Edward Gramlich, a former governor of the Federal Reserve Board, now serves as a senior fellow at the Washington, D.C.-based Urban Institute. He is the author of the recently released book "Subprime Mortgages: America's Latest Boom and Bust." We talked with him about the sub-prime market.
Question: You've done a good deal of research into the history of the sub-prime mortgage market. What did you find?
Answer: The growth of the modern home mortgage market in the 1950s was revolutionary because it allowed millions of middle-class Americans to become homeowners for the first time -- something that hadn't been possible before.
Back then, lenders couldn't raise their mortgage rates above the amount permitted by law. That meant that if someone with a lower income or inferior credit history came in, they couldn't get a loan. It just wasn't worth the risk to make loans to such people at the government's maximum rate. That changed in the 1980s with the repeal of usury laws.
Now when someone applies for a mortgage, they're not just accepted or rejected. Instead, they're priced -- in other words, the interest rate they're offered depends on how much of a risk they pose to the lender. People with inferior credit histories get mortgages with higher rates, and we call those sub-prime.
Question: A lot of commentators have focused on the sub-prime market's problems. You've looked at both sides. What are some of its advantages?
Answer: Before the sub-prime market got big in the 1990s, if people couldn't qualify for prime loans, they couldn't buy houses. So sub-prime came in as a way that people with worse credit records could at least get a mortgage. There was a huge growth in the number of sub-prime mortgages, accompanied by another spurt in homeownership -- the first in 40 years.
At first, it looked like things were going very well. Now, the foreclosure rate has risen, and about 15% of sub-prime borrowers default on their mortgages. So that means that we still have 80% or 85% of the people who have mortgages who couldn't have gotten them before. ... And that share of the population should not be forgotten.
Question: How would you describe the problems with the sub-prime mortgage market?
Answer: Foreclosures [have] always been higher in the sub-prime market, but in the 1990s and the early 2000s the problem wasn't serious. Recently, it has become much more so.
