Kate Herrick (1144) wrote in ljphilosophy,
Kate Herrick
1144
ljphilosophy

The Subprime Mortgage Crisis: Exercise in Politico-Economic Fundamentals

Initial situation (until 1980s):					

Lenders have profit motive 
|                       |
|                       |
|                       V
|       Lenders establish credit ratings
|               |                      \
|               |                       \
|               V                        V
|       Good-credit people      Poor-credit people
|       can get loans           can't get loans	          [Capitalism ends here. -K]
|					|
|					|
|	Meanwhile (1990s): 		|
|					|
|					V
|				Some politicians push		Poorer people are
|				for home ownership		disproportionately
|				and "affordable housing"	racial minorities
|					|				|
|					|				|
|					V				|
|				Gov't changes incentives		V
|				for Fannie Mae and 		Claims that lending
|				Freddie Mac via 		standards are racist
|				bailout insurance		      /	
|				/   	|	\		     /
|			       /     	|	 \		    /
|			      /		|	  V		   V
|			     V		|	Pressure on lenders to 	
|		Lenders can make	|	lower standards for
|		higher-interest loans	 \	poorer-credit people: 
|		to poor-credit people	  \	"Home Mortgage Disclosure Act"
|		and then sell those 	   \	& "Community Reinvestment Act"
\		loans to Fannie Mae	    \				|
  \		and Freddie Mac		     \				|
    \			|		      >	Fannie Mae and		|
      \			V			Freddie Mac officials	|
	\	Higher-interest loans		lobby hard to		|
	  \	to poor-credit people		prevent oversight	|
	    \	become profitable					V
	      \		  |					Higher-interest loans
   		\	  |					to poor-credit people
    		  \	  |				      /	become politically
    		    \     |				     /	necessary
      		      \   |				    /
			\ |				   /
			 V V				  /
Then (mid 2000s):	Lenders make	 <----------------
			many more loans
			to poor-credit people
				|
				|
				V
			Poor-credit people
			begin defaulting on
			loans in large numbers
				|
				V
			Ripple effect: Fannie Mae,
			Freddie Mac, and private lenders
			start losing big money	
					|
	Now (late 2000s):		|
					V
				Some politicians and pundits
				blame "greedy lenders"
				for making bad loans:
				"The free market has failed."
					/
				       /
	The government takes over     /
	Fannie Mae and Freddie Mac   < 


Version 1
Stephen Hicks, 2008
http://www.stephenhicks.org/
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