Enlisting Market Mechanisms to Police the Origination of Home Mortgages

Howell Jackson

UCC08-7: The collapse of the subprime mortgage market has revealed many flaws in the financingof home mortgages in the United States. Financial firms may have been too quick to originate and repackage loans into securitized pools funded through the issuance of mortgage backed securities. Investors in these securities may have too eagerly accepted apparently attractive rates of interest without understanding fully the risks inherent in the underlying loans or the precariousness of the financial position of the borrowers upon whose solvency repayment depended. Credit rating agencies, drawn to the fees associated with rating services, may have bestowed unduly generous ratings on mortgage backed securities without a dispassionate and fully informed analysis of the underlying economics. Borrowers may have casually accepted loan offers and refinancing proposals without adequately considering the implication of the terms of repayment and the likely consequences were interest rates to rise and real estate prices fall. Financial regulators may not have understood the value of consumer protection laws of the sort traditionally imposed at the state level but increasingly preempted by federal officials in an effort to promote uniform national rules. Finally, policy analysts at all levels may have failed to appreciate the extent to which a dramatic contraction of real estate lending could impair the liquidity of other sectors of the credit markets. In short, the sub-prime crisis presents numerous and overlapping instances of possible market and regulatory failure‚Ķ