A prominent member of the Senate Banking Committee insisted Tuesday that the housing meltdown was primarily caused by careless investment and defended the government's affordable housing goals.
Speaking at the Mortgage Bankers Association, Sen. Elizabeth Warren (D-Mass.) said that housing finance reform was vital for the future of American home ownership.
"Thanks in part to the companies represented in this room, home ownership remains the centerpiece of the American dream," Warren said. "Widespread access to home ownership allows lower and middle income families to produce savings, and it produces the kind of stable communities that are the backbone of the American economy."
Warren maintained that reckless investment in unvetted mortgage-backed securities was the primary driver of the financial crisis of 2008.
"The underlying cause of the crisis is fairly clear. ... Fundamentally, the crisis started one lousy mortgage at a time," she said. "We now have some good independent research on this. ... Despite claims to the contrary, Fannie and Freddie's affordable housing goals were not to blame -- not even a little bit -- for the rapid expansion of the subprime market. Affordable housing goals have been scapegoated by those who have been itching to get rid of those goals for a long time, but I think it's time to drop that red herring."
But there was still plenty of blame to go around, Warren maintained.
"At its core, the story of the housing crisis is a story of moral hazard for all three players: the originators, the private label issuers and Fannie and Freddie," she said.
Many mortgage originators, Warren said, originated loans without doing due diligence on borrowers' ability to repay. Private-label issuers were happy to invest in lousy mortgages because they knew they could bundle and sell them, she said.
"As for Fannie and Freddie, they had too little incentive to manage their risks because they would reap the profits if things went well, and everybody knew the government would step in to bail them out if things did not."
Warren said housing reform would have to start with a government guarantee like that currently provided by Fannie and Freddie -- although that guarantee should place more risk on the shoulders of private capital than the current system, she said.
"The housing market is so large and so important to the American people that there is no plausible scenario where there isn't a government guarantee," Warren said. "An explicit guarantee will provide the assurance the market needs to make sure that 30-year fixed rate mortgages remain widely available, and that's crucial."
Warren also said any reform would have to leave breathing room for smaller institutions.
"The primary market is already dominated by a handful of large players. We must not end up with a housing market that crowds out smaller institutions," she said. "A housing market dominated by a few too-big-to-fail institutions would reduce access to mortgages in rural areas and lower-income urban areas."
"The $10 trillion housing market affects every American, and its current form is unsustainable," Warren said. "We need reform, but it must be targeted reform that retains the good things from the old system. If we approach the task with seriousness and a hard look at data and at facts, i believe we can temper the boom-bust cycle while retaining the things that set the American housing market apart from the rest of the world."