(This is Part 1 of a two-part series. Read Part 2, "Sky-high loans get borrowers out of trouble.") Case histories of subprime loans that have gone to foreclosure often generate righteous indignation. With benefit of hindsight, many if not most of them look as if they never should have been made. Such indignation is one important motivator for recent demands that government should require that all home mortgages be "affordable." While affordability is a difficult concept to define rigorously, one well-defined affordability rule has emerged with the approval of bank regulators, community groups and many legislators. It applies to adjustable-rate mortgages, or ARMs, which have more than their proportionate share of foreclosures. In many cases, lenders assess the ability of ARM borrowers to make their payments at the initial interest rate, which is artificially low. When the rate increases, the payment also increases and may become unaffordable. I will use the 2/28 ARM, the most widely ...
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