“In a few years people are going to be doing what they always do when the economy tanks. They will be blaming immigrants and poor people.” -Mark Baum, The Big Short
It is fitting that The Big Short is heading into Oscar season on the fifth anniversary of the release of the Financial Crisis Inquiry Commission (FCIC) report, which documented how widespread failures in regulation and recklessness on Wall Street led to the recent financial crisis. Unfortunately, the movie’s success has spurred Wall Street allies to dust off their revisionist claims that the federal government’s affordable housing and community lending policies caused the crisis.
These assertions have been thoroughly debunked in every serious analysis of the crisis. Nine of the 10 FCIC members, including five Democrats, three Republicans, and one independent, explicitly rejected these claims. The same conclusion has been reached by a broad consensus of non-partisan experts, including the Government Accountability Office, the Harvard Joint Center for Housing Studies, the Federal Housing Finance Agency (FHFA), economists at various Federal Reserve Banks, and virtually all academics who have studied the mortgage crisis.
There are many reasons why attempts to blame government affordable housing and community lending policies for the financial crisis have been found baseless.
First, the vast majority of the subprime mortgages originated from 2002-2007 were made by non-bank lenders and then purchased, transformed into complex securities, and sold to investors by Wall Street. These loans fell outside the scope of federal community lending and affordable housing policies, which apply to Fannie Mae, Freddie Mac, and traditional banks with federally insured deposits. Additionally, many of the riskiest loans (such as for the newly built McMansions in Miami featured in The Big Short) were made to higher-income borrowers or to help people purchase more expensive homes, and thus would not have met affordable housing requirements.
Second, Wall Street was where the action was during the housing bubble. From 2003 to 2006, Wall Street’s share of the total mortgage market soared, from a market share of roughly 10% in early 2003 to nearly 40% of the market (and 55% of all mortgage-backed securities) by 2005 and 2006.
This surge in the Wall Street’s mortgage securitization machine came almost entirely at the expense of Fannie, Freddie, and the traditional banks–which saw a corresponding drop in market share over the same period.
Third, the actual data on mortgage delinquencies and mortgage-related losses clearly tells the story of what drove the financial meltdown. The FCIC analyzed the performance of approximately 25 million mortgages outstanding at the end of each year from 2006 to 2009. It found that delinquency rates for loans purchased or guaranteed by Fannie and Freddie, which were subject to the Department of Housing and Urban Development’s affordable housing goals, were substantially lower than for mortgages securitized by other financial firms not subject to those goals.
This was the case even for loans to borrowers with similar credit scores. As an example, the FCIC data for a subset of borrowers with scores below 660 showed that, by the end of 2008, 6.2% of Fannie and Freddie mortgages were seriously delinquent, compared to 28.3% for mortgages securitized by other financial firms.
In addition, numerous studies have shown that the Community Reinvestment Act (CRA), the federal anti-redlining law, had a negligible effect on mortgage originations during the crisis. That’s because the law applies to traditional banking institutions and to loans made within the areas they serve. Indeed, the FCIC found that mortgages made by CRA-regulated lenders in the neighborhoods in which they were required to lend were actually half as likely to default as mortgages in the same neighborhoods made by non-bank lenders.
Because mortgages originated for Wall Street had such high delinquency rates, this also meant that Wall Street bore the greatest losses. As economist Mark Zandi noted in 2013, Wall Street mortgage-backed securities suffered a realized loss rate of 20.3% from 2006 to 2012, compared to 5.8% for traditional banks and 3.7% for Fannie/Freddie mortgage securities. In short, it’s hard to argue that affordable housing and community lending policies led to the financial crisis when the entities responsible for financing and originating the riskiest loans were not subject to these policies.
Fourth, pegging government housing policies as the cause of the crisis ignores what happened in the U.S. commercial real estate market and in housing markets in other countries such as Spain, Ireland, and the United Kingdom. Commercial real estate in the U.S. and some foreign housing markets experienced a bubble at least as big as that of the U.S. housing market. If government housing policies caused the U.S. housing bubble, what explains the bubble in commercial real estate and other housing markets?
Fifth, the most problematic loans that were originated during the subprime mortgage boom were those that combined a number of troublesome features. These features included “rock bottom” credit scores, no income verification, and adjustable interest rates that reset after a couple of years.
These loans were almost entirely attributable to Wall Street. For example, Wall Street financed about ten times as much in mortgages with low down payments and low credit scores as did Fannie and Freddie. In addition, according to FHFA, only 11.7% of the loans securitized by Fannie Mae and Freddie Mac from 2001 to 2008 were adjustable-rate mortgages, compared to 70.1% of the mortgages securitized by Wall Street. These adjustable-rate loans had a much higher default rate than more stable fixed rate mortgages.
Finally, there is this simple fact: While Fannie Mae and Freddie Mac required a bailout due to a nationwide drop in home prices of more than 30% and their severe undercapitalization, Fannie Mae and Freddie Mac mortgage securities did not cause the losses that rippled through the financial system in 2007 and 2008 and brought down firms such as Bears Stearns, Merrill Lynch, AIG, and Lehman Brothers. Fannie and Freddie mortgage securities essentially maintained their value throughout the crisis because of the implicit government backstop they enjoy, while the mortgage securities created on Wall Street crashed and caused significant losses at major financial institutions.
Ever since the release of the FCIC’s report in 2011, there has been a furious effort on the part of Wall Street and its allies to rewrite the history of the financial crisis. But after five years of assaults, the accuracy of the FCIC’s report remains unblemished. It’s long past time to put their zombie lies to rest and get on with the business of ensuring that the recklessness on Wall Street so vividly portrayed in The Big Short never again puts our nation’s economy and American families at risk.