Repeating the Housing Crash

Contradictory loan regulations set up the next housing crisis.

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A price-reduced home.

A young professional that my firm occasionally contracts recently graduated from law school and is preparing to take the February Bar Exam. During our discussions he shared a terrifying revelation with which small government advocates like me are all too familiar. In a class discussion on discrimination and "human rights," fellow classmates were suggesting solutions to systemic discriminatory practices. The solutions proffered shocked the student, not only because they were contrary to his political beliefs, but also because they were devoid of economic truth. The student's terror became even more real when he realized the singular truth that all proponents of limited government come to know: These people will be working for the federal government one day and running my life. God help us all

These "solutions" do not end once these students enter the real world. These deeply held beliefs defy economic logic, take on a life of their own, and ignore the factual concerns raised by "evil" corporations. A surprising number of them find their way into our administrative government agencies, often supported by ivory tower officers who went from high school to college, college to graduate school, and then graduate school to professorships or government employment.   

[ See a collection of political cartoons on the economy.]

Recently, the Department of Housing and Urban Development, formed in 1965 to, forebodingly, create "affordable homes for all," released a new regulation designed to end discrimination in mortgage lending. The regulation empowers HUD to use statistical analysis, called disparate impact liability, to determine whether mortgage lenders, landlords, and insurers are employing discriminatory practices.

Regulators know that most lenders are not employing discriminatory practices (but are concerned about the constitutionally dubious nature of disparate impact analysis). But the statistical analysis will reveal that certain minority groups are "disparately" impacted more than other groups in almost every lending or insurance category. Debt-to-income ratios, credit scores, bankruptcies, and credit payments that are more than 90 days late are cold, hard calculations when determining a borrower's risk. They either exist or they do not. These factors are not concerned with race, gender, sexual orientation, or your favorite color. But invariably, because of factors not remotely connected to racial animosity, disparate impact will surface.

The American Banker's Association released a statement criticizing the rule, albeit in the most timid, politically correct manner  possible. In our current overcharged racial environment, I do not necessarily blame their timidity around the issue.

[ Read the U.S. News Debate: Should the Government Help Homeowners With Underwater Mortgages?]

Rep. Scott Garrett, a New Jersey Republican, recently put into words what everyone already knows: 

Predictably, this rule will result in a perverse regulatory scheme. Lenders, insurers and landlords would effectively be required to make poor economic decisions and intentionally discriminate among different classes of borrowers just to protect themselves from becoming entangled in the regulation's pretzel-like logic.

In the end, regulators know, lenders will loosen their guidelines and credit will be extended to risky borrowers.

[ See a collection of political cartoons on Congress.]

This is similar to the advent of our patriarchal government's implementation of Title IX. In an effort to foster women in sports, Title IX led to a three-prong test measuring compliance. The results were disastrous and led to wholesale discrimination and elimination of popular male sports. Just like Title IX led universities to a quota system, fearful of a Title IX violation, HUD's disparate impact liability will lead to quotas among lenders. In Title IX, popular male sports became the victim. In HUD's disparate impact liability, otherwise qualified borrowers will suffer a similar fate.        

But, it would not be government if there were not competing regulations that made the newly promulgated rule impossible to implement. In fact, two new rules from the Treasury Department, the Qualified Mortgage rule and the Qualified Residential Mortgage rule, which hasn't been finalized yet, forcefully reduce lender risk. According to UPI:

The QM rule codifies tighter higher underwriting standards that lenders have implemented since 2006 that deny loans to borrowers who cannot demonstrate their ability to repay. The QRM rule encourages borrowers to make down payments greater than the current average in order to avoid risk retention requirements that amount to significantly higher interest rates. . . .

An analysis by CoreLogic economist Sam Khater found that only 52 percent of mortgages that conform to GSE and FHA standards will meet the QM rule's eligibility requirements when the exclusion expires.

[ See a collection of political cartoons on the budget and deficit.]

Wait. Wait. So, you are telling me that disparate impact liability is forcing risky lending but the Treasury rules would simultaneously prohibit it? Also, it is likely that when lenders stop lending because of the Treasury rules—and they will have to—that the government will just turn around and bring an action of disparate impact against the lender in court. Nowadays the government damns you if you do and it damns you if you don't.

This seems eerily familiar: Didn't this country just emerge from a similar housing crisis brought on by similar regulations which contributed to a world wide economic crisis? With our economy still struggling to recover, we can't afford not to learn from our past mistakes.