Corporate Governance

Rethinking the Cause of the Subprime Crisis

By Jim Hodgson

In a recent article, Patrick Fouhy challenges the idea that interest rate resets are largely responsible for triggering the bulk of subprime mortgage defaults.  Rather, he contends, 11.2 percent of subprime loans made in 2007 have already ended in default; and no borrower who took out a mortgage in 2007 has experienced ?reset shock? yet.  Instead, reset shock is a phenomenon reserved for those borrowers who have seen their introductory rates inflate after a few years -- and often by three percentage points.  When a new borrower goes into default (as it appears millions of them have) only the irresponsible practices of lenders are to blame -- not an ailing economy.

Mr. Fouhy identifies a 2006 study by the Center for Responsible Lending, which forecasts 2.2 million imminent foreclosures due to reset shock.  And he predicts that ?[t]he 11.2 percent default rate is only going to make this figure worse, because these are foreclosures unrelated to ?reset shock.??  It is a dire warning, then, of much worse things to come.  If the current default rate is 11.2% even before rate resets, consider by how much the default rate stands to increase once new borrowers? early introductory rates expire.

Full post as published by PomTalk on February 21, 2008 (boomark / email).