A slice of Danish (Economist)

The Economist suggests that a Scandinavian model of mortgage financing may provide possibilities for reforming the Anglo-American model. One part of the current global financial crisis can be attributed to how banks leveraged their mortgage assets (loans to house buyers) to generate more income (securitisation).

The significant difference in Denmark is the original mortgage-lending bank remains responsible for the interest payments on all corresponding bonds issued (i.e. it can’t offload that duty to a third party), and thus retains the burden of potential default.

But even more important is that mortgage holders can buy these bonds — the specific bond leveraged against their own property — directly, themselves. When house prices fall, the mortgage-backed bonds trade at a discount (because the underlying asset value had dropped, potential buyers demand a higher interest rate return). Obvious benefit for the mortgage holder, as it reduces the final amount they’ll pay for their mortgage. The Economist points out that part of the cruelty in the American situation is that mortgage holders have no access to the market in which its securitised mortgages trade.

Potential snags include Denmark’s regulation that no more than 80% of the house value can be mortgaged, and banks can easily foreclose on properties. There’s the argument that if banks — in the USA and elsewhere — had been more prudent and resisted from subprime lending, then that in itself could have prevented at least some of the current misery.

But I’m interested to learn from those in the lending industry how aspects of the Scandinavian model could be applied here, particularly in regards to (a) ensuring the originator of mortgages have more responsibility/liability for their securitisation (aka “flipping”), and (b) how mortgage holders could benefit from the subsequent financial transactions done on what will ultimately be their asset (purchased house).

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