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Dateline Detroit: Welcome to Subprime City (Part I)

After the collapse of the U.S. auto industry, how is Detroit being hit hard once again?

October 17, 2007

After the collapse of the U.S. auto industry, how is Detroit being hit hard once again?

Eddie Peters steers his sapphire-tinted SUV into Blackstone Street. “You better not step out now,” he says. “It’s too dangerous.” It’s 2 pm on this Wednesday afternoon — and we are in broad daylight.

But Brightmoor is a Detroit neighborhood well south of the invisible wall that serves as a divider between black and white, rich and poor, good and bad. It’s been immortalized by the rapper Eminem and his song (and movie) 8 Mile.

Anybody who lives there has to cope with the “bad” part of Detroit. Long before this summer, life in Brightmoor was miserable already — because of the declining fortunes of the automotive industry and because of the general deterioration and blight eating up some big U.S. cities.

And now, the monster of misfortune has struck again. This time, it’s not the forever-shrinking Big Three — but the mess which the subprime crisis is leaving behind.

While most of the world still thinks this is mostly a “financial market issue,” affecting bond investors and banks, the real pain is felt elsewhere — by real people who took out loans at terms that should not have been permitted.

In Blackstone Street, only four of ten houses are still inhabited. The remainder are abandoned. It’s Eddie’s job to sell these houses. But his job boils down to more of a give-away than a sell.

The other day, Eddie was asking a mere $4,000 for a detached house in Brightmoor — a house that, not long ago, would have gone for 30 to 40 times as much.

But even the $4,000 he asked for turned out to be too big a price tag. Sometimes, even in the freest economy on earth, the real estate market comes to a crushing halt.

A city quite accustomed to economic blight and personal misery in the wake of the decline of GM, Ford and Chrysler now has to digest more pain because of the downturn of the housing market.

In fact, no other U.S. city has seen such a dramatic depreciation of real estate prices as the once-proud “motor city.” According to the S&P/Case Shiller-Index, real estate in Detroit has fallen by 11% since summer 2006.

In August, the number of foreclosures reached 15,000 — double the number a year ago. At this level, Detroit is outperforming other major U.S. metro areas by a lot — but as is by now usual, in a negative way.

One of the major reasons for this misery is the high percentage of subprime loans handed out in recent years to low-income residents of Detroit.

Take Gary and Cathy. On this Thursday afternoon, the couple is sitting at a wooden table in their home in the Detroit neighborhood of Sterling Heights — and they are counting money: cents, nickels, dimes and quarters.

Many coins are neatly piled up in steeples. At first glance, the collection looks like a fortune. But actually, it is not more than $20 or $30.

Every time Gary gestures during our conversation, his hand brushes one of the cent steeples. And every time, more than just a few copper coins fall off the pile. But Gary doesn’t care.

He knows that quarters and dimes won’t help him and his wife anymore. These days, Gary and Cathy need thousands of dollars. Thousands of dollars they don’t have — and which therefore are an urgent concern to the couple and their two kids.

This Detroit family is bogged down knee-deep in a financial crisis that has inflated their once somewhat manageable debt of $100,000 to $240,000 today.

That is why now — not for the first time — the threat of foreclosure looms over their heads and pretty house at Hatherly Place. Only this fall, the threat has become a very real possibility.

Gary offers a bleak scenario for his family: “If you play roulette and time and again you lose, at some point all your money is gone,” Gary muses. “So you rise from the gambling table — and you leave.” Then, Gary pauses.

In his mind, he goes through the preview of the movie that is becoming inevitable. One morning soon, they will rise, load the cars, turn off the water and gas — and leave their house behind.

“We’re not there yet,” Gary says with faint hope in his voice. To date, it’s still a mind game. But he knows full well they might very soon get to the point where the movie turns into gruesome reality.

It was more than ten years ago when Gary and Cathy took out a loan for $100,000 in order to buy their house in Sterling Heights.

At that time, both were well-off financially. Cathy had a really well-paying job as a designer in the automotive business. She regularly worked overtime — and was generously compensated for that. Gary, back then, had built a little business collecting and profitably selling scrap metal.

True, they had almost no financial reserves. But as long as the monthly pay check landed in the mailbox on time, there was no reason to worry.

The couple lived their lives in full: The two kids went to one of the best private schools in Detroit, there was never a time when there was only one car parked in the driveway — and the house was nicely refurbished.

That lifestyle meant that there was a hidden price to pay. While Gary and Cathy made their mortgage payments, their payments never went to paying down the principal loan amount.

All their monthly payments covered was the monthly slice of the interest payment that was due.

As risky or harebrained as that may sound to many non-Americans, their financial ways were not unusual. Increasingly, it has become the price to pay for living the “American Dream” in an era when middle-class salaries are often shrinking, or at least stagnating.

The number of borrowers who don’t think twice about making only minimum required payments is quite high. Why worry about such nuisances as paying down debt?

Wasn’t every expert telling us constantly that the unstoppable appreciation of home prices would take care of such mundane matters as principal mortgage debt?

But life has taken a different turn. In 2002, Cathy lost her job when the car company decided to outsource major parts of its design department to Asia.

At the same time, Gary’s scrap metal business suffered a blow as prices fell dramatically. Within a few months, Gary and Cathy’s income dropped so much that they didn’t know how to make their mortgage payments (on interest only!) anymore.

Read Part II here.