Cafe Hayek: Tyler's Latest in the Times

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January 13, 2008

Tyler's Latest in the Times

Don Boudreaux

My GMU colleague -- and blogger extraordinaire -- Tyler Cowen's monthly New York Times column is never to be missed. This month's column (published today and entitled "So We Thought. But Then Again...") is no exception. Here's a teaser from Tyler's column:

There has been plenty of talk about “predatory lending,” but “predatory borrowing” may have been the bigger problem. As much as 70 percent of recent early payment defaults had fraudulent misrepresentations on their original loan applications, according to one recent study. The research was done by BasePoint Analytics, which helps banks and lenders identify fraudulent transactions; the study looked at more than three million loans from 1997 to 2006, with a majority from 2005 to 2006. Applications with misrepresentations were also five times as likely to go into default.

Many of the frauds were simple rather than ingenious. In some cases, borrowers who were asked to state their incomes just lied, sometimes reporting five times actual income; other borrowers falsified income documents by using computers. Too often, mortgage originators and middlemen looked the other way rather than slowing down the process or insisting on adequate documentation of income and assets. As long as housing prices kept rising, it didn’t seem to matter.

In other words, many of the people now losing their homes committed fraud. And when a mortgage goes into default in its first year, the chance is high that there was fraud in the initial application, especially because unemployment in general has been low during the last two years.

Posted by Don Boudreaux in Current Affairs, Economics, Myths and Fallacies | Permalink

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Comments

I intend to write a letter to the editor protesting Tyler's column stating that I don't buy their paper for anything resembling economic sense. It's like buying The Onion for real news. Posh.

Posted by: M. Hodak | Jan 13, 2008 5:32:14 PM

Great column! Thanks for the heads-up.

Posted by: Chris Meisenzahl | Jan 13, 2008 6:56:48 PM

M. Hodak

Remember to use the sarcasm emoticon.

Posted by: Sam Grove | Jan 13, 2008 7:57:21 PM

Uhhh...just one problem with this - who screwed up big time on checking out the bona fides of borrowers? I'm not taking a position on so-called "predatory" lending, but the financial institutions bear a certain responsibility themselves for this mess.

Posted by: David P. Graf | Jan 13, 2008 7:59:02 PM

David Graf --

They do, indeed. And, they're paying the price.

Posted by: Chris | Jan 13, 2008 8:46:13 PM

Fraud... no, really? Do you think so? Do you think a guy who did stock at Walmart on the graveyard shift and his hotel maid wife had to fudge a little to get a loan on a $300,000 house? Do you think the morons in the mortgage broker business would have said "Hey wait a minute, you're a stockman and your wife's a maid, you can't afford this house!"

Posted by: tiger | Jan 13, 2008 9:29:34 PM

We almost needed a mortgage to buy a new house about 18 months ago because our then current and paid for residence was slow to sell.

I talked to several mortgage brokers about a loan and each told me how much income I needed to state in order to qualify for their loan. My primary source of income at the time was a business I had owned for less than 2 years.

They clearly were inviting me to make sure that I qualified for the loan by stating a figure at or higher than suggested.

Fortunately, our old house ended up selling and we were able to pay for the new house from the proceeds. So I didn't have to get a "liar's loan".

Posted by: Tom | Jan 13, 2008 10:22:58 PM

The biggest thing I wonder about our friend Mr. Cowen is how much time a day he gets to spend on his blog. Posts per day seem endless.

Posted by: Will | Jan 13, 2008 11:41:21 PM

Great info.

I'm sure there is a gradation between a lender saying "For the loan you are asking, you will need to have $X as income." versus "I see that you make $Y income, why don't you go away, take this blank loan application, and think about other income sources to push it up to $X"

I would say the burden is shared between the fraudulent loan seeker, and the lackadaisical fact-checking loan agent. Either way, it's hard to feel too bad for the guy who lied on his application, and is now back where he was beforehand. And it's hard to feel bad for the company who loaned out money with little thought of how they'd get it back.

It seems that both parties are paying the piper for their sins of commission and omission. Maybe the government needs to step in and prevent people from committing these sins.

Posted by: Python | Jan 13, 2008 11:52:04 PM

"In other words, many of the people now losing their homes committed fraud."

And the brokers and lenders and hedge fund managers they were all straight up no predatory lending practices to speak of I'm sure and that's why that get million dollar salaries and more money printed from the reserve to keep their honest institutions going while the schmoe losing his house can also plan to pay interest on the additional debt of said printed money. Oh sure nothing like the free market system.

Posted by: muirgeo | Jan 14, 2008 2:00:51 AM

Maybe the government needs to step in and prevent people from committing these sins.

Posted by: Python

Oh don't worry Python the government DID step in by printing billions and billions of dollars to help out the Wall Street gang and the lending institutions. But your good with that right cause you're a libertarian?

Posted by: muirgeo | Jan 14, 2008 2:03:10 AM

Maybe the government needs to step in and prevent people from committing these sins.

Posted by: Python

"Oh don't worry Python the government DID step in by printing billions and billions of dollars to help out the Wall Street gang and the lending institutions. But your good with that right cause you're a libertarian?"

Posted by: muirgeo

There are many low income home buying programs linked to states. I believe the Michigan State Housing Development Authority makes low interest mortgage loans available through lenders.

Michigan is not unique; many other states offer like programs.

Most of these state programs guarantee loans made by commercial lenders, offer grants to qualified home buyers, and/or make loans directly to the buyer.

Maybe these government lenders are culpable in some way? No, can't be they're not private sector employees. ;')

There is plenty of blame to go around. Attempting to blame only the lenders is a poor attempt at class warfare.

Individuals have to be smart about such life altering decisions such as borrowing money.

Posted by: Babinich | Jan 14, 2008 6:09:29 AM

I would say the burden is shared between the fraudulent loan seeker, and the lackadaisical fact-checking loan agent.
Posted by: Python | Jan 13, 2008 11:52:04 PM

Whether there were predatory lenders or predatory borrowers don’t really matter as none of them would have gone anywhere had it no been for the credit rating agencies.

These government agents analyzed the securities that were collateralized by some more than subprime subprime mortgages, without looking into, not even by sampling, any individual securities; they have said it was not their responsibility; and then proceeded to rate the security as prime risk free investment.

This has nothing to do with a market failure since it is clearly a case of regulatory malpractice…I mean, how can you give some few credit rating agencies so much power and not think that everything will sooner or later convert into the mother of all the systemic risks creation machine?

Posted by: Per Kurowski | Jan 14, 2008 6:15:17 AM

Muirgeo, which hedge fund managers were involved in "predatory" lending?

Posted by: Mcwop | Jan 14, 2008 9:06:26 AM

As I have said before I will repeat. Most of what we call a social ill today had its cause in the socialism being preached since WWII.

Question: Is it stealing to frauduantly obtain a loan, use the property bought, and then default on the loan.

Next question: Would you loan money to a person who you know has done this in the past?

At my street level knowledge and memory I seem to remember in the 1960s that it was difficult for most people to obtain a loan because loan managers did scrutinize loan applications closely. If there was discrimination it seemed to be in the context of "I'll loan you what I think your qualifications testify to." If I did not make much money, I did not get much loan. If I had a history of missing payments or defaulting on loans, I did not get any loan.

By those standards it is true that a lot of black people and mexicans went without loans; however I do remember that the leftists, never ones to hesitate to screw up a business if it does not conform to their la la fantasy land model, the socialist and their sycophant member groups such as the naacp and lulac began to put enormous pressure on Congress to step in and force the lending industry to use looser standards to issue loans so that those "discriminated against" groups could get loans and from branches offices built right in their own "depressed" neighborhoods.

I remember the lending industry resisting and pointing out that people weren't being refused loans based on color or race, but on their potential to repay the loan. The lending industry knew that issuing loans to those people was financial suicide. But a democratic controlled house wasn't listening to any of that intelligent and financially rational shit. No sir, gotta call it racism and fix that "inequality".

Congress usually wins those debates and the lending industry was forced to be more "equiable" in lending, and to open branches in the "depressed" areas. Loans were made, loans were defaulted on, property was trashed in the bargain, but by God the "discriminated and depressed" were getting loans.

Meanwhile we began to see government more and more picking up most of the slack that those looser standards they dictated was causing the lending industry. Which means that ultimately we that could were paying again for them that won't.

As always happens when you loosen the standards for some it is inevitable that all will have those loose standards available, and the lending industry having learned that the government would cover their butts had no reason to curtail home buying credit anymore.

So, yes all people were applying for loans they really could not afford, but especially the ones under fifty have been well
indoctrinated in socialism to know that they "deserve" to own a big new home. And, that indoctrination had taught them that if they didn't qualify, it wasn't their fault, obviously they are being held back by the system, their boss, their mother-in-law, their wife, their disability, their school teachers....choose your own thumbsucking excuse here they all work in the socialist world.

In a wealthy world not yet drained by communism/socialism is it any wonder that we had all types of people buying homes they knew they hadn't earned and had slight chance of ever earning.

So, I have to agree with Tyler that there has been predatory borrowing, but it has been in a system created to allow it. A system that was systematically created by the thumbsucking whinning and activism of the socialist evangelicals about the "unfairness" of
"inequality" based on individual worth and character.

In the socialist evangelical world doing things based on good judgment, knowledge, experience, and rational thought is an anathema and is always trumped by emotion, belief in fantasy, and the magic wand.

Posted by: vidyohs | Jan 14, 2008 9:58:07 AM

Muirgeo, which hedge fund managers were involved in "predatory" lending?

Posted by: Mcwop

Bear Stearns for one. Why? Basically their industry had been deregulated to allow them to back the sub-prime fiasco. Of course they couldn't do it with out the backing of the US government and it's treasury and the Fed. Why did you think these guys earn their money in a free market rather then use the government to make billions while screwing people out of their houses backed by those very peoples own tax dollars collected by that very government that backs the Bears Stearns of the world??? Its the opposite of the viscous cycle of poverty. Its the happy cycle of government created super wealth.

It's funny there are actually people out there who think these super wealthy people and their industries don't like the government, or its regulation. In fact THEY LOVE IT. But they just have to keep saying they don't to keep all their little groupies behind them. Are you a Hedge Sub-prime groupie?? There's actually people out there who think the Bears Stearns of the world actually like competitive and free markets. That's funny....kind of.

Posted by: muirgeo | Jan 14, 2008 10:32:03 AM

Common sense is very uncommon. Common sense is in spite of, not as a result of education. Common sense is instinct, and enough is genius. Nothing is more fairly distributed than common sense: no one thinks he need more of it than he already has. Common sense is the knack of seeing things as they are, and doing things as they ought to be done.
(Rudyard Kipling’s view on Common Sense)

Posted by: vidyohs | Jan 14, 2008 10:56:14 AM

Thanks Muirgeo for naming a name and applying your logic to how a hedge fund contributes to "predatory" lending.

For the record, I am not a hedge fund groupie. I am mostly against excessive government interference in markets to buy houses. I do not think the government should be backing or insuring mortgages or mortgage securities, becuase that is a moral hazard on good old lending based on credit worthiness.

I do believe that a bank should be free to loan to people with shaky credit if they choose to, but they should live with the risks associated with that practice.

Home buyers need to execute caution as well when buying a house.

Posted by: mcwop | Jan 14, 2008 12:00:12 PM

“there has been predatory borrowing, but it has been in a system created to allow it… In the socialist evangelical world doing things based on good judgment, knowledge, experience, and rational thought is an anathema and is always trumped by emotion, belief in fantasy, and the magic wand.”

Posted by: vidyohs | Jan 14, 2008 9:58:07 AM

In this case though it was not the usual suspects who believed in fantasy and the magic wand.. but some many real pro-market financial geniuses and regulators backed up by central banks and IMF who empowered the credit rating agencies to be the guiding stars on our financial firmament.

And this obviously confuses those who find their bliss in being able to simplistically profile and roundup the usual suspects.

Posted by: Per Kurowski | Jan 14, 2008 1:27:42 PM

mcwop, by calling muirgeo's nonsense "logic," your generous nature has been been taken advantage of.

Posted by: M. Hodak | Jan 14, 2008 2:52:44 PM

Quote from muirgeo: "It's funny there are actually people out there who think these super wealthy people and their industries don't like the government, or its regulation."

Its even more funny how you continually advocate for the same government and its regulations, as if you're somehow different.

You're either for government intervention or not. You can't be for "good" government intervention and against "bad" government intervention, because they are the same thing.

Posted by: Keith | Jan 14, 2008 3:40:50 PM

I wrote this:
"So, I have to agree with Tyler that there has been predatory borrowing, but it has been in a system created to allow it."

Per Kurowskiduck wrote this:
"but some many real pro-market financial geniuses and regulators backed up by central banks and IMF who empowered the credit rating agencies to be the guiding stars on our financial firmament."

Now tell me 'duck', what did you say that was any real difference from what I said. Tell us all how those you spoke of "are not" part of the system created to allow it.

And, yes the system has been created by those who believe in la la land fantasy and the magic wand, the socialists. You may be too young or ignorant to understand what I said above but that is a personal problem on your part. As you study and learn to read and expand your reading comprehension, you might also want to study a history not written by evangelicals of the Socialist Church.

Posted by: vidyohs | Jan 14, 2008 3:59:29 PM

M Hodak, I qualified it as his logic not mine. I just wanted details on his thought process that brought him to the conclusions he stated earlier about Hedge fund involvement.

Posted by: Mcwop | Jan 14, 2008 5:08:56 PM

You're either for government intervention or not. You can't be for "good" government intervention and against "bad" government intervention, because they are the same thing.

Posted by: Keith

Right Keith, you're either an anarchist or you're not....whatever....

Posted by: muirgeo | Jan 14, 2008 6:16:27 PM

Hello,
just wanted to pop into this topic because it interests me very much. I humbly ask if anyone would sort of paraphrase the situation or at least add/correct my understanding. As far as I understand there have been a few mortgage brokers who gave loans to folks who didn't "qualify" as well as folks who capitalized on the loan madness within the housing price market insanity with unfortunate misinformation on the applications, sort of a nudge nudge wink wink approach on both sides.

What I don't get is the security backed mortgage angle, probably because I don't know what security backed means despite wikipedia references! Were there some sort of investors 3rd party to the ordeal that are angry because the lenders are in such disarray from defaulting homeowners? Please, explain if you wouldn't mind, it is tough to figure out from business news because they report things as if everyone knows what they are talking about, and regular news doesn't get into it(at least not in depth).

As for me, I bought a home in June of 2001, for $115k while my wife and I had a total income of about $60k and it wasn't easy nor too hard, it was within our means and we love our home. We put lots of elbow grease into the place and it is now valued at $265k. I was 27 at the time and couldn't believe I bought my own home, so I feel for young couples who are trying to make a fresh start. However, I can only blame those involved with over extending themselves as being very foolish and should face the music they have scripted, along side the "professionals" who lent them the money. The key factor in my judgment will lie in the fact that the lenders are professionals who do it for a living, homeowners do not buy homes for a living,and may buy one to two homes in their lifetime. I analyze the situation within this context, if I am buying a sink from a plumber I rely on his expertise to affirm my water pipes are sufficient enough to carry the load of the new demand on water pressure. If I lie and say the pipes are such and so big and the sink explodes it is my fault, but it is also his fault for not testing and checking before installing the sink.

Thanks for reading.
Brian-NJ

Posted by: Brian-NJ | Jan 14, 2008 7:24:37 PM

Brian,

There are two levels to this discussion.

One level is the individual transactions. Buyers, sellers, and builders wanted to buy or sell homes, and were competing with other buyers or sellers to do so in a rising market. Banks were competing to lend money in this market, and because the market was "hot," standards began to slip. Loans were then sold by the banks in a process known as securitization, a process that resembles a chop shop, where whole cars are separated into pieces, and the pieces bundled, priced, and sold off. In this case, the securities were sold up the investment chain to fund managers. The problem at this level of analysis is that many such transactions were done with bad information about the buyer, the loans, or the securities. The key question is whether responsibility for that bad information lay on certain parties (buyers, lenders, traders, etc.) who lied about their part of the transaction, or as a result of negligence in not taking the proper steps to get the right information or using it wisely. One's perspective on where most of the blame lay would result in very different policy implications. A useful question to get to the bottom of this level of analysis is to ask, why did this market go awry at this time? People are always greedy, or negligent, or fraudulent or misinformed, etc. What was it about the last few years that these behaviors seemed more prevalent, or the consequences so much worse?

That might get us to the second level of analysis--the global credit markets that emerge from the sum of these transactions. These credit markets involve interactions that go way beyond the mortgage markets, to corporate, retail, and sovereign lending all over the world. Systemically, the credit markets were loose in every area, not just real estate. In fact, I don't know why this is call a "sub-prime" meltdown. Giant private equity firms are also suffering from the hangover of easy lending. Because credit markets work on trust, and they're all interconnected, when trust begins to fail in one area, you face the risk of the entire credit market seizing up. It's been threatening to do that since last August. So, the people with some influence on these markets--central banks, sovereign funds, private bank consortia--are all trying to avoid a global credit freeze. Nobody knows how to minimize the global cost associated with avoiding a credit freeze. Doing nothing might be very costly. Doing something will be certainly be costly. The authors of this blog are plainly biased in favor of doing nothing, not because they want to see a credit freeze and all the bad things that spring from it, but because they are not confident that our policy makers won't go after the tumor with a spade rather than a scalpel, which judging from history is a valid fear.

I'm sure I've done little to clarify this for you, but even as I glance through this already too-long response, I realize I've left out more than I put in. They have classes at Rutgers on this.

Posted by: M. Hodak | Jan 14, 2008 9:41:53 PM

Muirgeo wrote:

"There's actually people out there who think the Bears Stearns of the world actually like competitive and free markets. That's funny....kind of."

And who would those people be? Consumers like competitive markets. Sellers like markets. Who thinks otherwise?

Posted by: Python | Jan 14, 2008 10:09:13 PM

Keith,

I brought up to Muirgeo many moons ago that the very government that she condemns for many reasons is the same government that she wishes to empower well above its current levels.

She didn't understand that then, doesn't understand it now, and who knows if she will ever get it. But she's got it all figured out in that noggin of hers.

Posted by: Python | Jan 14, 2008 10:16:22 PM

A useful question to get to the bottom of this level of analysis is to ask, why did this market go awry at this time? People are always greedy, or negligent, or fraudulent or misinformed, etc. What was it about the last few years that these behaviors seemed more prevalent, or the consequences so much worse?

M. Hodak

Isn't the answer the libertarian Holy Grail? Deregulation?

"In 2000, Edward M. Gramlich, a Federal Reserve Board member, tried to get chairman Alan Greenspan, to crack down on irrational subprime lending by increasing oversight but was ignored. Gramlich repeatedly warned about subprime mortgages and predatory lending, which he said, "jeopardize the twin American dreams of owning a home and building wealth." Gramlich's warnings were ignored."

http://blog.nj.com/njv_john_atlas/2007/11/the_foreclosure_and_subprime_l.html

Posted by: muirgeo | Jan 15, 2008 1:03:00 AM

"Isn't the answer the libertarian Holy Grail? Deregulation?"

No. Lending was never deregulated. It was and remains one of the most regulated areas of our economy. Try again.

Posted by: M. Hodak | Jan 15, 2008 8:48:34 AM

What are you implying? Central bankers have a lot off things to take into consideration. Hindsight is 20/20. It's irritating that you are so anxious to pin the blame on a single person or identifiable group of people.

Posted by: Pete Sampras | Jan 15, 2008 11:34:59 AM

Hindsight is 20/20.

Posted by: Pete Sampras

Funny....it wasn't hindsight in 2000.

There WAS significant deregulation and less oversight....the problem was predicted as in the quote above and all you guys have is denial and excuses...not a very good way to back your argument.

You guys are simply denying facts.

Posted by: muirgeo | Jan 15, 2008 5:36:02 PM

"I analyze the situation within this context, if I am buying a sink from a plumber I rely on his expertise to affirm my water pipes are sufficient enough to carry the load of the new demand on water pressure. If I lie and say the pipes are such and so big and the sink explodes it is my fault, but it is also his fault for not testing and checking before installing the sink.
Thanks for reading.
Brian-NJ
Posted by: Brian-NJ | Jan 14,"

I am sorry Brian-NJ, but I don;t understand this.

If you are relying on a plumber's expertise in any situation, and you tell him anything at all that is in the realm of his expertise that may or may not affect the outcome of the job he does for you; and you observe him proceeding on your word and not his evaluation of the real situation......and you don't stop him and ask him why he isn't peforming his own evalutation.....then buddy, in my opinion, it is your fault.

If you hire an expert, you stay out of his way. If you shortcircuit his expertise, it is your fault. If you let him proceed under the assumption he is an expert and see him doing things that reveal suspicion otherwise and you do not stop him and question him......baby it is your house he is working on, it is your fault if these things happen.

You can't pass off responsibilty that easy.....oh I am sorry...in the socialist world you can. And, IMHO we live in the a world that is heavily indoctrination in the socialist scripture.....which says someone else is always at fault.

Not calling you a socialist, just telling you how borderline your passing off responsibility, even in a hypothetical debate is.

Look at reality. Lenders advertise, advertisement is an enticement not a command or a compulsion. Everyone is free to pass on the enticement.

When an individual gives in to the enticement, for whatever reason, and applies for a loan knowing full well it will extend his income beyond reasonable limits, it is not predatory lending that gets him in trouble. It is thinking that he can have something for nothing.

That is his fault, not the lender.

Unfortunately, because the socialist have screwed up our government so badly and sadly, the lender knows the likelyhood of being rescued if the loan goes south is very very high.

I can feel sympathy for those who lose their homes due to circumstances they were completely unaware of, or as the result of fraud. But, not when people go into it knowing they can't afford it. Nobody's fault but there own.

Posted by: vidyohs | Jan 15, 2008 8:47:50 PM

Ok, so I have been with a debt settlement company for about 9 months now. Now I am concerned that it may be better to get out and try to do it on my own. I am not asking for legal advice, but just checking to see if anyone has been in my situation and has some person to person advice for me. I have already paid 750 in fees and they charge me about 80 a month in fees as well.. Not sure what to do as I feel like I am still sinking in debt.
sample debt settlement letter

Posted by: debtsettlement | Jan 16, 2008 8:54:13 PM

I am not asking for legal advice, but just checking to see if anyone has been in my situation and has some person to person advice for me.

Posted by: debtsettlement | Jan 16, 2008 8:54:13 PM

I have not been in your situation and I pray never to be there, but let me anyhow explain what is the most usual problem and the most usual way out; that does not imply running away from it all.

If you have the problem because your credit record was not good and you therefore had to take on debt at very high rates then whatever you do, you need to get those rates down as you can not afford paying on the house and on the high rates simultaneously.

Establish exactly the amounts you absolutely could be able to pay and make it your goal that this is what you must obtain from your negotiations.

If you owe more on the house than what it is worth in the current market then most probably your creditor has also an incentive to find a solution.

Do your utmost to see what sort of new guarantees or prepayments you could offer your creditor, if and only if he reduces principal, interest rates, or both in order to meet you where you can pay. For instance why not write an article about your exact problem and how much you need to keep your house and try to get it published… asking for help!

With respect to your debt settlement company they should at least be able to explain in simple words what they intend to do and you must understand it and agree that it sounds reasonable; not only through wishful thinking. If they are not able to explain it well to you then they are most probably not worth the eighty dollars per month either.

I am sorry I cannot be of much more help. Best wishes.

Posted by: Per Kurowski | Jan 16, 2008 9:56:36 PM

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