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Foreclosures Follow Sub-prime Mortgage Bust


I'm Cheryl Corley, in for Michel Martin. This is TELL ME MORE from NPR News.

Coming up: peace efforts in Darfur. We catch up with Manute Bol. And a Nigerian American author has a message for the West.

But first, the words homeownership and American dream are almost synonymous in our culture. And during the country's housing boom, the dream became true for many whose past credit history may have once kept them out of the home ownership market. What made that dream possible was often a subprime mortgage. Owners put little or no money down, but often paid higher fees and interest rates. With a boom, however, there is always a bust, and foreclosures have rocked neighborhoods where increases in interest rates have left homebuyers reeling.

In a moment, we'll talk with Marina Peed. She counsels potential homebuyers in Atlanta. But joining us now to discuss the industry and the changes that need to be made is Edward Gramlich. He's the author of "Subprime Mortgages: America's Latest Boom and Bust." He is also a former governor of the Federal Reserve Board, and is now at the Urban Institute and Economic and Social Policy Research Organization. And he joins from his home here in Washington, D.C. Dr. Gramlich, welcome.

Dr. EDWARD GRAMLICH (Senior Fellow, Urban Institute; Author, "Subprime Mortgages: America's Latest Boom and Bust"): Thank you very much.

CORLEY: Well, the news about subprime mortgages these past few months has been particularly bad with an ever-increasing number of foreclosures tied to those loans. I'd like you to talk first, though, sir, about what's been good about the subprime market.

Dr. GRAMLICH: Well, subprime mortgages didn't really exist before the early '90s, and the opening up of the subprime market enabled people with inferior credit histories and lower incomes and racial minorities to buy homes - many of them for the first time. And for most families, it's actually worked out. The foreclosure rate is up to 20 percent now for particular mortgages, but that means that 80 percent of the people are making payments. So in general, we should not throw the subprime mortgage out. It is a good thing. And we can make it better.

CORLEY: Okay. You say don't throw it out. So you think that it's here to stay, that this is going to be a product that people will be able to use.

Dr. GRAMLICH: I definitely think it's here to stay. Yes.

CORLEY: But I would imagine there's going to be some changes in the industry and how it's used.

Dr. GRAMLICH: Well, one would hope. Now, the first change, I think, is happening already, and that is kind of within the private sector. The way the subprime market works - it's similar to way the prime market works - is that subprime mortgages are made by lenders, and the lenders pass these onto capital market investors. These mortgages get secured highs and sliced and diced and all of these kinds of things. And so the financial trail is pretty hard for anybody to figure out.

CORLEY: Okay. I was going to say that explanation might be hard for some people.

Dr. GRAMLICH: Well, that's right. I mean, the problem with all this is that when it becomes very easy for a lender to make a loan and then pass it onto capital markets, the lender doesn't take the normal precautions. Things like verifying the borrower's ability to repay the loan, can the borrower afford the interest rate - things like this.

CORLEY: And those things, you're saying, were overlooked as people were getting these loans.

Dr. GRAMLICH: They were overlooked. And basically, we got to bring that back.

CORLEY: So what type of regulation would be needed? What's likely?

Dr. GRAMLICH: Well, in the subprime market, what happened is that lenders grew up, they were often state-chartered. They didn't have a federal supervisor, and, you know, a very simple proposal would be to bring it back.

CORLEY: Are we likely, or do we need some sort of legislation to make these things happen as well? That…

Dr. GRAMLICH: Well, the Fed has - I thought we did. And I said we did in the book. But the Fed has proposed a way to do it without new legislation. And essentially, the trick is that - you see, a lot of the lenders are supervised by states, so the trick is that they have brought the Conference of State Bank regulators into the whole mix. And they're trying to get common standards for the federal supervisors and for the state bank regulators. And if they can do that, then we might be able to do this without legislation.

CORLEY: Well, Dr. Gramlich, of course, it all boils down to consumers in the end, and whether or not they'll be able to purchase a home.


CORLEY: And so I was wondering if you believe, will a new subprime market be a more difficult one for consumers?

Dr. GRAMLICH: Well, it'll be harder to get a loan because a lot of the loans -the subprime loans should not have been made. No two ways about it. I mean, that - you know, a lot of these loans are adjustable rate, and they have low rates for the first couple of years and then the rate adjusts. If you evaluate the loan the way you should, which is to essentially see if the borrower can afford the loan not with a short-term low rate or the teaser rate, but with a long-term rate for the loan, then a lot of the borrowers would not have qualified for loans and the loans wouldn't have been made.

So it will be harder to get a subprime loan. There won't be as many new homeowners, but there also won't be as many foreclosures. And so I would say that we just have to go to a regime where it becomes harder to qualify for a subprime loan, but the subprime market is still hoping.

CORLEY: Edward Gramlich is a former governor of the Federal Reserve Board and is currently a senior fellow at the Urban Institute. Thank you so much for joining us.

Dr. GRAMLICH: Thank you very much. A pleasure talking to you. Transcript provided by NPR, Copyright NPR.

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