Greenspan warns on mortgages

Financial Times
Sep. 28, 2005

The booming US housing market has led to a worrying decline in standards in the mortgage lending industry, Alan Greenspan, Federal Reserve chairman, has warned.

Mr Greenspan voiced the widespread concern within the Fed about the rapid spread of interest-only loans, floating rate mortgages, and other “more exotic” forms of home financing including loans where borrowers do not pay the full interest cost for an initial period and it is added to the principal.

While these kinds of mortgages had their proper uses, he said, they exposed borrowers to more interest rate and housing market risk than standard 30-year mortgages and some lenders may be pushing them inappropriately.

“They are seen as vehicles that enable marginally qualified, highly leveraged borrowers to purchase homes at inflated prices. In the event of widespread cooling in house prices, these borrowers, and the institutions that service them, could be exposed to significant losses,” Mr Greenspan said.

But while sounding another note of caution on the housing market, Mr Greenspan said problems were still largely confined to a number of local markets. While the impact of a slowdown in the housing market on consumer spending was hard to judge, he said that few households should run into serious trouble.

“The vast majority of homeowners have a sizeable equity cushion with which to absorb a potential decline in house prices,” he said.

The Fed is monitoring developments in the mortgage market as a banking regulator, as lenders strive to maintain their bumper earnings of recent years.

The Federal Open Market Committee's efforts to withdraw monetary policy stimulus have been partially offset by the low level of market-determined interest rates that Mr Greenspan again said were hard to explain.

Continued price rises will make it harder for the central banker to engineer a soft landing and avoid any abrupt swings in consumer spending.

The price of existing homes surged by a record 15.8 per cent in the 12-months to August while sales climbed to their second highest level, according to figures by the National Association of Realtors. Sales of existing homes rose by 2 per cent to 7.29m annualised in August, up from 71.5m in the previous month.