The Case of Subprime Lending

Mrs. Jackson is a CEO of a national bank. Government lobbyists and other organizations have been pushing for her bank to lower their credit requirements for mortgage loans. Her and her board of directors have been reluctant to do so. They often point to Countrywide Financial as a reference for why they do not want to change their requirements.

In 2007, Countrywide Financial was the largest mortgage lender in the U.S. A year later, they were gone. Their demise primarily was due to the number of subprime loans on their books. A subprime loan is one in which the borrower is somewhat risky and doesn't meet the usual standard for a mortgage loan, and as a result the interest rates are higher. Often times, these loans were written under a loophole calledStated Income. TheStated Incomeloophole was designed because some lobbyist believed that asking low income borrowers to provide proof of income was unfair and too burdensome.

Banks would make the loans and sell them to someone else, who would repackage these loans into mortgage-backed securities, and those securities were sold around the world. Most of the time, banks like Countrywide would be far removed from these ticking time bombs. This phenomenon contributed to a bubble in house prices, and as bubbles always do, it burst - in 2007. House values went down, and many homeowners were under water, meaning that the principal value of their mortgage was greater than the value of their house. Banks began to foreclose, and the rest is history.

The lobbyists continue to argue that subprime loans have a legitimate purpose and they are pushing for legislation to reduce credit requirements. Their argument is based on providing the American dream to everyone. They believe that if you have a customer who wants to buy a house and who made some poor decisions or had some bad luck in the past, this is a way to get back on a good footing, to be forgiven and prove you can build a reliable credit record even though the past looks a little iffy.

Mrs. Jackson wonders the best course of action for her bank and for society. She also worries about the image of her bank and the increasing call for more lenient credit policies.

The Issue

What should Mrs. Jackson do?

Each participant should discuss at least two of the following questions:What are the relevant facts?What are the ethical issues?Who are the primary stakeholders?What are the possible alternatives?What are the ethics of the alternatives?What are the practical constraints?What actions should be taken?What is a possible solution?What are your opinions on the case?