Does anyone else think that credit scores helped cause the financial crisis? (loans, calculate)

[ddmhughes]

Back when the financial crisis first started CNN had this bank owner on whose bank had practically no defaults on it's mortgages. The owner said that his bank's secret was that no bank employee was to ever pay any attention to a customer's credit score. When someone requests a loan they get a full credit report, get a copy of their pay stubs and sit down with the customer and figure out if they can afford the loan or not. The bank owner said that credit scores are just short cuts. He said the only thing really useful about credit scores is it that it makes debt easier to sell. The host just blew him off and never asked him anymore questions. It was really weird

I am 27 and I have what is considered a "good" credit score. When I was in college I was late a lot on my credit cards and I ended up with a very low credit score. For years I had my cards paid off and my credit score was still low. Then I found out that you had to use credit to raise your score. So I got some retail credit cards and used them and in like 6 months I had an average credit score! Did my likelihood of defaulting on a loan really decrease in those 6 months?

The credit scores come from private companies. Every time you apply for credit and you approved or disapproved instantly all they did was look at your credit score! Do you think credit scores are faulty?

[pghquest]

Originally Posted by ddmhughes

Do you think credit scores are faulty?

I think scores are faulty, but I dont blame them for the financial crisis.

Where I think the credit scores go wrong is they dont judge your ability, they dont compare your income into the equation for example.

If I borrow against a property I have paid off, and use that to buy another property which increases my net income, my credit score drops. If I pay down the debt by selling off a property, thereby decreasing my net income, the score rises.

It also does not take into consideration your networth. While ones networth really isnt a factor for "credit" it does come into play if an individual has to forclose or be sued for not paying their bills. I'd much rather loan someone $10,000 that has $1,000,000 in the bank and a 600 credit score than someone that has $250 in the bank and a 750 score because if something happens, the one with the worse score is in a better position to pay it back because they have the capital. For example, I have a $500K judgment against a guy who owns nothing, which means that I'll never get a dime from him.

Credit scores rate your willingness to pay your bills, not your ability.

Flawed indeed, responsible for the crisis.. no..

[user_id]

Only during the housing bubble were mortgages largely based on credit scores, it is completely standard for banks to look at your income and the value of the home in addition to your credit score.

And no the likelihood of you defaulting did not decrease during those 6 months, rather you gave FICO more information to base your score on. The algorithm is more sensitive about false positives than false negatives as a result someone with little credit activity is going to have a low credit score. FICO can't magically get in your head, they can only base matters on your credit report. The more information they, the more accurate the score gets.

[car54]

I thought that, during the housing bubble, all that was required for a mortgage was a pulse...and even that was waived in some cases...

[chet everett]

There was (and still is..) plenty of blame to throw around regarding WHY so many loans were given to people with uncommonly poor standards.

It is not fair to say that "credit scores" were a causation -- as others have said bad INPUTS leads to a less than perfect 'picture' of the risk that a lender is facing.

I don't doubt that the bank president the OP is citing was being quoted accurately however I think that any lender that would actively IGNORE credit scoring as one part of the criteria would almost certainly be exposing their institution to GREATER risk if they truly understood what data goes into the score and how the score should influence the lending decision.

As the OP states, their score did NOT improve until they made an effort to actually USE the credit they were given in a reasonable way. That is ENTIRELY CONSISTENT with the models that Fair-Issac originally baked into the credit scoring and was eventually copied by others. The fact is the CREDIT BUREAUS are far less likely to "see" anything that positive OR NEGATIVE from someone that infrequently uses the credit granted them. Once a person is routinely using credit and PAYING THINGS OFF IN A TIMELY MANNER the data will be there. If the 'borrower' continues to apply for more credit and uses that too the net effect is that they appear to be MORE RESPONSIBLE.

If a "blind to credit reports" lender were to be faced only with the so called 'triple report' and they actually drilled into the data about usage, limits, payment history they MIGHT essentially be creating a "mental credit score" but without having an actual objective FICO or other score they may be influenced by factors that would expose the firm to more risk and possible discrimination claims...

There is MOUNTAINS of data that suggest FICO and other scores do help lenders manage risk. The data shows that those with the highest scores have the least propensity to not pay their debts, while those with the lowest scores have record of not being responsible. Not much of a short cut.

The comment from the banker about "credit scores making it easier to resell debt" was sadly true, as too many RATING AGENCIES and others either had faulty models about the likihood of HIGHER RATES to adequately compensate the lender for increased exposure OR PERHAPS the madness of thinking that a person who has demonstratively been irresponsible with credit in the past will change their ways when saddled with an expensive hard to understand loan was the real culprit...

[stan4]

Wait, I thought the scores did take debt-to-income ratio into account.

[chet everett]

Originally Posted by stan4

Wait, I thought the scores did take debt-to-income ratio into account.

The score has no consistent and reliable method of knowing actual earnings. They do "back calculate" a likely range of incomes that goes into the model (becuase people tend to spend a certain percentage of their income via the usage that the credit bureaus report) , but don't have a way to verify that. Thus lenders with any brains at all require proof of income...

[texdav]

It was based on assets that both thought would grow in values and they both were wrong. The congresss encouaged this by giving them means of borrowing even when they had nothing by help with down payments;closing cost and how first time buyers rebates.

[BankREO]

Originally Posted by ddmhughes

Back when the financial crisis first started CNN had this bank owner on whose bank had practically no defaults on it's mortgages. The owner said that his bank's secret was that no bank employee was to ever pay any attention to a customer's credit score. When someone requests a loan they get a full credit report, get a copy of their pay stubs and sit down with the customer and figure out if they can afford the loan or not. The bank owner said that credit scores are just short cuts. He said the only thing really useful about credit scores is it that it makes debt easier to sell. The host just blew him off and never asked him anymore questions. It was really weird

I am 27 and I have what is considered a "good" credit score. When I was in college I was late a lot on my credit cards and I ended up with a very low credit score. For years I had my cards paid off and my credit score was still low. Then I found out that you had to use credit to raise your score. So I got some retail credit cards and used them and in like 6 months I had an average credit score! Did my likelihood of defaulting on a loan really decrease in those 6 months?

The credit scores come from private companies. Every time you apply for credit and you approved or disapproved instantly all they did was look at your credit score! Do you think credit scores are faulty?

You sort of answered your own question, they did not pay attention to credit score or any proof of employment. At that point credit is basically free and because real estate is based on transactions, it is no surprise that bank made many loans and people took those bad loans so they could speculate on the appreciation.

[drjones96]

Originally Posted by ddmhughes

Back when the financial crisis first started CNN had this bank owner on whose bank had practically no defaults on it's mortgages. The owner said that his bank's secret was that no bank employee was to ever pay any attention to a customer's credit score. When someone requests a loan they get a full credit report, get a copy of their pay stubs and sit down with the customer and figure out if they can afford the loan or not. The bank owner said that credit scores are just short cuts. He said the only thing really useful about credit scores is it that it makes debt easier to sell. The host just blew him off and never asked him anymore questions. It was really weird

I am 27 and I have what is considered a "good" credit score. When I was in college I was late a lot on my credit cards and I ended up with a very low credit score. For years I had my cards paid off and my credit score was still low. Then I found out that you had to use credit to raise your score. So I got some retail credit cards and used them and in like 6 months I had an average credit score! Did my likelihood of defaulting on a loan really decrease in those 6 months?

The credit scores come from private companies. Every time you apply for credit and you approved or disapproved instantly all they did was look at your credit score! Do you think credit scores are faulty?

My credit scores say I'm excellent.

My payment history says I'm reliable and responsible.

But the reality is I wouldn't rate myself that high!

I think the last few years credit scores have been higher than they should have been....and far too many banks have been lending way more money than they should have...and raised credit limits way higher than they should have because of these high scores.

More attention should have been paid to the real data on the borrower.