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Summary of an article in New York Times
by GRETCHEN MORGENSON entitled
FEDERAL SHRUGGED AS
SUB PRIME CRSIS SPREAD PART 2
Mr Gramlich, Democrat appointee to the Federal Reserve, who had made substantial study on these subjects,saw both great benefits and great peril in the new industry.He agreed that sub prime lending had opened new doors to people with low incomes or poor credit histories. Home ownership which stood stagnant at 64 per cent climbed to 70 per cent by 2005 and the beneficiaries were among blacks and Hispanics groups who had suffered discrimination for decades.However, the alarming fact was many sub prime loans were extremely complex and complicated and loaded with hidden risks.Borrowers were qualified on the basis of low initial teaser rates forgetting the much higher rates they would have to pay after one or two years.These loans came with big fees that were hidden and most of them prepayment penalties that effectively blocked people gong for cheaper loan for long.
"The most risky loan
products are sold to the least sophisticated borrowers” because they are probably duped into taking these products.”
FED chairman was requested to send examiners into the
mortgage-lending affiliates of nationally
chartered banks. Many of them, like Bank of America’s affiliate, had already come under fire from state regulators and consumer groups. Fed examiners, could have cleaned up those practices from the inside.
But Mr. Greenspan felt and feared that Fed examiners would fail to spot deceptive practices and thus inadvertently give dubious lender a government seal of approval."
Mr. Greenspan added. "If the Fed went on overseeing thousands of local institutions, for which they did not have the resources they, “would end up with a situation which could be worse rather than better.”
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The Fed helped stoke the housing market by slashing short-term interest rates from 2000 to 2004. The rate cuts which drastically reduced the effective cost of buying , and so added more fuel to an already powerful housing boom.
Foreign investors were pouring trillions of dollars into American securities., often described as the “global savings glut,” which flowed directly into mortgage-backed securities that were used to finance sub-prime mortgages . But by 2005, federal banking regulators started worrying that mortgage
lenders were running amok with exotic and often inscrutable new products.
The agencies, however, were moving in different directions. The Office of the Comptroller of the Currency was in charge of nationally chartered banks and . the Federal Reserve covered affiliates of nationally chartered banks. The Office of Thrift Supervision oversaw savings institutions. and the Federal Deposit Insurance Corporation insured deposits of both state-chartered and nationally chartered banks.
Each agency being funded from fees paid by the institutions they regulate, often treated them as constituents to be protected and were wary about stifling new financial services.However
Ms. Bair was an exception, especially for the deregulation-minded Bush administration. she tried to hammer out an agreement with mortgage lenders and consumer groups over a tough set of “best practices” that would have covered sub-prime mortgages .But this got largely stalled because of disagreement.
The drop in lending standards became worse in 2004, as lenders approved a flood of shaky new products: “stated-income” loans, which do not require borrowers to document their incomes; “piggyback” loans, allowing people to buy a home without making a down payment; and “option ARMs,” which allowed them to make less than the minimum payment but added the unpaid amount to their total mortgage.
Fed noticed the drop in standards and their survey of bank lenders showed a steep plungei
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