders, borrowers, and investors did during the housing bubble can be explained by their belief that housing prices would continue to rise.
Fact 2: No mortgage was “designed to fail.”
Fact 3: There was little innovation in mortgage markets in the 2000s.
Fact 4: Government policy toward the mortgage market did not change much from 1990 to 2005.
Fact 5: The originate-to-distribute model was not new.
Fact 6: MBSs, CDOs, and other “complex financial products” had been widely used for decades.
Fact 7: Mortgage investors had lots of information.
Fact 8: Investors understood the risks.
Fact 9: Investors were optimistic about house prices.
Fact 10: Mortgage market insiders were the biggest losers.
Fact 11: Mortgage market outsiders were the biggest winners.
Fact 12: Top-rated bonds backed by mortgages did not turn out to be “toxic.” Top-rated bonds in collateralized debt obligations (CDOs) did.
Systematic failure requires systematic explanation.
The full report is rather long (62 pages) but I strongly recommend reading at least the introduction. It is available on the Federal Reserve Bank of Boston website.
