The extinction of the private subprime market and the rapid rise of the government insurance programs may strike many as a largely positive development. After all, it was the subprime segment of the mortgage market that triggered the global financial crisis and subsequent Great Recession as subprime loans defaulted at an astronomical rate during the housing bust. However, while government-insured mortgages are typically underwritten with more rigor and discipline than private subprime loans, they are not low-risk loans. The combination of high leverage and low credit scores documented above translates into extremely high default rates. The table above shows that five-year cumulative default rates (CDRs) by year of origination varied between 5 and 25 percent over our sample period. To put these numbers into perspective, the five-year CDRs associated with loans insured by Fannie Mae and Freddie Mac (the housing government-sponsored enterprises, or GSEs) are typically an order of magnitude lower. According to our calculations, the 2002 and 2009 vintages of GSE loans had five-year CDRs of approximately 2 percent, while Ginnie Mae’s same vintages had five-year CDRs of almost 10 percent and 13 percent, respectively.
Pointer from Mark Thoma.
The Federal Housing Administration, FHA, sets up many borrowers to fail. One could argue that these borrowers put up so little of their own money that this is a worthwhile risk from their point of view. It is the taxpayers that are being set up to fail.