Whether rooted in increased market power among surviving lenders, a return to sensible pricing after the excesses of the bubble or strains on capacity now that subprime infrastructure has been sloughed off, profits from originating mortgages appeared to lift off last year.

Mortgage earnings were an early bright spot for banking companies in the first half of last year during a phase that was marked by stress tests on the one hand and a developing refinancing wave on the other.

The Federal Reserve Board's program to buy massive amounts of mortgage bonds guaranteed by Fannie Mae and Freddie Mac, announced in November 2008, quickly drove down spreads to benchmark rates, improving prices available to lenders in the secondary market. (The central bank's holdings of the securities, along with similar bonds backed by the Government National Mortgage Association, now exceed $1 trillion, close to the program's target for a total of $1.25 trillion. Fed buying vastly exceeded net issuance of government-sponsored enterprise mortgage bonds last year.)


Mortgage rates available to consumers did not fall by as much, however, allowing originators to pocket larger amounts on each loan.

The difference between the average rate on a 30-year, fixed-rate conforming mortgage tracked by a Freddie survey and the monthly average of a Bloomberg index of the yield on Freddie bonds into which such loans are packaged reached 110 basis points last January, the highest level over the past decade and well above an average of about 50 basis points during the period.

It has narrowed since then, but remained elevated at almost 70 basis points in November.

Over the past decade, the margin between the two figures has closely tracked lending volume, suggesting that mortgage demand drives up prices for consumers and profits for lenders. But the relationship unraveled in late 2007 and most of 2008 as the industry lurched into a new era of chastened underwriting standards: the margin rose or remained flat even as loan production dropped off for five quarters.

The traditional directional correlation between the margin and production appears to have resumed even as the margin remains unusually thick.

That thickness could reflect the shedding of excess capacity in the industry, which has undergone large cuts in plant and personnel in part because of the abandonment of gearing designed for risky mortgage products that fuelled enormous lending volume in the middle of the decade.

But to the extent that a lack of competition is driving consumer prices higher than they would otherwise be, crisis consolidation has diluted one of the core goals of the government's massive intervention in finance: subsidizing housing. On the other hand, fat margins do serve another chief policy goal: goosing bank profits and helping them to earn their way back to health.

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