By PAM GRUVER, KELLY MOYNIHAN and KRISTI WARREN
Observer Contributors
April 23, 2008

Macroeconomics: When the US Sneezes, the world turns to China

Terms: The 411 on credit terms, concepts and problems

Microeconomics: Debt vignettes from society

Living debt-free: Millionaire gives practical advice for a debt-free life

Post guru speaks: Post’s debt-free guru preaches a brown-bag lifestyle

Counseling: Non-Profit Credit Counseling Services; Friend or Foe?

A drastic solution: Cutting up cards may not be the best solution

Faith: Christian Debt Relief: Stewards of God?

The Terms:

Credit

“I’d gladly pay you Tuesday for a hamburger today,” said Wimpy from the old Popeye cartoon.

That’s basically the concept behind credit. The debtor borrows money from creditors and repays their debt at a later date. The amount of debt is called the principal. The debtor must pay back the principal in installments determined by the bank as well as credit fees (interest). Interest rates can be subject to only the principal (simple interest), or you can be charged the principal plus interest incurred over a period (compound interest).

A little bit of debt is necessary to build up a good credit score. A history of timely payments and responsible purchasing allows you to get loans, take out mortgages and increase your credit line, afford college tuition, etc.

Mortgage Loan
This is a term usually understood to be a loan used for the purchase of a home. The home serves as security, or collateral, for the loan. However, the mortgage is not really the loan itself, but a method of security for the lender. If the borrower cannot pay back the loan then the lender has the right to sell the home in what is called a foreclosure.

Most people can’t afford to buy a house outright. Instead, when a consumer decides to buy a home (or any expensive property) he pays a down payment, and then monthly mortgage, property taxes, and any homeowner’s fees.

The Problem:

Credit Debt
Credit debt becomes a problem when you can’t keep up with credit payments. Various signs include paying the minimum payment on credit cards, being near or over credit card limit, occasionally making late payments, using cash advances from one card to pay another. The repercussions of overspending can be merely inconvenient or overwhelming; while you can’t be arrested for owing, you can be sued by the credit card companies and have to appear in court.

• In February, total consumer credit increased by $5.2 billion, or a 2.4 percent annual rate, to $2.54 trillion, according to the Federal Reserve. Of the total increase, credit card debt rose at a 5.9 percent rate and accounted for $4.7 billion. (Federal Reserve)
• Update by the Federal Reserve: “Consumers, battered by a credit crunch and prolonged housing slump, significantly slowed their pace of borrowing in February,” according to the Washington Post Express.

• Retrieved from creditcards.com: Of the households that owe money on credit cards, the median balance was $2,200, meaning half owe more, half less (Source: MSN Money).
• In perspective, the majority of U.S. households have no credit card debt. ? 25 percent have no credit cards, and 30 percent of households pay off their balances every month. (Federal Reserve)
• “The default rate for prime mortgages is still far lower than for subprime loans, about 24 percent of which are delinquent or in foreclosure. Some economists note that slightly more than a third of American homeowners have paid off their mortgages completely. This group is generally more affluent and contributes more to consumer spending and the economy relative to its size.” – NewYork Times.

Source: Federal Reserve; revised figures as of 4/7/08

Source: Federal Reserve; revised figures as of 4/7/08

Source: Federal Reserve; revised figures as of 4/7/08

• Total consumer debt outstanding: 2538.6 (in billions)
Consumer Credit, February 2008, http://www.federalreserve.gov/releases/g19/Current/

http://www.federalreserve.gov/econresdata/default.htm

http://www.census.gov/

• Repossessions rose 90 percent to 45,327 in January from the same period a year ago. Total foreclosure filings, which include default and auction notices as well as bank seizures, increased 57 percent according to RealtyTrac, a company that lists foreclosure filings.

Mortgage Crisis
Subprime lending is lending at a higher rate than the prime rate. Extending credit to borrowers with credit (<620 FICO score) that would normally disqualify them from loans at the prime rate. In other words, it’s lending to borrowers with questionable credit histories. Subprime mortgages totaled $600 billion last year, accounting for about 1/5 of the U.S. home loan market.

Adjustable rate mortgages are loan types that allow the lender to adjust the interest rate during the term of the loan.

The problem is complex. First there were nationwide housing bubbles. When property values skyrocketed people couldn’t keep up with mortgage payments and led to foreclosures. Then the housing prices decreased so that owners had negative equity. The amount they owed was more what the home was worth, so when they were foreclosed on, they stilled owed money.

Also, lenders made too many subprime loans to borrowers who couldn’t make their payments on time. Now that it’s too late lenders are raising standards for loans and raising ARM interest rates. Since people aren’t able to pay off the loans they have, they are cutting back spending. The result is widespread. Less consumer spending means weaker economy. Big businesses have to cut jobs and small business owners as well as lenders are filing for bankruptcy. On the individual level, it basically means less money in the pocket, in the bank and higher prices at the gas station and grocery store.

Who’s to Blame?

Predatory Lenders
Mortgage Companies & Banks are accused of deliberately targeting unwary borrowers who didn’t understand conditions of subprime loans. Predatory lending is when companies take advantages of ignorant borrowers using deceptive practices, discriminatory or steering borrowers to disadvantageous deals.
Predatory Lending Defined, Mortgage News Daily

Greedy borrowers
Borrowers knowing they couldn’t afford payments took out loans anyway. “Others disregarded warnings about complex loans because they wanted to be a part of the housing boom, which like the technology stock bubble lured people in with seemingly instant and risk-free profits, said Mory Brenner, vice president of Financial Firebird Corporation, a company based in Pittsfield, Mass., that publishes consumer debt information and refers borrowers to credit counselors.” -New York Times.