How Texas’s consumer protections helped banks

By Felix Salmon
April 1, 2010

Alyssa Katz has a very long piece in The Big Money today about the housing market in Texas:

It’s one of the great mysteries of the mortgage crisis: Why did Texas—Texas, of all places!—escape the real estate bust?

I didn’t think it was a mystery at all: Mike Konczal had a compelling blog entry in April 2009 explaining that it was a function mostly of banning prepayment penalties, along with other consumer protections such as banning balloon repayments, banning negative-amortization mortgages, and banning loans based only on collateral value without regard to the borrower’s ability to repay the loan.

But Katz ignores all of those things, and says that the heart of the matter is another part of Texas law: the bit about Helocs and cash-out refinancings.

Across the nation, cash-outs became ubiquitous during the mortgage boom, as skyrocketing house prices made it possible for homeowners, even those with bad credit, to use their home equity like an ATM. But not in Texas. There, cash-outs and home-equity loans can’t total more than 80 percent of a home’s appraised value… And when a borrower refinances a mortgage, it’s illegal to get even $1 back…

“Delinquency and foreclosure rates are significantly lower in Texas,” boasts Scott Norman, the president of the Texas Mortgage Bankers Association. “The 80 percent loan-to-value limit—that’s the catalyst for a lot of this.”

I’m not convinced. Yes, the rules on Helocs and cash-out refinancings were good things, at the margin. But I don’t think it makes sense to concentrate solely on them, while ignoring all the other consumer protections that Texas implemented in the mortgage space.

The point here is that Texas had a set of strict restrictions on mortgage lending, all of which emerged naturally from an overarching philosophy which was generally suspicious of banks and leverage. In the language of rules vs principles, we can say that the rules were put into place in order to express a relatively simple principle.

As a result, I don’t think that Katz is right when she suggests that simply adopting Texas’s restrictions on Helocs and cash-out refis is an easy and obvious way to prevent future housing bubbles nationwide. As we saw over the past few decades, it’s easy to repeal rules if there isn’t a strong set of principles underlying them. And I think that what we saw in Texas wasn’t one rule having a large effect; rather, it was a large set of rules, including crucially a ban on prepayment penalties, having a large cumulative effect.

In any case, I think that the example of Texas does go to show that rules put into place to protect consumers are likely to help, rather than harm, the safety and soundness of banks. Texas didn’t think that giving consumers access to mandated cheap credit would help them, as John Dugan seems to fear. Instead, the state put limits on how much credit they could take out. And that worked out very well, in the end.

Update: Katz has a really good follow-up on her personal website. Let’s have more, please, of journalists continuing the conversation after their piece appears! She’s less impressed by the prepayment ban than I am, since it applied only to “high cost” mortgages and that was a loophole it was easy to get around. I’m not completely convinced, since there’s no evidence that lenders did manage to get around that loophole in practice. So I still think it was the big philosophy which really mattered here, rather than any individual rule. Also, there are some great comments below, and elsewhere in the blogosphere: see Konczal, Drum, and Avent.


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Concerning Texas real estate you should read the following.

Looting: The Economic Underworld of Bankruptcy for Profit
NBER Working Paper No. R1869
George A. Akerlof and Paul M. Romer
University of California, Berkeley and Stanford Graduate School of Business
Date Posted: June 9, 2004
Last Revised: April 14, 2008
Working Paper Series

Posted by david3 | Report as abusive

It’s probably not a coincidence that Texas was one of the hardest hit regions back during the S&L crisis.

Posted by Babelscedastic | Report as abusive


I’m surprised you’re trying to sneak this bit of heresy back into circulation. Here is a link ( to the rejoinder that I posted to your post and Mike’s as well. You might recall that it was posted along with Mike’s article on Seeking Alpha. Once more for the sake of clarity, the
Texas regulation that you refer to is essentially the same as that contained in Section 32 of Fed Regulation Z.

The major difference between the two is that the Texas regulation applies to purchase money mortgages while the Fed statute does not. But, since the test for a high cost loan is fees exceeding 8% of the loan balance or an APR greater than 8% of the corresponding T-Bill rate it was effectively a non-issue even for subprime lenders.

Posted by TomLindmark | Report as abusive

What Texas has, that California, Florida, and other hard-hit areas lack, is a heavy reliance on real estate tax for public revenue. High real estate tax makes speculation expensive, so folks only build what can be sold to actual occupants.

Posted by rentpayer | Report as abusive

I was in Dallas, Texas conducting a banking seminar on Cash Flow for a large national bank two weeks ago. I asked the participants why they thought that Texas avoided the housing bubble and credit excesses of other parts of the country. One of the participants made an astute observation saying that Texas was so totally burned by the excessive leverage in the 1980′s that the banking industry was not nearly as willing to extend as much credit and borrowers were not as willing to accept the money. My experience of working across the country with this bank, is that the commercial bankers in Texas are the most conservative in their system.

Posted by julianbradley | Report as abusive

If you visit Texas two things become apparent quite quickly. The thing which becomes apparent immediately is that it is flat. The second thing, which becomes apparent after your first conversation with a Texan, is that the state is politically conservative.

As a result: there are first, no geographical obstacles to additional development. New demand (of which TX has an enormous amount) is met with new supply, which is built just a little bit past the last housing development.

Second, due to an undersupply of NIMBY liberals, there are no legislative obstacles to additional development. So houses get built soon after the incremental demand manifests itself. This makes a bubble almost impossible because homeowners don’t see a sudden jump up in house prices, therefore speculative demand doesn’t form. (e.g. Houston has no zoning)

The housing bubble was a bicoastal phenomenon. There the ocean (geographically limiting factor) met legislative limiting factors so a small increment in supply created a huge shift upward in the price. Elasticity of supply is greater in TX, therefore no bubble.

It’s true that Texas was slammed by the S&L/ oil price crash of 1986, but Massachusetts, California and New York were slammed in the 90-91 recession yet they chose not to learn.

Posted by johnhhaskell | Report as abusive

sorry one other thing- julianbradley- there is no “banking industry” in Texas separate from the banking industry in the rest of the country. As a result of the ’86 oil crash and the 90-91 recession virtually all of TX bank deposits are now held by banks headquartered out of state (locals will be happy to remind you of this if you forget).

Posted by johnhhaskell | Report as abusive

@rentpayer: New Hampshire also has a high reliance on real estate taxes, with no sales or earned income tax. Yet we had a correction, though not to the extent of other states. Overbuilding was a minor contributor, but I think Felix points out other factors that were more important.

Posted by Curmudgeon | Report as abusive

Felix: I didn’t ignore the other consumer protections in the Texas legal code. I investigated them, and determined them to be irrelevant. In practice these protections have covered few (if any) mortgages. See my post here: n-the-rio-grande.html

Posted by alykatz | Report as abusive

Mr Haskell seems to suggest that it is the fine conservative principles that helped Texas avoid the housing mess which sounds good with a superficial glance but is flawed in many ways but frankly just wrong.

First, the worst states in this mess happen to be the most conservative i.e. Florida and Arizona and in the more progressive states like California the real mess tends to be in the conservative areas of the State.

Second, the fact that it is flat and there is lots of room to build actually argues against your point as it would be much easier for real estate speculators to throw up those many bad housing developments.

Third, one of the most liberal areas (actually one of the most liberal in any area) is here in Austin and we have one of the lower foreclosure rates in the state.

No , Katz is correct that for years Texans could not even get a refi. and when that became legal ( around 2000? ) the 80% rule saved Texas’ bacon.

Eric in Austin

Posted by ericinaustin | Report as abusive

It is also a rule that should apply nationally.

Eric in Austin

Posted by ericinaustin | Report as abusive