2) The Role of Mortgage Banking in the Financial System?

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Note: I only have to do an outline for question 2, this is my group’s work just to give an idea on how to do my question. Can you please include the resources at the end of the paper.

Mortgage Banking Outline

1) What is Mortgage Banking? What is their size/importance?

a) Mortgage Banking is the act of individuals or companies borrowing funds from a financial institution to finance large purchases. These loans can be used for purchasing houses, buildings, or expensive equipment. Most loans tend to be established as long term fixed payments. An example of these can be a loan on a house with a fixed interest rate for 30 years.

i) These loans often require a payment beforehand as a show of good faith. This is called a down payment. It is usually a percentage of the overall loan.

b) Interest is usually charged on a loan at an agreed upon percentage at an agreed upon date each pay period.

i) Often, these interest rates are relatively low due to the competition and variety of financial institutions in the market.

c) Lenders require that borrowers purchase private mortgage insurance in order to reduce the risk of defaulting.

d) This is an important aspect of a healthy financial system. With the constant flow of funds through a financial system lenders profit from the interest of the mortgages. And borrowers profit from the purchase of something that couldn’t be bought under normal circumstances.

2) The Role of Mortgage Banking in the Financial System?

a)

3) Primary and Secondary Mortgage Markets

a) The primary mortgage is the market “where borrowers and mortgage originators come together to negotiate terms and effectuate mortgage transaction. Mortgage brokers, mortgage bankers, credit unions and banks are all part of the primary mortgage market.”

i) A primary institution can be a bank either commercial or not. It may be a local bank, privately owned, state-owned or a corporation. The institution is considered the direct lender of the loan that homeowner uses to purchase a house, paying the mortgage back in monthly payments to the issuing institution.

ii) Primary institutions make their profits by charging interest on the money loaned to the purchaser.

b) Secondary Mortgage Markets

i) allow banks to sell mortgage loans and other servicing right between lenders and investors.

ii) Fixed rates are offered to long-term loans up to 30 years which means that the principal and interest will remain the same over time.

iii) The purpose of having a secondary mortgage market is for lenders to sell mortgages to bring more money into the institution to issue more loans.

4) What is the connection to the 2008 financial crisis?

a) Excessive lending occurred with little requirements from the borrowers.

i) Borrowers got involved with high-risk mortgages and were able to qualify for the loans because little documentation/credentials were required of them.

(1) Lenders did not ask for borrowers’ income or asset documents to see if they would qualify for a loan. This led to easy approval.

ii) People with terrible credit were even being accepted for loans which meant so many more people were able to borrow.

(1) These factors contributed to the 2009 financial crisis because too many people were able to borrow without being able to pay them back. This led to a high amount of defaulting on payments which led to houses being taken away and lots of economic turmoil.

b) Lenders offered risky products to borrowers.

i) Loans that promised short-term benefits and long-term risks were easily accessible. For example, Option Arm was the most popular loan being issued to borrowers right before the 2008 financial crisis.

(1) The Option Arm program allowed borrowers to pay off their loan through four options which included a fifteen-year payment, a thirty-year payment, an interest only payment, or a minimum monthly payment option.

(2) There were many issues with the Option Arm loan program.

(a) For example, the last option of the minimum monthly payment got many people in deep trouble because they would make payments on a mortgage that was much less than the actual interest rate. This meant that there was a large difference between the minimum payment and monthly interest payment which significantly increased the loan balance. The accrued interest increased which created a problem.

(b) The interest-only payment option was also dangerous because the borrowers were only paying the interest which makes the payment cheaper; however, the loan amount doesn’t decrease so eventually the borrowers had to pay off

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