Yesterday I had an article in National Review Online analyzing Rep. Barney Frank’s answer to subprime woes. As I write, Frank’s “Mortgage Reform and Anti-Predatory Lending Act,” H.R. 3915, is on the House floor today. It’s almost certain to pass; the only question is how many Republicans will vote with Frank.
The vote doesn’t guarantee ultimate passage of anything like this legislation, as the Senate counterpart to Frank’s House Financial Service Committee has yet to put together a bill. Still, with the constant bombardment of headlines about all the issues rolled into the “subprime meltdown,” there could very well be a legislative stampede that would make matters worse — and cause us to lose a little bit more of our freedoms.
As I say in the NRO piece, the terminology of some of the items such as “structured investment vehicles” and “Level 3 assets” can make even policy wonks’ head spin. But the approach embodied in the Frank bill and other proposals — called “suitability” — provides conservatives and libertarians with an easy answer, that of “NO!”
A suitability mandate goes beyond requiring disclosure and would give the government virtually unlimited power to ban any mortgage it deems “unsuitable” for a given individual’s circumstances. The main problem with this bill isn’t its unintended consequences — of which there would be many — but rather in the blatant nannyism of its stated intentions.
I couldn’t make up the actual language of this legislation if I tried! Lenders are required to determine if the loan is “appropriate” for the borrower. And the mortgage or refinancing must provide the borrower a “net tangible benefit.” In other words, even if the loan’s terms were clear, the bill still assumes borrowers are too stupid to decide for themselves what loans are “appropriate” and offer them a “net tangible benefit.”
Not only are these terms paternalistic; they’re also vague and open to regulators’ interpretations. Even a 30-year fixed rate might be judged not to have a “net tangible benefit” when compared to another loans that cost less over time.
Opposition to these paternalistic mandates should be a no-brainer for folks who support policies to empower individuals — such as school choice and personal retirement accounts. Yet saying “subprime” is like the hypnotic song of the pied piper. The committee’s ranking Republican, Spencer Bachus of Alabama, signed on after some cosmetic changes, saying we need to take “preventive actions to ensure the problems do not occur.” Hopefully, enough people will begin to understand that what mortgage “suitability” proposals really “prevent” is freedom.
The ironic thing is that when lawmakers are not slapping lenders for extending credit too easily, they are beating them over the head for being too stingy with credit. And pushing for government subsidies of credit. As I noted in my op-ed in the Wall Street Journal a few weeks ago, Federal Housing Administration (FHA) insured loans have had slightly higher delinquency rates as a category than even subprimes. Yet everyone from Frank to the Bush administration want more FHA subsidies as the “cure” for subprime problems.
The weird thing also about the credit freeze is that, as Eli Lehrer and I show in a recent paper for CEI (http://www.cei.org/gencon/004,06248.cfm), foreclosure rates aren’t outside of historic norms. The number of foreclosures are at “record” levels, because the number of homeowners are at record levels. The rate of mortgages entering foreclosures has been increasing, but is still less than one percent in the latest quarterly survey.
What’s slowing the credit markets appears to be flaws in the valuation methods of packaging loans for the securities market. Only a small percentage of mortgages may fail, but mortgage investors don’t know which securities hold the bad loans. So there is what’s being called a repricing of risk.
While the government should go after fraud, it also should let the market correct itself. There might also be some regulatory barriers that are holding the credit markets back, such as restrictions on mutual funds’ short-selling of securities. By limiting choices and hindering methods of price discovery, government regulations and subsidies often add to the very volatility they aim to prevent. All the more reason not to push through any ill-conceived new rules.