HUGHEY: Uncle Sam’s risky home loan rules

Experience shows federally backed mortgages aren’t safer

The political world is full of myths. Last week, the Consumer Financial Protection Bureau instituted a new regulation over the troubled mortgage market in an attempt to define certain lending practices as good or bad. The new Qualified Mortgage Rule will require lenders to consider eight different factors when evaluating loans, including current income status, current employment status and ability to pay.

On its face, this new rule seems to be pretty reasonable. Due to government pressures to lend to questionable credit risks, lenders and borrowers engaged in absurdly risky loans. So why is the consumer bureau’s new rule not up to the task?

First, the bureau falsely assumes it has the knowledge to know what good lending practices are for the entire mortgage market without understanding the diversity of borrowers and lenders. The new rule simply takes a one-size-fits-all approach for an entire market. In reality, there is no way to understand all the complexities of the mortgage market. Furthermore, there is no way to guard against unintended consequences, including the possibility of community banks being forced out of the mortgage market and the possibility that private banks will subsidize “bad loans” (as defined by the consumer bureau) in order to make them appear better than they really are.

Second, the bureau’s rule does not properly address the cause behind the risky lending practices of the past decade. In support of the rule, Richard Cordray, the bureau’s director, said, “We have a financial crisis and a lot of pain and misery in this country that was caused by reckless lending and toxic products that should never have been offered and that this rule will see are never offered again.” However, this implies that the private sector was to blame for all of the bad lending and that the government ought to correct such behavior.

In their paper entitled, “The House that Uncle Sam Built,” Steve Horwitz and Peter Boettke have pointed out the private banking industry was pressured by government actors to engage in the risky loan practices. Every step of the way, the government both encouraged and incentivized private actors to throw caution to the wind when it came to the housing market before 2008.

Finally, the new rule excuses government loans from the same rules applied to private loans. According to Ed Pinto of the American Enterprise Institute, the bureau’s rule excuses all Fannie Mae, Freddie Mac and Federal Housing Administration loans from these requirements, under the assumption that if the loans were made by these institutions they must be good loans. This is clearly a double standard that punishes private lenders but ignores the dangerous practices that are encouraged under government loans.

The bureau expects us to believe that it has the knowledge to know which banks, bankers and mortgage practices are good and which are bad. The irrationality of government intervention in the housing market is built upon correcting previous irrationalities caused by government intervention. Perhaps most importantly, though, unlike other relatively harmless myths — such as Santa Claus or the Tooth Fairy — the Consumer Financial Protection Bureau’s rule will have dangerous, real-world consequences for those who buy into it.

Jason Hughey is a policy analyst at Americans for Prosperity.

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