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The American housing crisis isn’t over yet. The fallout from the subprime mortgage mess will continue to settle for months (or years). Though the various statistical models disagree on just how much further prices will drop before they hit bottom, most seem to indicate there’s another 10% to 20% left to go.
What exactly is the subprime mortgage crisis and how did we get here? That’s the question tackled this week by Chicago Public Radio’s This American Life.
This American Life generally focuses on quirky tales from the lives of average Americans. It doesn’t usually delve into investigative journalism or explore the nuances of modern economics. This week, however, in a show co-produced by the National Public Radio news division, TAL took a step-by-step look at what caused the subprime lending crisis. It’s complicated.
A special program about the housing crisis. We explain it all to you. What does the housing crisis have to do with the collapse of the investment bank Bear Stearns? Why did banks make half-million dollar loans to people without jobs or income? And why is everyone talking so much about the 1930s? It all comes back to the Giant Pool of Money.
This program explores the various players, the causes, and the consequences of the subprime mortgage crisis. And it all starts with the “global pool of money”. In the early 2000s, there were $70,000,000,000,000 ($70 trillion) of global capital looking for low-risk, high-return investments. This giant pool of money discovered the U.S. mortgage market, which drove demand, which led to relaxed rules, which led to a boom in subprime lending. And here we are today. From the show:
Picture the whole chain. You have Clarence. He gets a mortgage from a broker. The broker sells the mortgage to a small bank. The small bank sells the mortgage to a guy like Mike at a big investment firm on Wall Street. Then Mike takes a few thousand mortgages he’s bought this way, he puts them in one big pile. Now he’s got thousands of mortgage checks coming to him every month. It’s a huge monthly stream of money, which is expected to come in for the next thirty years, the life of a mortgage. And he then sells shares of this monthly income to investors. Those shares are called mortgage-backed securities. And the $70 trillion global pool of money loved them.
Why did the crisis occur? Because all along the financial chain — from bankers to brokers to borrowers to investors — people deluded themselves. They thought they could throw out the old rules of money. They thought they could cut corners to make a quick buck. In short: they were trying to get rich quickly instead of to get rich slowly.
Though I wish this episode spent a little more time on the role of the homebuyer in the subprime mortgage crisis, overall I think it does a great job at making a complicated subject accessible. If you’re at all interested in the topic and you have an hour to kill, it’s well-worth listening to. Here’s the 30-second promo for this show:
The entire episode is available from the This American Life web site as a free downloadable mp3 podcast until Sunday, May 18th.
For more on this subject, check out:
- Calculated Risk, a housing bubble blog.
- “Map of misery”, a recent article from The Economist.
- This fantastic interactive map/timeline from The Wall Street Journal.
Also, regular GRS reader The Tim has a blog devoted to the Seattle-area housing bubble.
[This American Life: The giant pool of money]
May 12th, 2008 at 12:39 pm
I hope at some point they delve into the lack of consumer education in financial areas which allowed so many people to become exploited.
May 12th, 2008 at 12:42 pm
TAL is such a great show, it’s one of the most consistently entertaining shows on any medium.
May 12th, 2008 at 12:48 pm
May 12th, 2008 at 12:58 pm
I’ve been watching the subprime mess develop over the last few years. The subprime mess should never have been a surprise. The only thing that should have been news was how deep the problem went.
When I bought my first house, the general rule of thumb was 20% down. I had a government backed loan (I was in the military) and only needed to come up with 10%. This was the exception not the rule. I also paid PMI until I had 20% equity.
Fast forward to a year ago. You no longer need a significant down payment. Now you can get a no document loan. What happened to checking credit and verifying income?
May 12th, 2008 at 1:13 pm
I’m so glad they tackled this. Since there were so many people involved, I can see how it’s easy to pass the responsibility for the mess off to someone else in the chain. It’s worth listening to the entire episode.
May 12th, 2008 at 1:26 pm
Ok, the subprime meltdown is a great example of exactly what not to do financially.
I think homebuyers and lenders are equally at fault. Scratch that, homebuyers are more liable because they knew that they couldn’t afford that half-million dollar house on $10/hr or whatever. People with bad credit histories, many of whom lied about their income and nature of employment, got mortgage loans they weren’t qualified for to buy houses they couldn’t afford. They were looking to get rich quick because they thought they could flip a home (that was way outside their means) for big profits. Or, they knowingly lied about their income just to get a bigger, fancier house than they could afford.
Hearing about the government bail-out absolutely infuriates me as a homeowner. Being a responsible consumer, I decide against the ARM, and the interest only loans, because I didn’t want to end up with a huge monthly payment when the rates reset in 2 years or whatever. Now these people are going to get free mortgage payments–paid by you and me!
The media and politicians are trying to say that they are, “Trying to keep people in their homes.” This is total bovine feces, because what they are proposing is that we reward this financial idiocy by giving these irresponsible consumers property, that is financed by us, the taxpayers of the U.S.
In my opinion, if there is to be a government bail out, it should involve them moving back into the homes they could afford. No one will be homeless. Hey, anyone who can pay a mortgage, can pay rent, which is cheaper.
The proposed bailout would be punishing you, me, and all the other taxpayers. It is basically privatizing profits and socializing losses. It doesn’t matter if you have been dutifully paying your fixed-rate mortgage, or if you are a renter that didn’t even get into the housing frenzy; Congress is proposing to make it your job to finance other people’s idiotic gambles.
I apologize if this came off as a rant, but honestly I think every American taxpayer should feel some degree of anger about having to clean up other people’s messes.
May 12th, 2008 at 1:47 pm
Everyone has some blame to share in this (but some should share more than others).
From home buyers who didn’t do their homework and got bigger mortgage than they should. Some banks and brokers who didn’t the necessary protection to lamentably offered unreal mortgage terms, to investors who bought investment without knowing the risks involved to the government who permitted such loose regulation of the mortgage and investment markets.
What’s done is done but will everyone learn something about this and for how long?
May 12th, 2008 at 2:16 pm
I’m not surprised to see my fine state (Fla.) mostly in the red. We have two foreclosure properties on either side of one of our investment properties. We end up spending our own hard earned money and time maintaining these two properties (keeping the grass mowed and the yard picked up and trying to keep homeless folks out).
Of course, two foreclosed properties on the same street also brings down the value of our property. So, while we played by the rules we still get penalized by this mess.
May 12th, 2008 at 2:23 pm
The difference in regulation of the traditional lenders vs. mortgage brokers helped to create the easy to get debt that fueled the boom, and later, the bust. That’s a big factor
May 12th, 2008 at 2:29 pm
There’s a fallacy in referring to these houses as “so-and-so’s house”. It’s not their house until it’s paid in full. Until then, it’s really the bank’s house. I feel bad for them, of course, and there’s plenty of guilt to go around — the mortgagees, mortgagors, brokers, Wall Street, etc., but I think that ultimately the buck stops with the one who signed the loan docs.
I got married around the time that financing was cheap and easy, but we, especially I, refused to entertain the idea of taking out a loan. A lá Groucho Marx, I thought to myself, “I wouldn’t care to get a mortgage from a bank that would lend money to someone like me.”
Sometimes we would drive by the house that we had considered buying, and thought that it would have been nice, but given the mess that has gone on, I doubt we would still be in that house, had we tried to buy it. We rented a dreadful little place instead for several years, but I’m sure glad we did, given what happened subsequently both to the economy and to our finances. We’re still renting a very affordable place, and slowly saving up our money ….
May 12th, 2008 at 3:25 pm
@Rob M. - I agree with the vast majority of what you say. Bailing people out who had no business buying a particular house in the first place really irks me as well. I read an article recently about a couple in Ohio who managed to get a not-for-profit (after months of phone calls) to negotiate down with the bank the mortgage on their $350,000 home to a 2.5% rate fixed rate for five years! Now in CA or elsewhere on the coasts, $350,000 might not sound like a nice home, but I know in the Midwest this couple could have certainly found something cheaper. If they couldn’t pay for it, why did they buy it in the first place? And why now should they get such a fantastic interest rate when I and so many other responsible citizens have interest rates more than double that?
The only time I have sympathy is when a person was clearly duped or misled, or if they are in the lowest housing bracket and facing foreclosure. There is also the problem that minorities get discriminated against in the mortgage process. I’m in St. Louis, which still technically has a seller’s market, and the vast majority of foreclosures here are in the poorest zip codes in the city. I have no problem helping in such cases. If the government is intent upon intruding in on the subprime crisis (and it appears they are), then I would at least hope that they limit bail outs by the price of your home, i.e. million dollar home owners need not apply.
May 12th, 2008 at 3:28 pm
I’m still 18 months (or more) away from buying a house, and I hadn’t really paid attention to what the subprime crisis was about.
I listened to this show this morning at work, and it pretty much set it all straight.
My Podcasted list of public radio shows includes:
* Wait Wait Don’t Tell Me
* This American Life
* Prairie Home Companion
* Minnesota Public Radio’s Song of the Day
May 12th, 2008 at 4:11 pm
Great post, and thanks for the link.
Indeed, it’s one big giant mess. When we were “window-shopping” for homes back in 2005 we went to a lender to get pre-approved, and they tried to push some nasty dangerous loans on us. We ran the other way, but multiply that by a few million people who gladly took the money, and you’ve got the mess we find ourselves in today.
May 12th, 2008 at 5:21 pm
What are the consequences for the folks who go into foreclosure? Are they liable to pay the bank the difference? Do they walk away scot free and is able to do that again 2 years down the road?
May 12th, 2008 at 7:02 pm
It was crazy that nearly EVERY bank was involved in this whole subprime mess. You are talking about many, many seasoned, veteran bankers that just miscalculated the risk involved. As much as I want join everyone and blame the people who didn’t know better and took the loans, I think the people that sold the loans are the ones that should really take the blame.
May 12th, 2008 at 7:14 pm
I worked for a bank for a while, and went to the homebuyer’s lunch-and-learn seminar in 2004. We were told that by buying a home, we could save $40,000 in three years (she meant equity). We were told there was no such thing as a housing bubble, that property values would continue to increase. We were told that we would be able to afford these adjustable-rate loans because our equity would keep increasing.
And this is what a bank that was not really into the whole subprime mortgage thing was telling its own employees. This is part of why I worry about blaming the homeowners: yes, it’s obvious that they should have known better. But people who had a stronger background in finance and a responsibility to be honest were lying to them. What about Moody’s rating those securitized mortgages at AAA? What about incentives for loan officers to simply make stuff up?
It was sad watching coworkers who had believed the company try to deal with their mortgages.
It was one case where my lack of self-confidence probably saved me. I didn’t think I could manage a home alone, even though I want one and would qualify, so I never followed up when the loan officer failed to run my credit report.
May 12th, 2008 at 7:16 pm
My wife and I are among the few buyers in the market right now, and we’re loving the crashing prices and taking our sweet time. One thing we’ve gotten from several different lenders that our broker has contacted was that they rarely see anyone who can qualify the way we can. We have the 2% to put down, the back-end ratio is bad because of my law-school student loans but the front-end ratio is golden, and our credit scores are nicely in the seven hundreds. We should have a final pre-qual number and figures when we finally pull the trigger and tell them we’re ready to start sending in offers, but rather than max out on a McMansion, we’re just going to try to score a modest place as cheaply as we can. Thanks to the kind of tips you see here and on Unclutterer, we find that square footage isn’t much of an issue these days.
In retrospect, we’re very glad we did not jump in and buy in 2005 when everyone laughed at us for renting.
May 12th, 2008 at 9:02 pm
Our broker sold us on in interest only ARM. We are both young, and neither one of us knew better. Our broker said in two years you can refinance the mortgage, and it will be easy to do since home prices will continue to rise. We believed him.
Last year my wife lost her job (her position was eliminated), and we haven’t been able to get that income all back yet.
Fast forward to today and we are stuck in a house whose value has dropped and we don’t have enough equity to refinance. Meanwhile, the ARM readjusts every six months.
We certainly didn’t set out to “get more house than we could afford”. Try not to be so hard on home buyers; not everyone was out scam the system.
May 12th, 2008 at 9:10 pm
May 12th, 2008 at 11:25 pm
People want instant gratification. They will gladly take a loan with way too many dependencies for success, and when just one of them fails it all comes crashing down.
I feel about as sorry for these “home owners” as I do for people making $25,000 a year and having their Porsche repossessed.
May 13th, 2008 at 5:14 am
FHA loans are available to many more people now. Look into them.
May 13th, 2008 at 5:40 am
I totally agree with the word “mess” attached to the whole description, as long as what lead to the crisis was a mess, nothing else. And as long as it’s too late to look for whose fault that was, let me show you this nice and cynical slide-show for those who haven’t seen it yet. It is right about the mechanisms of the crisis.
http://smrb.biz/?p=128
May 13th, 2008 at 6:01 am
Personally I don’t buy this subprime mortgage explanation for the mess - to me it just doesn’t make sense, there aren’t enough subprime mortgagea around to account for all the money and the writedowns, I’m sure the banks have been doing something else, although I’ve got no idea what it was.
May 13th, 2008 at 11:11 am
I wonder if more neighborhoods will be applying the “Detroit solution” to the issue of abandoned homes being taken over (and then trashed) by squatters.
Up there, when things get bad enough, police are called to roust the current squatters.
Then when it is vacant, some neighbor quietly goes back at night with gasoline and road flares.
Eventually the city hauls off the debris, so the remaining homeowners now have some nice side yards, which make nice gardens.
Guess that’s preferable to a crack house next door.
May 13th, 2008 at 12:30 pm
@Mike Bahr
I think you mean the 20% downpayment, not 2%. That is unless you are a veteran applying for the VA loan, which has a 2.2% financing fee (for first-time applicants). In which case you don’t have to pre-qual for a VA loan (you just need a Certificate of Eligibility), the government backs your loan because of your service. Also, on the issue of square footage, I would recommend 1500-1800 sqft due to rising utility costs.
@Bryan
I think your case is more the exception, not the rule.
What happened to you sucks and I truly feel for you, but I am not for bailing out the lenders (which is what you are really doing when you bail out the borrowers).
If lenders have to foreclose, then they have to sell the house for less than the loan amount, and this equates to a loss for the lenders. This threat to their company books gives lenders motivation to help borrowers in the form restructuring the loans, possibly modifying the time/interest/etc to repay. However, a government bailout (using our tax dollars) to keep people in houses they cannot realistically afford would mean absorbing the lenders’ losses, thereby assuring the profits of predatory lenders.
If we do that, why don’t we just use tax dollars to cover Las Vegas gamblers’ losses as well? That’s pretty much what Congress is proposing.
My advice to Bryan about the possibility of foreclosure due to the loss of his household’s second income is:
1. Talk to your lender, lay it all on the table (I want to keep my mortgage loan in good standing; however my situation… Can we reach a compromise? Lower monthly payment/etc)
2. Reduce unnecessary expenses/luxuries/driving
3. Sell stuff you don’t need/use
4. Work additional jobs
5. Ask your families for help
If all else fails, walk away, you are not chained to the house. Don’t let the stuff you own wind up owning you.
You can go back to renting and save for a 20% downpayment on a home in the future. With a 20% downpayment, it should offset any negative credit repercussions.
The irresponsible thing to do would be to sit back, do nothing, and hope for a government bailout.
May 13th, 2008 at 3:44 pm
The whole subprime “meltdown” just makes me chuckle to no end.
Banks loaned people money who were unlikely to repay.
They didn’t repay.
Yet somehow this is surprising?
This whole thing could have easily been prevented, of course greed overcame common sense on both sides.
May 13th, 2008 at 8:26 pm
I’m a huge fan of both This American Life and Get Rich Slowly so it was great to read your post on this past week’s TAL show.
I think this week’s podcast was really the first time I’ve felt somewhat educated about what is going on with the mortgage problem. I’m excited to currently be in the process of buying my first house and I’m trying to learn all I can about what I’m getting into.
May 14th, 2008 at 1:23 pm
I am stuck in this crisis also. I have read so many personal finance books and they all say buying a house is the best investment advise. I also watched hgtv and loved their house flippers show.
About two years ago I got my first full time job. I was making 40k and my girlfriend made 25k. I thought that was enough to buy a house. I was wrong.
In California housing is way too expensive. I live out in the central valley thinking I could get a cheaper house. We found the cheapest condo we could find and it was $187,000. It was the cheapest place in town so I thought I could afford it.
Now two years later I am in foreclosure and my credit will probably be ruined. We have moved back into an apartment. I am also scared that the 2nd lender might come after us after the foreclosure is over.
Ugh I can’t wait for this to be over.
May 14th, 2008 at 5:27 pm
I’m amazed at the number of people who cast blame. Every situation is different. I run a housing counseling agency, and my afternoon was spent with two people, one getting a modification to a loan they could afford, but had fallen behind due to a medical situation, the other was someone who had bought much more house than they could afford, which led me to tell her to sell it. I’ve met very few people out to scam the system. Somewhere in all the blame we forget that these really are people’s homes. They are raising families and generally trying to do the right thing, but somewhere along the line something went wrong.
@alslayer, your second mtg may choose to come after you, but most are writing off the losses. Now isn’t the time to worry about that because it’s out of your control. View this as a chance to regroup and start over, doing it right this time. Sorry for yur situation!!
May 14th, 2008 at 10:33 pm
It’s not a “home.” It’s a house. I’m a renter. Probably will be for a while. Home is a loaded term meant to serve a particular agenda.
Geez, I wish I could have troubles paying a mortgage instead of renting. Instead I get to subsidize bad financial choices made by banks, housebuyers, investment firms, speculators, etc. with my tax dollars.
To think that raising a family and having a “home” depends on owning a house is misguided and money-sentimental.
People want freedom to succeed, but not to fail.
May 16th, 2008 at 11:36 am
Looking back to what Rob M said in #6 “It is basically privatizing profits and socializing losses”
This is by design. The financial sector knows that they are too important to the economy to be allowed to fail, so they repeatedly take ridiculous risks (remember Junk Bonds, the S&L Crisis, etc.) and rely on the taxpayers to bail them out. Then they resist regulation claiming that it would be damaging their ability to make a profit.
The difference this time is that the current crisis effects ordinary people, many of whom were caught up in the housing frenzy (buy now, or you’ll never be able to!!!). Others were misled by unethical mortgage brokers. Should we bail out individuals? I’d say it depends on their specific problem.
FWIW, there’s a part of me that wants the whole housing bubble to pop HARD so I can snap up an affordable place to live. I just don’t want to have to ride out the really bad recession that would go along with such a crash.