The great strategy of the American real estate market works like this: You buy a first house and then as incomes rise and equity grows you move up to something closer to the ideal home. It doesn't really matter if the "ideal" home is a mansion on the hill or something with four bedrooms rather than three. To make the system work you need first-time purchasers because if you don't have lots and lots of first-timers then you don't have replacement buyers for the folks who want to move up. Seen another way, if you significantly reduce the number of first-time buyers, then real estate demand will flag and home prices will stagnate or fall. Each year, says the National Association of Realtors, first-time buyers make up 40 percent of the existing home marketplace. Given 7.1 million existing sales in 2005, that means some 2.8 million buyers went into the housing market for the first time last year. The number is even higher when you include new home purchasers. Whether we will see so many first-time buyers in the future is questionable. NAR reports that first-time buyers in 2005 typically "made a downpayment of 2 percent on a home costing $150,000, but 43 percent purchased with no money down." These are remarkable figures. They mean that a representative first-time buyer put down just $3,000 plus closing costs to purchase a home. Compare this number with NAR data from 1995. It shows that a typical first-time buyer back then paid $109,900 for a home -- and put down $12,800 or 11.6 percent.

What these numbers show is that in the past decade we have re-defined the concept of financial risk. It used to be that a lender with any brains wanted a significant downpayment to make very sure that a buyer had much to lose if a house was foreclosed. Not something mystical like a credit rating, but something very tangible -- cash. Buying with little or nothing down, or buying with loans which do not begin to amortize for five or ten years, has not been a major risk for lenders to this point for two reasons: * First, the bulk of risky loans have yet to mature to the point where monthly payments rise substantially. * Second, in most cases buyers in trouble during the past decade could simply sell their homes, usually at a profit. In many communities home values have doubled over the last ten years -- NAR figures show that nationwide a typical existing house was priced at $110,500 in 1995, a median value which rose to $230,000 in 2005. But what if home values do not rise spectacularly in the future? What if they simply remain stable or even decline? What if large numbers of homeowners begin to face sharply-higher monthly costs and feel forced to sell? Some portion of the current real estate market exists in large measure because lender requirements in the past decade have been greatly liberalized. The result is that more first-time buyers have been able to enter the marketplace than would otherwise be the case. Some portion of all first-time buyers will plainly evaporate if financing standards become tighter.

The issue is not that there are suddenly negative amortization loans, stated income financing, option or flexible mortgages and loans that are larger than a home's appraised value. These products, in one form or another, have been around for a long time. Instead the issue is that such high-risk loans are no longer reserved for a limited number of well-qualified borrowers. "Too many consumers," says John C. Dugan, Comptroller of the Currency, "have been attracted to products by the seductive prospect of low minimum payments that delay the day of reckoning, but often make ultimate repayment of growing principal far more difficult. At the same time, too many lenders have been attracted to the product by the prospect of booking immediate revenue without receiving cash in hand, a process that often masks underlying credit problems that could ultimately produce substantial losses." Since last February the Office of the Comptroller of the Currency has been warning national lenders and their subsidiaries that mortgage lending practices must be tightened. The effect of such guidelines and cautions is that inevitably there will be fewer high-risk loans, a smaller number of first-time buyers and thus less demand pushing home prices higher.