First of all, let us make it clear that we at the Greenlining Institute and Operation Hope are for the market.
On balance the market has the ability to help level the playing field for America's underclass, and in doing so, create a new stakeholder class in 21st century America. We also believe that there is definitely a legitimate place in the market for adjustable-rate mortgages.
The Federal Reserve recently raised interest rates for the seventh time within a year and for the first time gave an inflationary warning that could send shock waves throughout the adjustable-rate mortgage industry.
This inflationary warning, combined with a growing view that the real estate market is behaving in ways that eerily recall the technology stock obsessions of the late 1990s, should move the Fed to take precautionary steps.
In June 2004 the Greenlining Institute and four major banks met with Fed Chairman Alan Greenspan on this issue. Armed with substantial data, he issued a quiet warning to the bankers that even those with advanced degrees in calculus might not be able to determine the impact of some adjustable-rate mortgages on their future well-being.
Almost one year later, the problem is far more severe.
Trying to close the minority homeownership gap, many financial institutions have unfortunately responded with an increasingly wide array of ARM instruments, inadvertently designed in a way that could cause a wave of future foreclosures. For example:
- Some financial institutions offer teaser rates of 1%.
- Others offer instruments at artificially low rates that are likely to result in negative amortization.
- A very wide range of financial institutions offer interest-only mortgages for up to 10 years.
The Federal Reserve Bank of San Francisco recently joined with us to co-host a meeting with 13 financial institutions to discuss this issue. The meeting was held in California, partly because that state, where median home prices are 2.5 times the national average, faces a growingly complex array of adjustable-rate mortgage instruments.
To their credit, major financial institutions acknowledged the potential problem. As a result and as a first step, a blue-ribbon ARMs committee led by top executives from Wells Fargo, Bank of America, Washington Mutual, and Citigroup has agreed to work with community groups to quickly develop a set of best practices to head off disaster.
Additionally, Fannie Mae, Freddie Mac, and the California Bankers Association have committed to assisting this committee in quickly developing best practices, particularly in high-cost areas where ARMs are almost irresistible for those who live from paycheck to paycheck. (Some studies have concluded that approximately 70% of all Americans live that way; this is not simply a problem of the poor and the underserved, but the middle class as well).
The authors' two groups have already received, on a voluntary basis, data from seven major financial institutions on many aspects relating to their ARMs products and sales practices. Some were forthright enough to admit that they were not doing enough to protect against disaster. While the committee meets, community leaders will urge Mr. Greenspan and the Fed to gather extensive data, including worst-case scenarios, relating to ARMs instruments throughout the regulated and unregulated mortgage industry.
We at Greenlining and Operation Hope urge the following:
- Elimination of negative-amortization instruments.
- Elimination of teaser rates.
- Judicious use of interest-only instruments.
- That financial institutions assume a quasi-fiduciary responsibility to ensure that those who live from paycheck to paycheck fully understand the implications of ARMs and are clearly capable of withstanding worst-case scenarios.
- Larger reserve requirement for ARM loans or particular types of ARMs to deter banks from lending to people who could not afford the payments.
There is more the Bush administration and Congress can do as well. An estimated $350 billion in annual mortgage and property tax subsidies exist for homeowners, but a grossly disproportionate percentage of this benefits the wealthy, including those with more than one home. Perhaps it is time to give homeownership relief to the poor by giving them a tax credit or refund of up to 25% for home mortgage interest and property taxes paid.
