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Plain Vanilla? A Retro Flavor

posted by Adam Levitin

The Obama adminstration's CFPB proposal took a lot of flak (and almost cratered) because of the inclusion of the "plain vanilla" provision (from the work of Profs. Michael Barr, Sendhil Mullainathan, and Eldar Shafir), which would have required financial service providers that offered "alternative" products to also offer borrowers "standard" plain vanilla products. The typical example given was that if a lender offered a payment option ARM, it would also have to offer a 30-year fixed rate mortgage. That seemed to be a radical demand on the market and got a lot of objections. 

How short our financial services regulation memories are, it turns out. I've been poking around in the history of US mortgage regulation for a couple project, and guess what?  We used to require plain vanilla for federal thrifts.  Prior to 1981, if a federal thrift offered an ARM (the terms of which were heavily regulated), it also had to offer the borrower a FRM. Industry didn't love it, but it was hardly their biggest complaint.  This is hardly an argument in favor of plain vanilla, but it definitely makes it look less radical.   


From what I've read recently, and what I remember at the time, ARMs were made legal somewhere around 1980. The reason for ARMs was that fixed rate mortgages were running up in the 15-20% range, while ARMs were a bit lower. I also remember interest only and negative amortization loans from that time, but they were offered assuming the roughly 10% inflation rate at that time, where people could reasonably assume that their earnings would rise over the next few years.

You're off by a few months. FHLBB authorized ARMs for federal thrifts in mid-1979. The plain vanilla bit was part of the authorization. They also permitted partial and negative amortization ARMs.

And yes, the FHLBB authorized ARMs (after several proposals to do so throughout the 70s) as a response to inflation.

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