The Mortgage Crisis
Todd J. Zywicki
Professor of Law
George Mason University
The Housing Boom
• Low Interest Rates
• Fannie & Freddie
• Weakened Underwriting Standards
• Speculation
Housing was Cheap
HUD Composite Affordability Index
60
7080
90
100110
120
130140
150
Aff
ord
abil
ity
Ind
ex
Homeownership Rose
Homeownership Rates
62
63
64
65
66
67
68
69
70
Perc
en
tag
e o
f H
ou
seh
old
s O
wn
ing
Ho
mes
Minorities Benefited
Homeownership by Race
35
40
45
50
55
60
65
70
75
80
Per
cen
tag
e H
ou
seh
old
s
White
Other
Black
Hispanic
Young Benefited
Homeownership by Age
0
10
20
30
40
50
60
70
80
90
Per
cen
tag
e H
ou
seh
old
s 65 and Over
55-64
45-54
35-44
30-34
25-29
Less than 25
Housing Bust: Foreclosures
Foreclosures
0
0.2
0.4
0.6
0.8
1
1.2
Theories of Foreclosure
• Local Macroeconomic Problems
• Payment Shock and ARMs
• Negative Equity and the “Put” Option
Macroeconomic Problems
• Michigan, Ohio, Indiana
• Post-Natural Disasters
• Historically foreclosures rise a bit in recessions
Monetary Policy
Mortgage Interest Rates
0.00%
2.00%
4.00%
6.00%
8.00%
10.00%
12.00%
14.00%
16.00%
30 Year Fixed
Adjustable
Rise In ARMs
Market Share of Fixed v. Adjustable Rate Mortgages
0102030405060708090
100
Per
cen
tag
e
PercentFixedRate
PercentAdjustableRate
ARMs Follow Spread
ARMs and Interest Rate Spread
0
10
20
30
40
50
60
70
80
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%
3.50%
4.00%
Percent ARM
Spread
Subprime ARM Resets
Foreclosures: Subprime Mortgages
0
1
2
3
4
5
6
7
Per
cen
t F
ore
clo
sure
s S
tart
ed
Subprime ARM
Subprime All
Subprime FRM
Prime ARM Resets
Foreclosures: Prime Mortgages
00.20.40.60.8
11.21.41.61.8
2
Per
cen
t F
ore
clo
sure
s S
tart
ed
Prime ARM
Prime All
Prime FRM
Are ARMs the Problem?
• Consumers Respond to Interest Rate spread: Problem was monetary policy, not necessarily ARMs per se
• 2Q2008: increase in prime ARM foreclosure starts > increase in all subprime starts
• Home buyers self-select for ARMs: Risk aversion
• Consumers with ARMs benefited a lot between 2000-2004
• Very Common in Rest of World
Real Home Prices
Real Home Prices
50000
60000
70000
80000
90000
100000
1983
Do
llar
s
Factors Affecting Option Value
• Speculator v. Non-Speculator: Continuum
• State Antideficiency/Nonrecourse Law– California– Arizona
• Downpayment, “Piggyback Loans,” “Skin in the Game”
Foreclosure “Hotspots”• Michigan, Ohio, Indiana• California, Florida, Arizona, Nevada (1Q2008)
– Calif: 109,000, Fla: 77,000– Texas, Mich, Ohio: Next 3 with 20,000-24,000 each
• 43 states below national average of 6.32% foreclosure start rate• 20 states had drops in foreclosures between 4Q2007 and 1Q2008• Prime ARM
– 62% of all prime ARM foreclosures started– 84% of increase in prime ARM foreclosures started
• Subprime ARM– 49% of subprime ARM foreclosures– 93% of increase in subprime ARM foreclosures
• Prime FRM foreclosures– 29% of prime FRM foreclosures– 60% of increase
• Subprime FRM– 25% of subprime FRM– 53% of increase
Foreclosure “Hotspots”
• 2Q2008 v. 1Q2008• Majority of states stayed constant• Texas, Mass., Maryland improved• 42 states below national average• Cla, Fla: 58% of prime foreclosure starts• 78% of increase in prime foreclosure starts• Foreclosure starts on prime ARM:
– 2.47% Cal– 3.20 Fla– National Average 1.06– Foreclosure start rates subprime ARM Cal & Fla >9%, double
national median rate
What Next?
• Not Just One Cause
• Not Just One Solution
• Some Solutions May be Counterproductive: E.g., Foreclosure Moratorium
• What About Speculators?
• Not Just a Prime v. Subprime Problem
Resources
• “The Law and Economics of Subprime Lending,” http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1106907
• Todd Zywicki, Consumer Bankruptcy and Consumer Credit in the 21st Century (Yale University Press, Forthcoming 2009)