Thursday, September 06, 2007

More Subprime

This from Tim Lee over at the American Scene:

"I think that the fundamental problem in this case—one I haven’t seen discussed very much—is that people bought more house than they could afford. No amount of financial wizardry is going to change that fundamental point."

I think the reason that it isn't discussed more is that a "solution" to the subprime mess is a phenomenal way to pander/buy votes.


archduke f. f. said...

I'm sure Lee's right about people buying houses that they can't afford, but the big problem is that those people were tricked into thinking they could afford them. When you get a mortgage and they calculate the payments at $1400 a month and then they say, "In three years, your interest rate will go up at a rate of two percent for a few years, until it levels off" people aren't going to realize how much of a financial hit a 3-6 point increase is.

I was looking on, and they found that increasing the interest rate from 4 percent to 10 percent (where most subprimes level off) would be an 85 percent increase in monthly payments. If you had to come up with an extra 900 bucks a month, could you do it? Lee's right that the catastrophe comes from buying houses that you can't afford, but the people who only qualify for subprime loans have, in general, demonstrated that they don't manage money well, hence the fact that they're getting a subprime loan. Maybe it's just me and my nanny-state-itis, but it's hard to stomach that there are lenders out there who know these people won't be able to afford their house in four years, yet they still sell it to them. If these people had fixed rate mortgages, do you think the same thing would happen? No, instead, the people would see the fixed monthly payment and say, "That's way too much," and look for a cheaper house.

xtrachromosomeconservative said...

I agree in part and disagree in part. Subprime loans, just as is the case for prime loans, vary in their structure. There are fixed rate subprime loans and they have fairly low rates of default. There are ARMs for both Prime and Subprime borrowers. Just as their are Interest only loans (basically your teaser rates) for prime and subprime borrowers. The ARMs and teaser rates are showing fairly high default rates (I think it is close to ten percent) in subprime but also prime borrowers with these types of loans are doing terribly well either. There are three factors really going on with the subprime mess: 1) speculative borrowers/buying too much home (our tax code unfortunatively incentivises this behavior, it is like trading on the margin); 2) Lenders undervaluing the risk premium; 3) Predatory Lending.

Number three is a problem but numbers one and two are what's driving this mess. Number 3 is the simple, easy and wrong lens through which to view the subprime mess.