It's a bubble, that's why. Banks don't want to be left out of the huge profits any more than real estate buyers do. Since the only way people can stay in the game is if they issue mortages with crazy rules, they do.

From the banker's perspective, there are a few things going on. First, most mortages are now sold from banks to be "securitized" into the mortage bond market, so individual banks probably flip a lot of mortages away and transfer risk to others. Second, they may figure they'll be a bailout -- historically, that's happened (S&L in the 1980s). Third, many people often think they'll be the ones to get away with it, either because they think *their* bank is picking the people who will somehow manage it, or because they figure they'll have moved on to new jobs before it bursts, or that the risk is basically long-term for the stockholders whereas employees only see the bonueses for booking lots of business short term.

Not to mention that *not* going crazy with the rules would puncture the bubble *now*. Another common historical pattern -- when the market loses touch with reality, create a crazy new financial instrument and kick the can down the road and pray something will happen to fix things, rather than have it all collapse today.

Plus if you regulated mortages as tightly as you suggest, the republican-libertarian types at HZ would complain... ;)