Today's media myth is that housing prices are falling due to subprime lending.

In reality, housing prices are falling today due to no equity.

About 1/3 of homeowners own their houses free and clear. They have 100% equity.

But the other 2/3 of homeowners have lower amounts of home equity than they ever before have, in the history during which good records are available.

Home equity was over 70% and now is at levels of around 50% on average.

The equity has been taken out of many houses.

Home equity lines of credit diminished equity.

Increasing cash-out refinances lowered equity further.

And now declining housing prices are the coup de grace.

While in earlier times, the 20% down loan was de rigeur for new homeowners, in recent times even first-time purchasers bought with so-called piggyback loans. Freddie Mac has recently said that one out of seven of their "prime" loans are actually twinned with piggyback loans, meaning those homeowners probably have little or no equity.

The upshot is that many homeowners have very good credit, but can be expected to default on their loans.

Falling house prices increase foreclosures

As these homeowners who have great credit find that they are under water, that is, that they owe more than their house is worth, they begin to question why they are continuing to make payments. Emotional attachment, a sense of moral obligation, and the unpleasantness of moving all account for people staying put in their house even though they are paying on a mortgage that exceeds their home's value.

But as equity continues to slide, and if the US enters a recession, these "prime but underwater" homeowners will either walk away, or do a mortgage short sale with their mortgage lender.

Short sales let a homeowner sell the property for less than their loans. The mortgage company releases their mortgage and accepts what the buyer brings to the closing table.

Lenders typically do not like to approve short sales for people who are not in dire financial straits. But these are not typical times. More and more lenders are doing short sales even for homeowners who simply are under water and want to move. The lender has little choice. If a person with good credit chooses to let their home go into foreclosure, the foreclosure process costs a good deal of money that the lender has to pay. And the lender faces the prospect of getting another house back and having to fix it up and sell it in a terrible climate.

That is why the lenders are increasingly willing to talk to homeowners about short sales even if the homeowners have good credit and even if they do not face a significant hardship. As these short sales become more common, they lower prices even further, causing more people to lose equity and decide to pursue their own short sale.

It is the vicious circle working in the downward direction. 2008 promises to have record high foreclosures and short sales and many will be with homeowners who have good credit.

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