This is part two (of two) of your crash course on problems and solutions in the mortgage markets. Here’s part one. There is also a great op-ed on the financial market impacts of these mortgage market problems. It ran in today’s Financial Times, and was coauthored by two Administration officials: Treasury Undersecretary for International Affairs Dave McCormick, and Treasury Undersecretary for Domestic Finance Bob Steel.

In addition to the policies the President proposed to help some homeowners struggling with their mortgages, he also discussed several important policy changes intended to reduce the chance that these problems recur. We call the whole package of policies the HOPE program: HomeOwner Protection Effort.

There’s been enormous innovation in the mortgage sector. This has made credit more affordable and more available to millions of people. The vast majority of them will be fine. The public debate will focus on those who are not.

Before we discuss solutions, let’s make sure we understand why the subprime problems happened. I discussed this in the last note, but want to supplement that description here.

There are two important causes:

1. Mortgage innovation resulted in some borrowers getting in over their head. Some borrowers didn’t understand what they were buying when they got an ARM with a low teaser rate. In some cases, lenders didn’t provide adequate disclosure. Other borrowers got the disclosure they needed, but didn’t understand it. In still other cases, borrowers didn’t accurately disclose their financial condition. Many borrowers got mortgages that they would be able to refinance only if housing prices continued to appreciate. Some of them knew this, others did not. After the fact, its hard to tell who fits into which category.
2. There are also broader financial market practices underlying the recent problems. The growth of subprime markets was partly driven by investors awash in capital, searching for yield and relying on credit ratings and new securitization practices.

I’ll group the policy answers into the same two categories. The first could be called homeowner protection. In another context, it might be called consumer protection.

• The financial regulators have issued new guidelines to enhance disclosure when you buy a mortgage. The Federal Reserve expects to propose a new disclosure rule by the end of the year. Like the Mulroney sticker on a new car window, better disclosure up front means more well-informed buyers. In particular, a […]