Did wealthy house flippers cause the mortgage crisis? A new study says yes.

Inside Subprime: August 30, 2017

By Caroline Thompson

Ten years after the burst of the housing bubble, the narrative surrounding what happened leading up to the crisis is all but set in stone: banks loosened borrowing standards and allowed people with subprime credit to buy houses they couldn’t afford. Their en mass default bankrupted lenders and snowballed into a global financial catastrophe. But a new study from the National Bureau of Economic Research suggests that poor subprime borrowers were not, in fact, to blame for the collapse of the housing industry.

Instead, the data suggests it was actually wealthy and middle-class house flippers who, according to an article from Quartz, “blew up the bubble to cataclysmic proportions, and then wrecked local housing markets when they defaulted.” While the subprime borrowers who took out loans during the period leading up to the crisis were indeed more likely to default on their loans, this has been true for years. Subprime borrowing levels have actually remained pretty consistent through decades of ups and downs in the housing market. During the crisis, borrowers with subprime credit scores accounted for just 35 percent of the foreclosures during the financial crisis, while the biggest increase in in mortgage debt came from wealthier borrowers with good credit scores.

This sudden burst in upper and middle class borrowing was spurred by a collective national impulse to own multiple properties. As the housing industry was booming, conventional wisdom dictated that home prices would continue to rise indefinitely. Buying an additional property – to either keep as a vacation home or fix up and sell for a profit – was seen as a smart and savvy investment, which would increase in value year after year.

Borrowers with high incomes and good credit were able to get much bigger loans than subprime borrowers, and those who took out loans to buy investment properties were much more willing to default and foreclose on those loans than borrowers who only owned one home. After all, when you have multiple mortgage payments, your priority is going to be paying for the house in which you live, not the one you bought to flip.

“We find that real estate investors play a critical role in the rise in mortgage debt only for the middle and the top of the credit score distribution,” wrote researchers Stefania Albanesi, Giacomo De Giorgi and Jaromir Nosal in the NBER report. ” The share of mortgage balances of real estate investors rose from 20 percent to 35 percent between 2004 and 2007 for quartiles 2 and 3 of the credit score distribution. Most importantly, we find that the rise in mortgage delinquencies is virtually exclusively accounted for by real estate investors.”

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