1. Finance 129 Background on the Financial Crisis

2. The Big Picture Problems in Mortgage Market Global Credit Crisis / Bank failures / Equity Losses Declining Consumer Spending Decreased Business Investment

3. Who’s to Blame? Economic Environment CongressConsumers Mortgage Originators RegulatorsWall Street GSEs Rating Agencies International Flows

4. How Financial Markets Enabled “Keeping up with the Joneses” New Products Poor Underwriting Public Policies Unintended Consequences Low Rates and International Capital Flows Products Underwriting Policy Markets

5. Mortgage Market Developments Securitization and new participants Graham Leach Bliley Financial Modernization Act of 1999 Increased Use of Mortgage Brokers 2000 Commodity Futures Modernization Act Increased Access to Credit Subprime, Alt A, Option ARMs Products Underwriting Policy Markets

6. Securitization Loan Bank B Financial Intermediary Buys Loans, Forms a “Pool” and Issues MBS Loan Bank ALoan Bank Z Insurance Firm, Banks, Pension Funds etc. Buy MBS – Cash Flows “Guaranteed” by Original Mortgages Products Underwriting Policy Markets

7. Average Size of Subprime Loans Demyanyk and Van Hermert, "Understanding the Subprime Mortgage Crisis" Federal Reserve Bank of St. Louis, Working paper 2007- 05, August 2008 (sample represents approximately 85% of securitized subprime loans, over 50% to total subprime Products Underwriting Policy Markets

8. Credit Quality of Subprime Loans Originated each year Demyanyk and Van Hermert, "Understanding the Subprime Mortgage Crisis" Federal Reserve Bank of St. Louis, Working paper 2007-05, August 2008 (sample represents approximately 85% of securitized subprime loans, over 50% to total subprime Products Underwriting Policy Markets

9. Structure of Subprime Loans Originated each year Demyanyk and Van Hermert, "Understanding the Subprime Mortgage Crisis" Federal Reserve Bank of St. Louis, Working paper 2007-05, August 2008 (sample represents approximately 85% of securitized subprime loans, over 50% to total subprime Products Underwriting Policy Markets

10. Impact of Subprime Loans on Home Ownership "SubPrime Lending: A Net Drain on Homeownership," Center for Responsible Lending: March 2007 Products Underwriting Policy Markets

11. NY Times October 4 "Pressured to Take More Risk Fannie Hit a Tipping Point" Fannie Mae’s Guarantee of Alt A Loans Products Underwriting Policy Markets

12. Blaming Fannie and Freddie? No - Fannie and Freddie were small relative to the entire market. Combined Subprime Purchases (% of Market)** Consumer demand created rapid prince increase Yes – Overall Size put them at risk for any Mortgage Market problem Securitizing more risky loans opened door for Private securitization Gramlich, E. "Subprime Loans: America's Latest Boom an Bust" 2007 ** "how HUD Mortgage Policy Fed the Crisis", Washington Post June 10, 2008 Products Underwriting Policy Markets

13. International Capital Flows Consumer Spending On Exports Increased Foreign Holdings of $ Increased Inflow of Dollars Helps Keep Long Term Rates Low Products Underwriting Policy Markets

14. “The Perfect Storm” 2004 - 2007 Domestic and global institutions buy MBS in attempt to increase margins on “safe” securities, incorrectly rated. Institutions use higher debt levels for securitization. Underwriting standards deteriorate. Increased interest rate environment makes loans more likely to default Increasing Home Prices encourage consumers to overextend and speculate in housing market Products Underwriting Policy Markets

15. Home Sales and Home Prices

16. Non Agency Mortgage Foreclosure Rates

18. Response of Consumers Increased access to credit and delusional optimism resulted in: Short-Term Speculative Focus Borrowing More and Saving Less

19. Case Study: Natalie Brandon 1985 Buys $105,000 house 30 Year fixed rate loan Payment = $770 2000-2006 Paid penalties to Refi 5 times in 5 years Yearly income = $100,000 2006 New Loan $625,500 2/28 7.99% teaser Payment = $4,585 Fall 2007 Home Value = $450,000 Attempt to Refi for 40 years at 6% Fails

20. Borrowing More & Saving Less

21. Equity Prices Compared to Past Recessions

22. Consumer Credit Outstanding Compared to Past Recessions

23. Impact of the Crisis Increase in Precautionary Saving Lost Wealth from Equity Declines High Unemployment Consumer Confidence hits Record Lows

24. Precautionary Saving If you were to lose your job, for how long could you afford to be out of work and still meet your financial obligations including monthly expenses? The 2009 MetLife Study of the American Dream

25. Confidence in Having Enough Money to Live Comfortably Throughout R etirement Years

26. “The Pressure I feel to buy more and better material possessions is greater than ever” Metlife Gen06 Y09 Baby06 Boom09 All06 09 Gen06 X 09 Silent06 09 Agree Disagree

27. Buyers Remorse I have no regrets about the major purchases that I have made over the past few years I regret making major purchases and wish I would have saved more over the past few years Gen Y Gen X Boomers Silents All

28. The Crystal Ball – The Big Picture How will Consumers Respond? Precautionary or Long Term Savings? Lost Faith in Investment Planning? View of home ownership Corporate Earnings Financial Markets and Regulation Regulatory Changes Long Term Inflation Fears Monetary and Fiscal Policy Interest Rates