(“The Liberal Curmudgeon,” n.d.)

As a result of the subprime lending fiasco, the federal banking regulators, in April 2007, issued a joint release encouraging financial institutions to seek out prudent working arrangements with troubled, subprime borrowers in a manner that is consistent with safe and sound lending practices (Brauneis & Stachowicz, 2007). The question has been how did this problem occur in the first place? However, the next step is how to address the situation and ensure that there is not a recurrence. Legislative and regulatory action has been a positive step to address the situation.

There have been several laws, rules, and regulations implemented in the interest of restricting banks from engaging in certain forms of activities and investments, chiefly proprietary activities (Schaefer, 2012). Many existing laws and regulations were not effectively enforced prior to the crisis. Some of the measures that have been implemented are as follows:

• The enactment of the Dodd-Frank financial reform of 2010, the Volcker Rule, was passed. The rule is intended to curb recklessness by barring banks from trading for their own gain, disconnected from client’s needs and demands (New York Times Editorial Board, 2013). It addresses a majority of the issues of the result of subprime lending and provides a strong assurance that a subprime crisis in the future may be avoided
• The Wall Street Reform and Consumer Protection Act was established in 2010, which provides assistance to homeowners’ upside down in their mortgage loans
• As an incentive, regulators indicated that financial institutions could possibly receive favorable Community Reinvestment Act (CRA) consideration for offering opportunities for low- to moderate-income customers to refinance higher-cost loans into lower-cost loans (Brauneis & Stachowicz, 2007)
• Banks and lending institutions increased loan qualifications standards and tightened mortgage loan qualification requirements, therefore making it harder to approve applications that indicated hardship in affording repayments on schedule
• The establishment of the Secure and Fair Enforcement for Mortgage Licensing Act of 2008 (SAFE Act), requiring nationwide licensing and registration for residential mortgage loans
• Fannie Mae and Freddie Mac stipulated that they would no longer purchase residential mortgage loans unless the loans complied with the Proposed Statement on Subprime Mortgage Lending (Taft, 2007)

Beyond the guidance issued by the banking agencies, there are additional practices that could assist in ensuring responsible subprime lending with regard to anti-predatory laws and regulations. These include ensuring borrowers repayment ability, provide home-ownership counseling, and ensuring the borrowers’ understanding of the terms and conditions of the loans. It is also encouraged that lenders go above and beyond the strict technical disclosure requirements of the Truth in Lending Act (TILA), Real Estate Settlement Procedures Act (RESPA) and similar statutes, considering the individual needs for customized disclosures tailored to each borrower in an effort to ensure that borrowers understand the unique terms, conditions and risks of the specific products offered (Brauneis & Stachowicz, 2007).

 

References:

Brauneis, M., & Stachowicz, S. (2007). Subprime mortgage lending: New and evolving risks, regulatory requirements. Bank Accounting & Finance (08943958), 20(6), 28-34. Retrieved from: http://eds.a.ebscohost.com.proxy1.ncu.edu/eds/pdfviewer/pdfviewer?sid=ddb0ce68-97ce-42fb-a960-df285b1e27e3%40sessionmgr4009&vid=1&hid=4111

New York Times Editorial Board. (2013). Finally, the Volcker Rule. New York Times. Retrieved from: http://www.nytimes.com/2013/12/13/opinion/finally-the-volcker-rule.html

Schaefer, S. (2012, April 19). Regulators: Banks have until July 2014 to comply with Volcker Rule we haven’t written yet. Forbes. Retrieved from: http://www.forbes.com/sites/steveschaefer/2012/04/19/regulators-banks-have-until-2014-to-conform-to-unwritten-volcker-rule/

Taft, J. (2007). The latest attempt to regulate subprime mortgage lending: The federal banking agencies issue the subprime mortgage lending guidance. Real Estate Finance, 24(3), 10-14.

The Liberal Curmudgeon: November 2011. (n.d.). Retrieved from http://www.theliberalcurmudgeon.com/2011_11_01_archive.html

Did leadership have a role in the decision making during the subprime loan financial crisis? This is a question that have been asked over and over. Thiel, Bagdasarov, Harkrider, Johnson, and Mumford (2012) in their research addressed the corporate and financial misconduct of the policy and decision-makers of the subprime crisis and discussed the role of ethical leadership. They speculated on how so much misconduct could have occurred when there are many policy and procedures put in place to protect against unethical practices. Thiel et al. (2012) suggests that the reliance on ethics solely in decision-making might be misplaced and insinuated that better decisions might be made using strategies for sensemaking.  Thiel et al. (2012) defined sensemaking as the complex cognitive process engaged when one is faced with complex and high-risk situations.

In today’s society, ethical misconduct occurs because leaders do not possess the finest leadership characteristics. Ethical misconduct stems from complications that leaders have with accurately making sense of the business setting or other rational boundaries (Thiel et al., 2012). It is rather obvious that the subprime lending debacle which unveiled the financial crisis were complex and high-risk and required a mix of sensible and ethical reasoning to guide leaders in their decision making. We expect leaders to decipher problems and make excellent decisions while preserving ethical values with regard for the welfare of others and with an awareness to their social obligations which in many cases was not done (Thiel et al., 2012). Because of the lack of ethical decision making (EDM) being present in most cases, important factors of information were ignored during sensemaking which led to poor ethical decisions (Thiel et al., 2012).

Courtesy of: USA Gold (2007).

The concept of social responsibility states that corporate activities should not only focus on generating profits, but also be concerned with social and ecological consequences (Elkington, 1998). Some would argue that by providing borrowers with subprime loans they were living up to their social responsibilities as these loans allowed many more to have the American dream (Gilbert, 2011). Banking is a peculiarly capitalist activity which focuses primarily on making a profit for its shareholders (Watkins, 2011). Interestingly, some banks have anticipated the adoption of these new rules by transforming their banking practices and adopting a more socially responsible financial attitude. This behavior not only includes the adoption of technical measures, but also a more general attitude of transparency and accountability, which ultimately manifests in other concrete actions (Paulet, Parnaudeau, Relano, 2015). However, they failed to go far enough to secure the American dream in perpetuity for the benefit of the public. Lenders also failed to realize that they had a socially responsible and moral duty not to approve loans that would likely cause harm to borrowers and others, which is what eventually transpired (Gilbert, 2011).

The social responsibility of the leaders of companies is to do what’s best for the greater good (Thiel et al., 2012). However, subprime lenders ignored the social good for the main purpose of maximizing profits at all cost.  There was no code of social or ethical responsibility followed on the part of the leaders. The subprime loan was a source of income with no regard for the effect on the borrowers or society (Gilbert, 2011). Because of these choices, borrowers defaulted on home loans; banks and mortgage lenders foreclosed homes; home value prices dropped significantly; the whole investment banking industry, the largest insurance company, the largest mortgage lender, two of the largest commercial banks, two government institutions, and many of the largest subprime lenders closed shop, including Fremont, New Century, Ameriquest, and many, many more (Havermann, n.d.). The result, a very widespread financial crisis that affected other industries and the economy as a whole.

Had all involved exercised more social responsibility the big fallout from the subprime era which in essence led to the great recession, could have possibly been avoided.

 

References:

Elkinton, J. (1998). Cannibals with forks: The triple bottom line of 21st century business (2nd ed.). Capstone Publishing Ltd.

Gilbert, J. (2011). Moral duties in business and their societal impacts: The case of the subprime lending mess. Business & Society Review (00453609), 116(1), 87-107. doi:10.1111/j.1467-8594.2011.00378.x. Retrieved from: http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=59161773&site=ehost-live

Havermann, J. (n.d). The Crises Unfolds. Retrieved from http://www.britannica.com/topic/Financial-Crisis-of-2008-The-1484264/

Paulet, E., Parnaudeau, M., & Relano, F. (2015). Banking with ethics: Strategic moves and structural changes of the banking industry in the aftermath of the subprime mortgage crisis. Journal of Business Ethics, 131(1), 199-207. Retrieved from: http://eds.b.ebscohost.com.proxy1.ncu.edu/eds/pdfviewer/pdfviewer?sid=2794253b-add5-4965-999b-23f7d902449f%40sessionmgr106&vid=4&hid=120

Thiel, C., Bagdasarov, Z., Harkrider, L., Johnson, J., & Mumford, M. (2012). Leader ethical decision-making in organizations: Strategies for sensemaking. Journal of Business Ethics, 107(1), 49-64. doi:10.1007/s10551-012-1299-1

USA Gold. (2007). Top 25 quotes on the Credit Crisis of 2007. Retrieved from: https://www.google.com/url?sa=i&rct=j&q=&esrc=s&source=images&cd=&cad=rja&uact=8&ved=0ahUKEwiAi_27rezQAhXJwiYKHYjxDbAQjRwIBw&url=http%3A%2F%2Fwww.usagold.com%2Famk%2Fusagoldmarketupdate082707

Watkins, J. P. (2011). Banking ethics and the Goldman Rule. Journal Of Economic Issues (M.E.Sharpe Inc.), 45(2), 363-372. doi:10.2753/JEI0021-3624450213. Retrieved from: http://proxy1.ncu.edu/login?url=http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=60808385&site=ehost-live