Regulators aren't saying that mortgage originators can't make
any kind of loan they want. 20 percent down, 10 percent down,
5 percent down, whatever. Go to town. What they are saying is that
if mortgage loans are bundled up into securities and resold,
they want the issuer of the security to retain 5 percent of the total offering.
By: Kevin Drum
June 10, 2011
The Fed and other regulators have proposed a set of rules that would put new limits on home mortgages: Borrowers would have to put 20 percent down and would have to show that their mortgage payments would amount to no more than 28 percent of their gross monthly income. The Washington Post makes this sound like doomsday:
Nearly three out of every five U.S. borrowers who bought homes last year would not have met the proposed restriction on total debt, according to an analysis by mortgage research firm CoreLogic....If the rules were in effect now, Todd Pearson of Ashburn predicts he'd be shut out of the market. Pearson wants to sell his house and buy another in Chevy Chase. He says he has no debts other than his mortgage. But he figures his mortgage payment alone would exceed the threshold proposed by the new rules.
You have to admit, these rules do sound pretty tough. In fact, they'd pretty much shut down the entire mortgage industry. So what's going on?
Answer: Lots of financial industry whining. As it turns out, regulators aren't saying that mortgage originators can't make any kind of loan they want. 20 percent down, 10 percent down, 5 percent down, whatever. Go to town. What they are saying is that if mortgage loans are bundled up into securities and resold, they want the issuer of the security to retain 5 percent of the total offering. That's part of Dodd-Frank, and it's designed to give issuers an incentive to make sure their mortgage securities aren't full of toxic waste. If they have to keep a piece of the action on their own books, they'll want to make sure their securities are safe and sound.
However, there's an exception: If your mortgages all conform to the new rules, you don't have to retain that 5 percent chunk. That's all that's happening. You can make any kind of loan you want, but if it's anything other than super safe, you have to keep a piece of it on your books.
The financial industry is in an uproar over this, claiming that it would shut millions of people out of the housing market. That's nonsense. Neither Todd Pearson nor anyone else is being denied a loan on whatever terms they can get one. All that's happening is that when their mortgages get bundled up and resold, the ABS issuer has to keep a 5 percent stake. The mortgage industry is on a rampage over this, claiming that it will dramatically raise the cost of mortgages, but that's nonsense too. Being forced to keep a 5 percent stake probably will have an impact on ABS issuers—that's the whole intent, after all—but the financial impact is almost certainly pretty minuscule. Tom Lawler at Calculated Risk roughly estimates it at perhaps 20 basis points at most on a nonconforming loan. In other words, the rate on nonconforming mortgages might go up 0.2 percentage points. At most. Something on the order of 0.1 percentage points or less is probably closer to reality.
This is yet another case of the financial industry biting the hand that's trying to help it out. The truth is that it would probably be a good idea to require ABS issuers to retain a 5 percent stake in every mortgage bundle they sell. But Dodd-Frank threw them a bone in the form of an exemption for loans that were transparently high quality and virtually certain not to default. And the result? Endless whining, a massive lobbying effort, and glossy four-color demagoguery about hardworking middle-class families being shut out of the mortgage market. Welcome to Wall Street.