A Request for an Overview Discussion of the Financial Meltdown

I have received a request that I provide an overview discussion of what I believe caused the home mortgage and financial crisis we suffered. Robert G. Curry wrote:

I wonder if you have given some thought to the causes of the current financial meltdown. The history leading up to what happened this year, etc.

Have you covered any of this on your blog?

It would be informative to be able to get an overall picture of the actions from the Carter years to the present of who did what, and who's primarily to blame, both through actions or neglect of action, for the meltdown.

How did we get from the so called "Fair Housing Act," through the "No Red Lining," to the "NINJA" loans, to the packaging of junk mortgages as A rated bonds, to the insuring of those bonds by the people at AIG, to the bailouts?

My response to Robert was:

I have discussed it a number of times, but not as comprehensively as you are suggesting I do. Partly, this is because it is a complex history. Partly, because the time period from Sep through Dec is our busy season in my laboratory, though all of 2008 was very busy for me. But, there is also a very critical component to the housing and financial meltdown which is due to problems caused by local and state governments in addition to the unhealthy contributions to the problem made by the Federal government. This really complicates the issue. I have addressed some of the local problems in a few posts as well.

When you look at where the mortgage defaults have occurred, you find that they are very far from an even distribution across the country. Mostly, the problem spiked in those areas where local and state government have such restrictive policies on home-building that home prices have become inaffordable for most people who in other parts of the country could readily buy a home with their income. In California, the average home buyer is paying 8 times his income to buy a home, when paying more than about 2.5 times your annual income for a home makes you a sub-prime borrower. We can argue that the average home buyer in California has no business buying a home, but human nature being what it is, they still badly want a home. In large part, the fact that homes cost so much in California is because of local and state government policies. For the most part, this is the pattern of where mortgage defaults are occurring. In Nevada the problem is that the Federal government owns 84.5% of the state and land around Las Vegas is not available because it is penned in by Federal land. Florida is another area with a spike of failures, where apparently there is a lot of speculation in homes based on quick improvements and rolling over the homes. This may have other explanations, maybe just that a lot of baby boomers are retiring or will soon and home values may have been rising due to their plans to move there upon retirement and it became an easy money fad to buy homes in anticipation of an easy resale at a higher price. Ohio and Michigan have elevated mortgage failures due in part to the very bad business climate in those states, which is causing them to lose jobs badly.

Because of these local issues, many people have put more and more pressure on Congress for affordable housing. In effect, many present home owners in local areas were happy with the rising home values due to government restrictions and maybe did like less traffic on the roads, lower taxes due to having fewer public schools to build, and more parks, but others wanted housing they could afford and some of the home owners are probably feeling guilty for favoring restrictions that they must realize are causing homes to be unaffordable. Congress does nothing to address the local building restrictions, so they have done as much as they can to press the envelope on lowering the costs of home mortgages. Many of the problem programs you named resulted in good part in response to some very vicious local housing affordability issues.

Of course, this then becomes a good lesson in how excessive government meddling in economic matters and in matters of property, causes all sorts of problems, the attempted responses to which cause still more problems.

Robert has a grasp of much of the path taken at the national level to attempt to make housing more affordable. He understands that this process began long ago and has resulted in a major problem for the economy. I was on the verge some time ago of addressing this side of the problem more thoroughly, but upon looking into it, it became clear that it was even more complex even on the federal affordable housing side of the issue than I had thought. It was going to take some real effort to sort it all out. In the process of looking into that, I realized that a good part of the reason pressure was put on the federal government to make home mortgages more available and less expensive was due to problems already caused by local and state governments which made housing in some substantial parts of the country ridiculously expensive.

There is a push-pull problem here of massive proportions. Government creates a bad problem, then government responds to the screams of pain that result by appearing to address the problems at least in part. Only then it is found to have planted many dozen rattlesnakes into our prairie dog colony. We suffer a financial meltdown and Wall Street and the banks become beggars who are put on the dole. Meanwhile, many home buyers are still sub-prime borrowers and they now cannot get loans. The home building and real estate industries then suffer, but mostly in those areas where most homes are very expensive for most potential buyers.

Meanwhile, the local and state governments are still very happy to follow policies that greatly increase the cost of housing in many communities. There is little movement on their part to address the prime reason for the housing and, ultimately, the banking and financial institution problems. Zoning restrictions, green park policies, antiquated and expensive building codes, excessive federal land ownership, disallowing pre-assembled housing so more local tradesmen will be hired, requiring excessively large home lots, high-handed and unavailable county building inspectors, and many more policies that cause home prices to be much higher than they need to be remain very popular in many communities.

So, as incensed as I am about the many bad choices made by the federal government regarding their powers to influence and control the lending institutions and to put pressure on them to follow unwise and risky lending policies, I do not want us to lose focus on the most fundamental of the originating problems. We allow local and state governments, with some assistance from the federal government, to infringe upon our property rights and thereby to deny many of us the much improved housing that we, in our pursuit of happiness, could have otherwise attained.