Every mania has its illusion

All the world’s media are now carrying accounts of the ‘liar loans’ and fraud that has accompanied the growth in US mortgage lending in recent years. How did this come about?

All manias gain their strength from a widely believed ‘fact’ that turns out to have been an illusion. With subprime mortgage loans, the ‘fact’ was obvious. Everyone wanted to believe that US housing could only ever go up in value. The mortgage brokers believed this when they gave $500k loans to truckers earning $50k a year. They knew the borrower couldn’t afford it, but were sure that increasing property values made the loan bankable.

Similarly the banks also ‘knew’ that if there were any problems with repayment, then they could easily sell the house for a profit. And the ratings agencies were happy to give AAA ratings to part of these loans, when securitised, because their models showed that US house prices hadn’t declined nationally since the Great Depression.

And, of course, there were plenty of buyers for these loans outside the US. With global interest rates so low, the returns to be made from lending to the US housing market looked very attractive by comparison. And they came with all the right paperwork to assure investors and the compliance officer that everything was okay.

The only problem is that the whole story may turn out to have been an illusion. The CEO of Countrywide, the largest US mortgage broker, said last month that `we are experiencing home price depreciation almost like never before, with the exception of the Great Depression’.

About Paul Hodges

Paul Hodges is Chairman of International eChem, trusted commercial advisers to the global chemical industry. He also serves as a Global Expert for the World Economic Forum. The aim of this blog is to share ideas about the influences that may shape the chemical industry and the global economy over the next 12 – 18 months. It looks behind today’s headlines, to understand what may happen next in critical areas such as oil prices, China and Emerging Markets, currencies, autos, housing, economic growth and the environment. Please do join me and share your thoughts. Between us, we will hopefully develop useful insights into the key factors that will drive the industry's future performance.

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