In the late 90’s the Clinton Administration put pressure on lenders to offer riskier loans (sub-prime) to the poor, and those with poor credit, to increase home ownership. This was accomplished by lifting restrictions on Fannie Mae and Freddie Mac, allowing them to buy these risky mortgages on, what is called, the secondary market. By expanding the loans that Fannie and Freddie could buy, banks were able to extend more of these loans since they knew they could slough them off on Fannie and Freddie.

Fannie and Freddie then bundle these mortgages and sell them as bonds (Mortgage Backed Securities) on the open market.  The more mortgages they purchased, re-packaged, and sold, the more they were able to purchase, thus creating a snowball effect. What makes this all work was the explicit guarantee that these two (Fannie and Freddie) Government Sponsored Entities (GSE’s) were backed up by the full faith and credit of the US Government. This gave Mortgage Backed Securities the appearance of low risk investments, similar to Treasury Securities, and they were snapped up in large numbers. OOPS!

It was only a matter of time before these loans went boom!  There is a reason those with poor credit history traditionally must pay higher interest rates!  There is much talk about these poor innocent home owners who now face foreclosure. You know, no one felt sorry for little old me when I ran up my credit cards in my youth!  I think the terms “stupid” and “irresponsible” were used quite often. I went crazy!  “What”?  “I just bought all this stuff and I only have to make this little minimum payment”?  WOOHOO!

There is plenty of blame (on both sides of the aisle) to go around, but what no one is talking about is two remaining mortgage types (Alt-A and pay-option mortgages) that have yet to go boom.  What happens then?

No one wants to hear the lessons of Austrian Economics (of which Ron Paul is well versed) during a boom, but the Austrians have been saying the same thing for 90 years, and for 90 years they have been correct. Austrian Economics called this crisis long before there was there was a crisis. Unfortunately, no one listened.