What is the Dodd Frank Act?
As many will note, the United States has seen sweeping changes over the past decade, especially in the aftermath of the financial crisis of 2008. One of the biggest changes, and one that is of particular importance to those interested in real estate investment, is the passing and implementation of the Dodd Frank Act. If you’re new to real estate investment, you may not have a full understanding of what this act is and does, and how it is affecting the real estate market. For this reason, we will be exploring the act in detail below.
Why Was the Dodd Frank Act Introduced?
In response to the financial crisis of 2008, the federal government introduced a number of regulatory reforms, chief among then the Dodd Frank act, named after its sponsors Barney Frank and Chris Dodd. In their eyes, and in the eyes of many others, the key-contributing factor to the financial crisis was predatory lending in the housing market. Simply, homeowners were being given mortgages that they had no hope of making good on. When these homeowners eventually defaulted, the economic cost of these defaults rippled through the market, ultimately resulting in the failure of Freddie Mac and Fannie Mae, two government-instituted companies responsible for maintaining liquidity in the housing market.
What Are the Goals of the Dodd Frank Act?
The Dodd Frank Act is incredibly complex, encompassing more than a thousand pages of reforms, laws and initiatives. In a nutshell, the act created two regulatory entities. The first of those is the Financial Stability Oversight Council and Orderly Liquidation Authority. The second is the Consumer Financial Protection Bureau. Each of these regulatory entities has different goals.
The Financial Stability Oversight Council and Orderly Liquidation Authority is charged with overseeing major financial firms in the United States whose orderly operation is vital to the stability of the United States economy. Put another way, this entity is responsible for overseeing those firms that are deemed “too big to fail”. This entity’s goal is to ensure that the financial crisis of 2008 is not repeated. It is supposed to accomplish this by ensuring that none of these “too big to fail” firms are capable of creating a problem across the entire United States economic system.
The Consumer Financial Protection Bureau (CFPB) is directly concerned with the mortgage market. Its goal is to ensure that the kind of predatory lending that existed before the financial crisis is not allowed to happen again. To accomplish this goal, it does a number of different things. For one, it mandates that lenders be completely transparent with the terms of the mortgages that they’re offering. Further, it is supposed to prevent lenders from attempting to structure mortgages in such a way that they’re able to receive the maximum benefit through fees, interest rates and other means. The CFPB also provides regulatory oversight for other consumer lending entities, for example credit card companies and banks that issue debit cards.
Through these two entities, and through other reforms introduced by the legislation, a repeat of the financial crisis is not supposed to be possible. Because of the strictness of its measures, its reasonable to assume that such a financial crisis will not be able to take place again. However, the act is incapable of preventing all future financial crises, and the way that it has restructured the market for mortgages and other lending markets will no doubt have unforeseen consequences.
What About Unintended Consequences?
While there are many that herald the Dodd Frank Act as an instance of much-needed reform in United States financial markets, there are just as many who fear how the act might affect the economy overall. Those who are critical of the act are quick to point out that the regulatory oversight will almost certainly place limits upon the competitiveness of the United States’ economy in the international marketplace.
If this proves to be the case – and there is some evidence to suggest that it is the case – then the reduction of the United States economy’s competitiveness will have far-reaching consequences. For one, the ability of the economy to grow will be limited. This in turn will mean that wages in the United States will grow at a slower pace. Further, since some companies will view the act’s provisions as a disincentive for doing business in the United States, jobs will be slow in growing, and ultimately the unemployment rate in the country could increase.
Of course, it will take some time to judge the full effects of the Dodd Frank Act, as it has only been in action for a few years. As this decade winds on, its full effects should become more apparent, and congress may act to mitigate any unintended consequences that it gives rise to. One consequence of the Dodd Frank Act is already apparent, however, and that’s how it is affecting the housing market.
Dodd Frank Act and Homeowners
For homeowners or for those who are interested in purchasing a home for the first time, the Dodd Frank Act is somewhat of a double-edged sword. On the one hand, the regulatory changes introduced by the act make it much harder for first-time homebuyers and current homeowners to fall victim to the kind of predatory lending that gave rise to the financial crisis of 2008. Rather obviously, this is a good thing, as it should reduce the rate of foreclosures in the United States and ensure that those who purchase homes are able to keep them, provided they are able to keep up with their payments.
This benefit, however, comes at a cost. The increased regulations make it much harder for lenders to extend loans to homeowners and first-time homebuyers who are on the cusp so to speak. Since these lenders are held to a much higher standard than before, they cannot get as creative when trying to structure a mortgage that can get someone with borderline finances and credit into the home that they want. There are a number of different reasons for this, which we’ll explore in another article, but there can be no denying that for the average American citizen, securing a mortgage is more difficult than it was in the past.