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Was legislating affordable housing the cause of the housing crash?

After years of many economists and lawmakers agreeing that affordable housing was the first domino that toppled, causing the rest to fall, a new working paper asserts that affordable housing did not contribute to the subprime securities boom, thus did not contribute to the crash.

A controversial assertion

In a fresh working paper from the Federal Reserve Bank of St. Louis, Andra C. Ghent, Rubén Hernández-Murillo, and Michael T. Owyang study whether or not affordable housing legislation contributed to the subprime securities boom, thus the housing crash.

The paper entitled “Did Affordable Housing Legislation Contribute to the Subprime Securities Boom?” and the first word of the findings is “No.”

The fed stated, “In this paper we use a regression discontinuity approach to investigate whether affordable housing policies influenced origination or affected prices of subprime mortgages. We use merged loan-level data on non-prime securitized mortgages with individual- and neighborhood-level data for California and Florida. We find no evidence that lenders increased subprime originations or altered pricing around the discrete eligibility cutoffs for the Government Sponsored Enterprises? (GSEs) affordable housing goals or the Community Reinvestment Act.”

The result? The paper said, “the extensive purchases of risky private-label mortgage-backed securities by the GSEs were not due to affordable housing mandates.”

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This working paper is sure to be highly controversial given the very common belief held by many lawmakers and economists that the push for affordable housing weakened the market and did, in fact, lead to a boom in subprime securities. While there are dozens of other theories, this is one that is commonly agreed upon.

So how can it be true?

Rather than speculate, the Federal Reserve Bank of St. Louis “examined the effect of affordable housing legislation on the volume, pricing, and performance of subprime mortgages originated in California and Florida in 2004 through 2006. Using a regression discontinuity approach, we found no evidence that the affordable housing goals of the CRA or of the GSEs affected any of these outcome measures.”

They continue, “While it is unquestionable that Fannie Mae and Freddie Mac held substantial amounts of subprime mortgages, and that their holdings of these securities played a significant role in their demise, the evidence in this paper refutes the claim that the affordable housing mandates were responsible for the risk-taking behavior of these two institutions.”

It is interesting that the paper makes a national assertion based exclusively on two states, two of the hardest hit by the recession. If an economist were to say that home sales were down 22 percent because of poor sales in California and Florida, would that economist not be castigated for poor forecasting? Would it be responsible if the National Association of Realtors reported that home prices were unaffected by the recession because Idaho home prices and Montana home prices were up 32 percent since the recession began?

While there will be critics and supporters of this working paper, the assertions are fascinating, nonetheless.

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The full working paper:

Tara Steele is the News Director at The American Genius, covering entrepreneur, real estate, technology news and everything in between. If you'd like to reach Tara with a question, comment, press release or hot news tip, simply click the link below.

21 Comments

21 Comments

  1. Roland Estrada

    March 26, 2012 at 10:11 pm

    As I’ve mentioned before, it was the general relaxing of mortgage standards and almost complete lack of oversight that led to the housing crisis. It’s easy to solely blame the financial sector for the mess. However, the banks only went as far as legislators would let them go – which was pretty far.

    The Federal Reserve paper is just another version of the same CYA that we’ve hearing from our pure-as-the-driven-snow legislators. The sheeple love it when the government hands out goodies of various types. But there is always, always a price to pay.

  2. Stan Brody

    March 27, 2012 at 8:05 am

    Insofar as over 60% of all loans were closed not by banks, but instead mortgage bankers, not bound by the act, the affordable housing act (CRA) played such a minor role in the overall housing crisis as to be a non-issue. However, as homeowners these people were most susceptible to any economic downturn… they were too often the first to lose their jobs, and thus going into default. The manner in which the (conspiratorial?) MBS’s were created and assembled played a far greater roll in this depression. The “rating” agencies knew in advance that the mortgage pools they were blessing were wrought with the very high probability of failure… A.I.G. wrote bogus (criminal) mortgage insurance policies (CDO’s); and the the ilk of Goldman Sachs knowing full well that the MBS’s, comprised of loan products they had created and had designed were doomed to eventually implode. Fannie and Freddie, under the very same social pressure to comply as are teenagers, were very late to the game in lowering their overall standards allowing them to buy sub-prime mortgage pools… But along with the CRA both are the whipping dogs of an inept media leading the Cacophony of Condescending Conceited Clueless Clowns of Congress by its nose…

    Simple math tells us that, using the HUD actuarial for long term appreciation and based on the number of homes with negative equity… the number of existing REO’s… the number of homes already in the foreclosure process … and the government’s own projections for those programs such as HARP2… without an understanding that the only way out is principle write down… recovery cannot occur before 2022… the number of problem loans are far to massive… HARP2 is akin to going to the hospital with a heart attack and being treated for an ingrown toenail…

  3. James

    March 28, 2012 at 3:11 pm

    Why is this even a question? It’s the most preposterous assertion I’ve heard, without any merit. If it weren’t for publicly-subsidized affordable housing, the crash would have been even worse. Subsidized housing had much lower default rates than market rate housing because it was highly regulated and market rate housing was not.

    • DFerr

      March 28, 2012 at 10:23 pm

      Commonly agreed upon? Perhaps commonly repeated without verification, but I don’t believe that economists agree on this at all.

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