Fannie May can be considered as a continuation of the previous post on Lehman Brothers bankruptcy as it is one of the reason that the shadow banking system has taken a hit. Fannie May was created after the Great Depression to create a liquid secondary mortgage market and thereby free the loan originators to originate more loans, primarily by buying Federal Housing Administration (FHA) insured mortgages.[1] In other words, a buffer system that provides more loan to lenders.
Sounds simple, but one would wonder, where does the money comes from? They earn their profits from interest rate, so cash flow is necessary for profits just like Lehman Brothers. All is going well until 2008 where a shift in mortgage trend siding to other investment bank. The reason here being Fannie May is a regulated association and has guidelines to follow in mortgaging property. However, during this period of time, the economy downturn causes less people in the low and middle income to obtain a mortgage. Thus, these people choose unregulated conduit to obtain mortgage since it is easier to obtain one through them. This forced Fannie May to lower their standards to get back their profits.[2]
Lower standards resulted in the oversupply of underpriced housing finance that lead to an increasing number of borrowers, often with poor credit that were unable to pay their mortgages causing an increase in home foreclosures. Following this, home prices declined as increasing foreclosures added to the already large inventory of homes and stricter lending standards made it more and more difficult for borrowers to get mortgages. Going downhill is easy, so when the prices drop, there is no hitting the ground unless something is done. With no choice, the U.S government gave Fannie May the bailout costing in billions.[3] With this move, shadow banking system took a big hit as mortgage is one of the highest profit resulting in situation like those of Lehman Brothers.
No comments:
Post a Comment