LESSONS LEARNED #59: “When the Right partners with business the Left calls it crony capitalism. When they partner with business the Left calls that smart government.” -Old Pithy

Posted by PITHOCRATES - March 31st, 2011

Microsoft Learns the hard way to Lobby Congress

Microsoft was a rogue corporation.  A big, profitable, rogue corporation.  And it was in the government’s crosshairs.  With all of their going about their business.  Alone.  Without any federal assistance.  Who did these people think they were?  They didn’t spend a dime lobbying the federal government for anything.  As if they could just go on about their business competing in the free market.  Scoffing at the government’s business resources.  All those things they could bring to the table.  To make an unorganized market organized.  Make Microsoft better.  Make Microsoft’s products better.  All for a nominal fee.  Some campaign contributions.  A vacation junket or two.  A little monkey business with someone you’re not married to.  A Roman indulgence of intoxicating substances and flesh.  You know, lobbying stuff.  But no!  Not Microsoft.  Those holier than thou sons of bitches.  Who did they think they were?

Well, Microsoft went too far.  Pissed off the wrong people.  People with friends in Washington.  People with power.  And a justice department.  Empowered with antitrust legislation.  Big, nasty, legal teeth.  Their crime?  They gave away Internet Explorer free.  And that was unfair to their competitors.  But it was a sweet deal to the consumer.  None of them complained.  They were happy to get IE free.  It saved them money.  It was their competitors that were pissed.  Because they couldn’t sell something that Microsoft was giving away free.  So the Department of Justice (DOJ) sued Microsoft claiming they violated the Sherman Antitrust Act.  Which Congress passed in 1890 to protect consumers.  And here the DOJ was fighting a case.  And if the DOJ won, the consumer lost.  They would have to pay for IE or a web browser from one of Microsoft’s competitors.  Which just goes to prove that it is never a consumer that complains about ‘predatory’ pricing.  It’s always a competitor that can’t compete at the same price that runs to the DOJ crying for antitrust protection.

Microsoft learned a very important lesson.  When you sit on big piles of money you don’t dis the federal government.  You show them the proper respect and give them some of that money. For your own protection.  For if you don’t they will go after you.  Like they did with Microsoft.  Who is smarter now.  Today, Microsoft spends millions on lobbyists.  To pay tribute for the pleasure of being left alone to operate in the free market.

Money Corrupts, Big Piles of Money Corrupt Absolutely

Microsoft is not alone.  There are a lot of honest companies out there.  But, sadly, there are a lot that aren’t.  Especially if they have a friend in Washington.  Because Washington sits on great big piles of money courtesy of the tax payers.  And a select few spend that money.   Put these two together and it’s a recipe for corruption.  Because one person can skim a little off the top of a huge transaction that is all but impossible to see.  Unless you start living like a Rockefeller on a government salary, that is.

The Teapot Dome scandal was the biggest government scandal of its time.  It involved leases to oil reserves transferred from the Navy to the Department of the Interior.  These were strategic reserves for our navy in case we went to war.  Important to have.  Because you don’t want to run out of oil during a war.  Albert Fall was the Secretary of the Interior.  And it was his job to lease those oil reserves.  Which he did.  But they didn’t go to the low bidder.  They went to the one that made it most worth his while.  Ultimately it was all that ‘making it worth his while’ that did him in.  He became a very rich man.  Which was impossible on his salary.  So they caught him.

Congressmen profit as Shareholders in Crédit Mobilier

The Teapot Dome was a big scandal perpetrated by a few players.  The Crédit Mobilier scandal, on the other hand, had far greater tentacles.  And is a good example of how government partnering with business goes wrong.  It involved the Union Pacific Railroad.  A sham company they created called Crédit Mobilier.  And some 30 Congressmen. 

The railroad to the pacific was a risky proposition.  It would take a very long time to build.  It would go through some very difficult terrain and hostile Indian country.  And there were few shippers on the proposed road.  In other words, it would take a long time to earn any revenue on this line.  And it was possible that they would never complete it.  Or ship enough freight to operate it profitably.  So the government stepped in and partnered with the Union Pacific.  And the fraud began.

The trick was how to make this loser a winner.  Railroad profits weren’t the answer.  So how can a railroad company make a profit without running any trains?  Why, from construction, of course.  That’s where Crédit Mobilier came in.  They built the railroad.  Billed Union Pacific.  Who then billed the government.  And, surprise, surprise, construction costs went way over budget.  Because they were overbilling Union Pacific.  Who then overbilled the government.  But the government just kept on paying.  Why?  Because they had shares in the very profitable Crédit Mobilier.  You see, when you share in the obscene profits of a government contractor you have little incentive to see or stop the fraud.

Government Steps into the Mortgage Business and Gives us the Subprime Mortgage Crisis

For years the federal government implemented policies to increase home ownership.  In their models, this was the driver of all economic activity.  A lot of material and labor builds a house.  And a lot of material and labor builds the things that furnish a house.  Ergo, the more people who bought houses the greater the economic activity.  And that meant everyone.  Even the people who couldn’t qualify for a mortgage.  A lot of which were minorities.  So if a bank denied anyone a mortgage, it just reeked of racism.  So lenders had to find a way to make the unqualified qualified before the DOJ charged them with discrimination in lending.  So, in the mid 1990s, they figured out how to make the unqualified qualified.  Along with a little help from the government.

The subprime mortgage was the vehicle.  Adjustable Rate Mortgages (ARMS).  And No Income No Asset (NINA, aka, Ninja) loans.  Of course, these by themselves didn’t solve any problem.  Because no respectable lender would ever approve such risky mortgages.  This is where government came in.  Or, rather, the Government Sponsored Enterprise (GSE).  Better known to you and me as Fannie Mae and Freddie Mac.  Here’s how it worked.  The GSEs bought those risky loans from the lenders.  Then sold them to Wall Street.  Where investment bankers packaged them into Mortgage-Backed Securities (MBS) and Collateralized Debt Obligations (CDO).  High risk loans became low-risk, high-yield securities.  The risk was transferred from the bank to the taxpayer and then to the investor.  And back to the taxpayers when they had to pay for the bailout of the subprime mortgage crisis.

The enabler for this great financial crisis was the government.  First ‘encouraging’ banks to loan to the unqualified.  And then by their partnership with the GSEs.  Encouraging more and more risky behavior because they were getting a piece of the action.  So they turned a blind eye.  Even when some warned the committees responsible for their oversight.  They laughed.  Said they were just mean racists trying to deny fair and affordable housing to minorities.  And they insisted that these GSEs were financially strong and healthy.  Up until the world learned they weren’t.

Crony Capitalism can be Smart Government if it Saves the Environment

There’s one reason why government partners with business.  Corruption.  Crony capitalism.  Either an unscrupulous business trying to buy favors for personal gain.  Or an unscrupulous politician trying to sell favors for personal gain.  And good luck if you run an honest business.  Because the buying and selling of favors simply becomes paying tribute to be left alone.

Both sides are guilty of this.  Though the Left says it’s the Right that is in the pocket of the corporations.  Which is funny.  Because the Left is just as guilty.  But when they do it, it serves a higher purpose. So it’s smart government.  Such as when one of the world’s largest corporations, GE, doesn’t pay any income taxes.  By using some creative accounting practices.  But they’re very cozy with the current administration.  So they get a pass.  And they’re eager to cash in on all that green legislation.  To help them sell their green products.  You see, that’s good for the environment.  So it’s okay that they don’t pay income taxes.  And, more importantly, they have lobbyists.  They know how to play the game.  And they play it well.

But when the Right wants to cut the corporate income tax to stimulate the economy to create jobs, that’s just corporate welfare.  They’ll fight that every day of the week.  But if a corporation’s lobbyists treat them well, they’ll make the incandescent light bulb illegal.  So that corporation can sell more of their compact fluorescent lamps.  But that’s not crony capitalism.  That’s just smart government.  Because it saves the environment.

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Big Government, Fraud, Enemies and Wannabe Kings

Posted by PITHOCRATES - October 27th, 2010

Joe Biden Touts the Greatness of Big Government by Citing One of its Greatest Frauds

At a fundraising stop in Manhattan, Joe Biden said this (see VPOTUS Joe Biden: Dems Will “Keep The Senate And Win The House” by Celeste Katz in The Daily Politics):

“Every single great idea that has marked the 21st century, the 20th century and the 19th century has required government vision and government incentive,” he said. “In the middle of the Civil War you had a guy named Lincoln paying people $16,000 for every 40 miles of track they laid across the continental United States. … No private enterprise would have done that for another 35 years.”

Joe Biden ain’t the sharpest knife in the drawer.  Or he just thinks no one will know any better.  That we stopped our learning with our liberal public high school diploma.  Or our liberal university degrees.  Or he is just lying to us.

The Great Northern and the Milwaukee built their transcontinental railroads with private capital.  And without all of the corruption of the government funded line Biden talked about.  For a brief recounting of the great Crédit Mobilier Scandal, see LESSONS LEARNED #35: “Not only is ignorance bliss, but it’s a godsend to Big Government.” -Old Pithy on this same website.  The pertinent part of that post follows here:

Go West, Young Man

The transcontinental railroad was making poor progress during the Civil War.  Because it was starved for capital.  No one would invest.  Few doubted that they could build it.  Even if they could, few doubted it would ever make money.  The West was mostly raw, unsettled land.  There was nothing to transport.  Nothing to earn revenue.  It was a huge investment with a huge risk.  Investors are smart when it comes to money.  And they saw the transcontinental railroad as a one-way road that their money would go down and never return.  They needed something.  Big Government.

When it comes to throwing money away on a losing investment there is but one place to go.  Uncle Sam.  With the power to tax, the federal government has huge piles of money to play with.  So here’s what happened to build that railroad.  Union Pacific (UP) created a shell company called Crédit Mobilier (CM) to finance and build the railroad.  These companies were one and the same.  Without getting too complicated, UP sold their ‘worthless’ stock to CM at par.  Now, CM being a finance and construction company, a train never had to run over the road they were building to make a profit.  Union Pacific, on the other hand, needed trains running on that new track.  They were a transportation company.  They earned a profit from transporting goods on their trains.  This meant it could take years before UP could even hope to earn a profit on the new transcontinental railroad.  CM, on the other hand, could start earning a profit with the first invoice they submitted for construction.  And they did.

CM had strong revenues.  They submitted grossly inflated construction invoices to UP.  UP added a small construction management fee and submitted them to the government.  The government paid UP.  UP paid CM.  With revenues far exceeding their costs, CM made obscene profits.  CM stock took off into the stratosphere.  Some of which was sold to Congressmen at a deep discount who in turn realized obscene capital gains if they sold their stock.  Or collected obscene dividends if they held onto their stock.  In return for this sweetheart deal, they approved all cost overruns.  Killed any legislation unfavorable to UP/CM.  Provided lucrative incentives to build track on the worst ground in the most indirect path (to maximize the railroad’s mineral rights).  Provided little to no oversight on the construction of the road (some track was built on ice, with cheap steel and flimsy wooden trestles wherever possible).  When east met west the different railroads kept on building, parallel to each other to keep billing Uncle Sam.  All paid by the public treasury.  By the taxpayer.  The little guy.  Being raped and pillaged by their own representatives.

In an effort to praise Big Government, Biden picks one of the greatest frauds ever perpetrated by Big Government.  Like I said, he isn’t the sharpest knife in the drawer. 

Big Government and Property Rights – Mutually Exclusive in Venezuela

Meanwhile, in Venezuela, Big Government is on the move.  Hugo Chavez, Obama supporter and friend of Communist Fidel Castro, is showing what Big Government does best.  Abolish property rights.  They just stole an American company (see AP’s Chavez Orders Expropriation of Owens-Illinois).  Why?

The leftist leader criticized the company’s practices in the country, saying it had been “taking away the money of Venezuelans” and exploiting local people. Chavez did not detail his complaints about the company.

Exploited the local people?  They were probably the best jobs available in the local economy.  And if it wasn’t for Owens, there wouldn’t have been a plant to provide jobs for the local people in the first place.  The lesson here?  The state can’t create (despite what Chavez or Biden says), they can only take.  And when the state is above the law, you can keep on taking.  As Chavez said.

He said in his speech that more expropriations are planned.

Like Nixon Like Obama – They Check Their Enemies List and they Check it Twice Like Kings are Wont to Do

President Obama was speaking to a group of Latinos recently on Univision Radio.  He said:

I am president.  I’m not king.  I can’t do these things just by myself.  If Latinos sit out the election instead of saying we’re gonna punish our enemies and we’re gonna reward our friends who stand with us on issues that are important to us, if they don’t see that kind of upsurge in voting in this election, then I think it’s going to be harder, and that’s why I think it’s so important that people focus on voting on November 2nd.

Punish our enemies?  (Does Obama have an enemies list like Richard Nixon?)  Reward our friends?  Oh, he wishes he was king.  So he could do what Hugo Chavez can do.  Dispense with these inconvenient elections.  To have absolute power.  But, so far, America is still free.  So the best he can do is to grow Big Government.  To reward his friends.  And punish his enemies.  Like Congress did during the Crédit Mobilier scandal.  The kind of corruption that can put a tingle up Joe Biden’s leg.

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LESSONS LEARNED #35: “Not only is ignorance bliss, but it’s a godsend to Big Government.” -Old Pithy

Posted by PITHOCRATES - October 14th, 2010

If Jefferson Could Talk from the Grave He’d Be Hoarse from Shouting by Now

Politicians.  They’re all the same.  Well, most of them.  They enter politics for one thing.  For a career.  And what do people want from a career?  Great success.  Great prestige.  Great wealth.  Great power.  And a little revenge.  The pencil-neck, computer-nerd geek takes great pleasure in seeing a jock from his high school days emptying his trash while boarding his private jet. “Those wedgies and swirlies were a bitch but look at us now.”  It’s true.  The best revenge is living well.

But some people lack any talent or ability.  Some of them will never amount to anything.  They’ll never know the joy of looking down on people better than them with sweet condescension.  So these people go into politics.  Where people with no talent or ability can live well.  It’s a simple formula.  Sell your soul.  Whore yourself out.  Shake down businesses with taxation and regulation (and get even with all those people who have far more talent and ability than you ever had).  Collect tribute.  Consolidate power.  Hold those you serve in contempt.

Lord Acton wrote in 1887, “Power tends to corrupt, and absolute power corrupts absolutely.”  A century earlier, Thomas Jefferson fought tirelessly to prevent great money and federal power from conjoining.  The Old World capitals consolidated money and power.  And this concentrated the money and power into fewer and fewer hands.  Kings ruled by whim.  And oppressed their hapless subjects.  It’s a story as old as time.  And is still true today.  To the great chagrin of Jefferson.

Go West, Young Man

The transcontinental railroad was making poor progress during the Civil War.  Because it was starved for capital.  No one would invest.  Few doubted that they could build it.  Even if they could, few doubted it would ever make money.  The West was mostly raw, unsettled land.  There was nothing to transport.  Nothing to earn revenue.  It was a huge investment with a huge risk.  Investors are smart when it comes to money.  And they saw the transcontinental railroad as a one-way road that their money would go down and never return.  They needed something.  Big Government.

When it comes to throwing money away on a losing investment there is but one place to go.  Uncle Sam.  With the power to tax, the federal government has huge piles of money to play with.  So here’s what happened to build that railroad.  Union Pacific (UP) created a shell company called Crédit Mobilier (CM) to finance and build the railroad.  These companies were one and the same.  Without getting too complicated, UP sold their ‘worthless’ stock to CM at par.  Now, CM being a finance and construction company, a train never had to run over the road they were building to make a profit.  Union Pacific, on the other hand, needed trains running on that new track.  They were a transportation company.  They earned a profit from transporting goods on their trains.  This meant it could take years before UP could even hope to earn a profit on the new transcontinental railroad.  CM, on the other hand, could start earning a profit with the first invoice they submitted for construction.  And they did.

CM had strong revenues.  They submitted grossly inflated construction invoices to UP.  UP added a small construction management fee and submitted them to the government.  The government paid UP.  UP paid CM.  With revenues far exceeding their costs, CM made obscene profits.  CM stock took off into the stratosphere.  Some of which was sold to Congressmen at a deep discount who in turn realized obscene capital gains if they sold their stock.  Or collected obscene dividends if they held onto their stock.  In return for this sweetheart deal, they approved all cost overruns.  Killed any legislation unfavorable to UP/CM.  Provided lucrative incentives to build track on the worst ground in the most indirect path (to maximize the railroad’s mineral rights).  Provided little to no oversight on the construction of the road (some track was built on ice, with cheap steel and flimsy wooden trestles wherever possible).  When east met west the different railroads kept on building, parallel to each other to keep billing Uncle Sam.  All paid by the public treasury.  By the taxpayer.  The little guy.  Being raped and pillaged by their own representatives.

Affordable Housing for Those Who Vote Democrat

Politicians buy votes.  Pad the federal payroll.  Steal from the treasury.  Break the law.  Violate our trust.  You know, politician stuff.  Because of the inconvenience of elections, they can’t be too blatant about their rape and pillage.  So they do things that are in the best interest of the public.  Or so they say.  Like affordable housing.  You see, the Left buys the votes of the poor and minorities by throwing bones to them.  And there are a lot of minorities in the inner cities of the bluest of blue cities.  So they threw big bones to them.  Houses.

Despite their War on Poverty, the Left just can’t help these people.  The truth is, of course, that they don’t want to help them.  If they’re poor and dependent on the government, the Left can count on their vote.  If they escape poverty and don’t need Big Government to provide for them, these people are of no use to the Left.  Ergo, they never escape poverty.

Of course, the problem of remaining in abject poverty is that you can’t qualify for a mortgage.  Banks are funny that way.  They only loan money to people who can pay them back.  So they declined a lot of mortgages to these poor inner city minorities.  Well, this was just too good for Big Government to pass up.  A large group of minorities (i.e., a large Democrat voting bloc) being denied mortgages?  Why, that’s racism.  So they drafted a lot of legislation and unleashed their justice department with extreme prejudice.  The message?  Approve these loans.  Or face the consequences (revoking a bank’s charter, a federal lawsuit, a public demonstration headed by Jesse Jackson, Charlie Rangel, et al, etc.).  So they found creative ways to approve loans.  And they got a little help from Uncle Sam.

The Subprime Mortgage Crisis is a Lot Like the Crédit Mobilier Scandal

By a little I mean a lot.  Uncle Sam screwed the mortgage bankers by making them approve extremely risky loans.  So, to help the mortgage bankers, Uncle Sam screwed the American people.  They guaranteed those highly risky mortgages, thus transferring the risk from them to us, the taxpayer.  And to further mitigate the bankers’ risks, they purchased a lot of those highly risky mortgages to remove them from the banks’ balance sheets.  It’s called the secondary mortgage market.  And the primary players are none other than Fannie Mae and Freddie Mac, ground zero of the subprime mortgage crisis.

Once upon a time, a mortgage was one of the safest investments.  People saved up to pay a 20% down payment.  With their life savings invested, people paid their mortgage payment and they paid them on time.  And if you could afford a 20% down payment, mortgage bankers had a lot of confidence that you would be able to service your mortgage.  But in the day of 5%, 3% and 0% down, a person doesn’t have a whole lot to lose.  This makes the first few years of these mortgages especially risky.  The introduction of ‘no documentation’ mortgages meant people could lie about their income (or include overtime earnings).  Add to that the Adjustable Rate Mortgage (ARM) and the interest-only mortgage and you just made these especially risky mortgages even more risky.  Sure, these will get almost anyone into a home, but they get in by the skin of their teeth.  But if they lose their overtime due to a weakened economy, if their interest rate on their ARM resets at a higher rate or a balloon payment is due on their interest-only loan, guess what?  That stream of mortgage payments could very well stop.

Now that would be a BIG problem.  Because of what Freddie and Fannie did with those mortgages they bought.  They sliced them up and built creative investment vehicles.  Derivatives.  Mortgage backed securities called collateralized debt obligations.  Wall Street repackaged all these risky mortgages into highly profitable investments.  Everybody bought them.  Pension funds.  Trust funds.  In America.  And throughout the world.  Big gains with a low risk.  Or so it would seem.  You see, they never eliminated the risk.  They only transferred it to someone else.  And once people couldn’t pay their mortgage payments anymore, the house of cards came crashing down.  We call it the subprime mortgage crisis of 2008.  It caused a worldwide recession.  And cost the American taxpayer dearly.  Even those not born yet.

Yes We Can…Screw the American Taxpayer

The subprime mortgage crisis of 2008 is a government creation.  Their quest of affordable housing to buy votes put more and more people into houses they couldn’t afford.  They created legislation akin to extortion of the banking industry.  They used the Justice Department to apply the muscle for that extortion.  They had their friends in the media and the activists for racial equality to further pressure the banking industry.  Their lack of oversight of Fannie and Freddie (thank you Barney Frank and Chris Dodd) let them make extremely risky loans.  And their policies of buying extremely risky mortgages ultimately transferred all risk to the taxpayer.  Why?  Because like all good government scandals, the seekers of favors rewarded our representatives well for their complicity with sweetheart mortgage deals, vacation junkets, fat contributions to their campaign war chests, etc.  In other words, politics as usual.  But on a grand scale.

Why do they do it?  Because they can.  They count on you being ignorant of history.  And accepting every lie they tell you.  Because they hold you in contempt.  They look down on you with sweet condescension.  These pencil-neck geeks who could never amount to anything on their own merit or ability.  But some sold souls later and they have finally gotten even with those who were better than them.  And here they are.  Still living well.  Even during the worst recession since the Great Depression.

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LESSONS LEARNED #24: “You cannot lobby a politician unless he or she is for sale.” -Old Pithy

Posted by PITHOCRATES - July 29th, 2010

BUILDING A RAILROAD ain’t cheap.  It needs dump trucks of money.  Especially if it’s transcontinental.  And that’s what the Union Pacific and the Central Pacific were building.  Starting during the Civil War in 1863 (the year Vicksburg fell and Lee retreated from Gettysburg).  The Union Pacific was building west from Iowa.  And the Central pacific was building east from California. 

For the most part, Protestant, English-speaking Americans settled Texas.  Mexico had encouraged the American colonists to settle this region.  Because few Mexicans were moving north to do so.   The deal was that the colonists conduct official business in Spanish and convert to Catholicism.  They didn’t.  These and other issues soured relations between Mexico and the American Texans.  The Republic of Texas proclaimed their independence from Mexico.  America annexed Texas.  Mexico tried to get it back.  The Mexican-American War followed.  America won.  Texas became a state in 1845.  And that other Spanish/Mexican territory that America was especially interested in, California, became a state in 1850.  Hence the desire for a transcontinental railroad.

The U.S. government was very eager to connect the new state of California to the rest of America.  So they acted aggressively.  They would provide the dump trucks of money.  As America expanded, the U.S. government became the owner of more and more public land.  The sale of new lands provided a large amount of revenue for the federal government.  (Other forms of taxation (income taxes, excise taxes, etc.) grew as the amount of public lands to sell decreased.)  Land is valuable.  So they would grant the railroad companies some 44 million acres of land (i.e., land grants) for their use.  The railroad companies, then, would sell the land to raise the capital to build their railroads.  The government also provided some $60 million in federal loans.

But it didn’t end there.  The federal government came up with incentives to speed things up.  They based the amount of loans upon the miles of track laid.  The more difficult the ground, the more cash.  So, what you got from these incentives was the wrong incentive.  To lay as much track as possible on the most difficult ground they could find.  And then there were mineral rights.  The railroad would own the property they built on.  And any minerals located underneath.  So the tracks wandered and meandered to maximize these benefits.  And speed was key.  Not longevity.  Wherever possible they used wood instead of masonry.  The used the cheapest iron for track.  They even laid track on ice.   (They had to rebuild large chunks of the line before any trains would roll.)  And when the Union Pacific and Central Pacific met, they kept building, parallel to each other.  To lay more miles of track.  And get more cash from the government.

PAR FOR THE COURSE.  When government gets involved they can really mess things up.  But it gets worse.  Not only was government throwing dump trucks of American money down the toilet, they were also profiting from this hemorrhaging of public money.  As shareholders in Crédit Mobilier.

Thomas Durant of Union Pacific concocted the Crédit Mobilier Scandal.  As part of the government requirements to build the transcontinental railroad, Union Pacific had to sell stock at $100 per share.  Problem was, few believed the railroad could be built.  So there were few takers to buy the stock at $100 per share.  So he created Crédit Mobilier to buy that stock.  Once they did, they then resold the stock on the open market at prevailing market prices.  Which were well below $100 per share.  Union Pacific met the government requirements thanks to the willingness of Crédit Mobilier to buy their stock.  The only thing was, both companies had the same stockholders.  Crédit Mobilier was a sham company.  Union Pacific WAS Crédit Mobilier.  And it gets worse.

Union Pacific chose Crédit Mobilier to build their railroad.  Crédit Mobilier submitted highly inflated bills to Union Pacific who promptly paid them.  They then submitted the bills to the federal government (plus a small administration fee) for reimbursement.  Which the federal government promptly paid.  Crédit Mobilier proved to be highly profitable.  This pleased their shareholders.  Which included members of Congress who approved the overbillings as wells as additional funding for cost overruns.  No doubt Union Pacific/Crédit Mobilier had very good friends in Washington.  Including members of the Grant administration.  Until the party ended.  The press exposed the scandal during the 1872 presidential campaign.  Outraged, the federal government conducted an investigation.  But when you investigate yourself for wrongdoing you can guess the outcome.  Oh, there were some slaps on the wrists, but government came out relatively unscathed.  But the public money was gone.  As is usually the case with political graft.  Politicians get rich while the public pays the bill.

(Incidentally, the investigation did not implicate Ulysses Grant.  However, because members of his administration were implicated, this scandal tarnished his presidency.  Grant, though, was not corrupt.  He was a great general.  But not a shrewd politician.  Where there was a code of honor in the military, he found no such code in politics.  Friends used his political naivety for personal profit.  If you read Grant’s personal memoirs you can get a sense of Grant’s character.  Many consider his memoirs among the finest ever written.  He was honest and humble.  A man of integrity.  An expert horseman, he was reduced to riding in a horse and buggy in his later years.  Once, while president, he was stopped for speeding through the streets of Washington.  When the young policeman saw who he had pulled over, he apologized profusely to the president and let him go.  Grant told the young man to write him the ticket.  Because it was his job.  And the right thing to do.  For no man, even the president, was above the law.)

THE FINANCIAL WORLD fell apart in 2007.  And this happened because someone changed the definition of the American Dream from individual liberty to owning a house.  Even if you couldn’t afford to buy one.  Even if you couldn’t qualify for a mortgage.  Even, if you should get a mortgage, you had no chance in hell of making your payments.

Home ownership would be the key to American prosperity.  Per the American government.  Build homes and grow the economy.   That was the official mantra.  So Washington designed American policy accordingly.  Lenders came up with clever financing schemes to put ever more people into new homes.  And they were clever.  But left out were the poorest of the poor.  Even a small down payment on the most modest of homes was out of their range.  Proponents of these poor said this was discriminatory.  Many of the inner city poor in the biggest of cities were minority.  People cried racism in mortgage lending.  Government heard.  They pressured lenders to lend to these poor people.  Or else.  Lenders were reluctant.  With no money for down payments and questionable employment to service these mortgages, they saw great financial risk.  So the government said not to worry.  We’ll take that risk.  Fannie Mae and Freddie Mac would guarantee certain ‘risky’ loans as long as they met minimum criteria.  And they would also buy risky mortgages and get them off their books.  Well, with no risk, the lenders would lend to anyone.  They made NINJA loans (loans to people with No Income, No Job, and no Assets).  And why not?  If any loan was likely to default it was a NINJA loan.  But if Freddie or Fannie bought before the default, what did a lender care?  And even they defaulted before, Fannie and Freddie guaranteed the loan.  How could a lender lose?

Once upon a time, there was no safer loan than a home mortgage.  Why?  Because it would take someone’s lifesavings to pay for the down payment (20% of the home price in the common conventional mortgage).  And people lived in these houses.  In other words, these new home owners had a vested interested to service those mortgages.  Someone who doesn’t put up that 20% down payment with their own money, though, has less incentive to service that mortgage.  They can walk away with little financial loss.

ARE YOU GETTING the picture?  With this easy lending there was a housing boom.  Then a bubble.  With such easy money, housing demand went up.  As did prices.  So housing values soared.  Some poor people were buying these homes with creative financing (used to make the unqualified qualify for a mortgage).  We call these subprime mortgages.  They include Adjustable Rate Mortgages (ARMs).  These have adjustable interest rates.  This removes the risk of inflation.  So they have lower interest rates than fixed-rate mortgages.  If there is inflation (and interest rates go up), they adjust the interest rate on the mortgage up.  Other clever financing included interest only mortgages.  These include a balloon payment at the end of a set term of the full principal.  These and other clever instruments put people into houses who could only afford the smallest of monthly payments.  The idea was that they would refinance after an ‘introductory’ period.  And it would work as long as interest rates did not go up.  But they went up.  And house prices fell.  The bubble burst.  Mortgages went underwater (people owed more than the houses were worth).  Some people struggled to make their payments and simply couldn’t.  Others with little of their own money invested simply walked away.  The subprime industry imploded.  So what happened, then, to all those subprime mortgages?

Fannie and Freddie bought these risky mortgages.  And securitized them.  They chopped and diced them and created investment devices called Collateralized Debt Obligations (CDOs).  These are fancy bonds backed by those ‘safe’ home mortgages.  Especially safe with those Fannie and Freddie guarantees.  They were as safe as government bonds but more profitable.  As long as people kept making their mortgage payments.

But risk is a funny thing.  You can manage it.  But you can’t get rid of it.  Interest rates went up.  The ARMs reset their interest rates.  People defaulted.  The value of the subprime mortgages that backed those CDOs collapsed, making the value of the CDOs collapse.  And everyone who bought those CDOs took a hit.  Investors around the globe shared those losses. 

Those subprime loans were very risky.  Lenders would not make the loans unless someone else took that risk.  The government took that risk in the guise of Fannie and Freddie.  Who passed on that risk to the investors buying what they thought were safe investments.  Who saw large chunks of their investment portfolios go ‘puff’ into thin air.

SO WHAT ARE Freddie and Fannie exactly?  They are government-sponsored enterprises (GSEs).  They key word here is government.  Once again, you put huge piles of money and government together and the results are predictable.  In an effort to extend the ‘American Dream’ to as many Americans as possible, the federal oversight body for Freddie and Fannie lowered the minimum criteria for making those risky loans.  Even excluding an applicant’s credit worthiness from the application process (so called ‘no-doc’ loans were loans made without any documentation to prove the credit worthiness of the applicant.)  To encourage further reckless lending.  Ultimately causing the worst financial crisis since the Great Depression. 

And, of course, members of Congress did well during the good times of the subprime boom.  They got large campaign contributions.  Some sweetheart mortgagee deals.  A grateful voting bloc.  And other largess from the profitable subprime industry.  Government did well.  Just as they did during the Crédit Mobilier Scandal.  And the American taxpayer gets to pay the bill.  Some things never change.  Government created both of these scandals.  As government is wont to do whenever around huge piles of money.  For when it comes to stealing from the government, someone in the government has to let it happen.  For it takes a nod and a wink from someone in power to let such massive fraud to take place. 

www.PITHOCRATES.com

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