Since the early 1990s, the government has been attempting to expand home ownership in full disregard of the prudent lending principles that had previously governed the U.S. mortgage market (see chart above showing the huge 5% government policy-induced spike in home ownership from 64% in 1994 to 69% by 2004, following a decade of stable homeownership at 64%). Now the motives of the GSEs fall into place. Fannie and Freddie were subject to "affordable housing" regulations, issued by the Department of Housing and Urban Development (HUD), which required them to buy mortgages made to home buyers who were at or below the median income. This quota began at 30% of all purchases in the early 1990s, and was gradually ratcheted up until it called for 55% of all mortgage purchases to be "affordable" in 2007, including 25% that had to be made to low-income home buyers.

It was not easy to find candidates for traditional mortgages—loans to people with good credit records or the resources for a substantial downpayment—among home buyers who qualified under HUD's guidelines. To meet their affordable housing requirements, therefore, Fannie and Freddie reduced their lending standards and reached into the FHA's turf. The FHA, although it lost market share, continued to guarantee what it could, adding to the demand that the unregulated mortgage brokers filled. If they were engaged in predatory lending, it was ultimately driven by the government's own requirements. The mortgages that resulted are now problem loans for the GSEs, the FHA and the big banks that were required to make them in order to burnish their CRA credentials.

Thus, almost two-thirds of all the bad mortgages in our financial system, many of which are now defaulting at unprecedented rates, were bought by government agencies or required by government regulations.

~AEI's Peter Wallison writing in last week's Wall Street Journal