Mortgage rates have begun a decline from the irrational levels of the last month, now approaching 6 percent and says here likely to cross back into the fives.

Part of the decline is due to deteriorating economic news. The toughest was a surge in new claims for unemployment insurance, up to 373,000, consistent with recession and suggesting that next week’s payroll report will show February contraction. Orders for durable goods tanked 5.3 percent in January, as have February measures of consumer confidence. Inflation is worrisome, but a soon-to-blow commodity bubble will fix that.

A two-part story today, housing as scapegoat for the failures of others. The real causes of this credit crunch — still called “subprime” — and the recession it has spawned are the grotesque failure of structured-finance products on Wall Street, and failure of oversight by their regulators.

The strange story of mortgage-rate spike and reversal began with the January fable that mortgage-backed securities (MBS) issued by Fannie, Freddie and Ginnie (the “GSEs”) had become too toxic for investors to hold. That notion made no sense here: These GSE/MBS are as good as Treasurys, no matter what the ultimate default rate of mortgages within (Ginnies are guaranteed by the Treasury, Fannie and Freddie clearly “too big to fail”). The GSE/MBS market is $4.5 trillion, the deepest and most liquid market for anything on the planet except U.S. Treasurys.

Yet, traders said throughout February: “too many MBS sellers.” The excess on the market was certainly not new loan production. Now we know who those sellers were: big banks and Wall Street dealers, capital impaired, dumping the only liquid assets they have to make room for trash flooding back onto their balance sheets. The backwash: the remains of deals they sold but agreed to support if “something went wrong.”

The February went-wrong: almost $1 trillion in “auction-rate” securities — actually good-quality muni-bonds, but held in short-term rollover structures (note: nothing whatever to do with housing or “subprime”). When rollover failed in renewed crunch, an avalanche of illiquid paper hit banks, triggering MBS sales and higher mortgage rates.

Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at lbarnes@boulderwest.com.

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