Keynesian Governments play with Interest Rates giving us Asset Bubbles and Crises

Posted by PITHOCRATES - September 5th, 2011

Subprime Mortgage Lending – Qualifying the Unqualified

Housing has led the economy since World War II.  Home ownership.  The magical elixir.  So the government policy has been to put as many people into homes as possible.

They pushed mortgage lenders to approve mortgages.  And threatened them when they didn’t.  Especially to minorities in depressed inner cities.  Worse, activists were protesting.  Accusing them of redlining.  All this pressure forced the lenders to come up with ways to qualify the unqualified.  And the vehicle of choice was the subprime mortgage.

Adjustable Rate Mortgages (ARMs).  Interest only mortgagesNo-documentation mortgages.  Etc.  These were putting people into houses like never before.  Even if they couldn’t afford a house.  They got in at low interest rates.  Kept low by easy monetary policy.  To get as many people approved for these dirt-cheap mortgages as possible.

Bad Government Policy caused a Housing Boom, a Housing Bubble and a Crisis

But that’s not all the government did.  Via Fannie Mae and Freddie Mac, they guaranteed these subprime mortgages.  And bought them from the mortgage lenders.  Removing these highly risky mortgages from their balance sheets.  Removing all risk from the lender.  And passing it on to the taxpayer.  And as you would guess such a policy would do, the lenders approved more of these risky subprime mortgages.  And why not?  They made money.  And were insulated from all risk. 

Then Fannie and Freddie chopped and diced these risky subprime mortgages.  Created mortgage-backed securities (MBS).  And collateralized debt obligations (CDO).  And sold them on Wall Street.  They were high yield.  But super safe.  Because they were backed by historically the safest of all debt.  Mortgages.  Only these weren’t safe mortgages.  They were very risky subprime mortgages.  And why were they so risky?  Because when interest rates go up, so do their monthly payments.  Likely more than the home owner can pay.  And when those interest-only mortgages had to be refinanced, the new higher interest rates made the new mortgages more costly than the old.  More than a subprime borrower could afford.  Which meant one thing.  Default.

So all this bad government policy (to put as many people into homes as possible) caused a housing boom.  And a housing bubble.  The economy was overheating.  So the Federal Reserve tapped the monetary brakes.  By raising interest rates.  And all hell broke loose.

Government enabled Risky Subprime Mortgage Lending

The government’s housing policy gave us the subprime mortgage crisis.  And spread this contagion around the globe.  Thanks to Fannie and Freddie.  Enabling all that bad mortgage lending.  Giving us the Great Recession.  That appears more depression-like than recession.  Now the go-to government policy of boosting economic activity won’t work.  Because the housing market is in shambles.  And it will get worse before it gets better (see Uncle Sam is a reluctant landlord of foreclosed homes by Lorraine Woellert and Clea Benson, Bloomberg Businessweek, posted 9/5/2011 on MSNBC).

For sale or rent by distressed owner: 248,000 homes. That’s how many residential properties the U.S. government now has in its possession, the result of record numbers of people defaulting on government-backed mortgages. Washington is sitting on nearly a third of the nation’s 800,000 repossessed houses, making the U.S. taxpayer the largest owner of foreclosed properties. With even more homes moving toward default, Fannie Mae, Freddie Mac and the Federal Housing Administration are looking for a way to unload them without swamping the already depressed real estate market.

The U.S. taxpayer is the largest owner of foreclosed properties.  Because government enabled risky subprime mortgage lending.  They guaranteed or bought risky mortgages.  So risky that no mortgage lender would have approved them if they had to carry the risk on their own balance sheets.  Which makes the government incompetent.  Or devious.

The government caused this problem.  By putting as many people as possible into homes.  Whether they could afford it or not.  And now they have a big problem on their hands.  Or, rather, the taxpayers do.  For government’s problem is ultimately the taxpayers’ problem.  It is our money after all that they are playing with.

Since the 2008 financial collapse, the government has spent billions of dollars trying to extricate borrowers from high-cost loans, aid delinquent homeowners and stabilize neighborhoods. The results have been disappointing. The Obama Administration’s signature loan-modification program has helped about 657,000 homeowners — far short of its goal of 3 to 4 million. The program was a victim of its complexity and its inability to cope with overwhelming demand.

Yes, they’re good at creating BIG problems.  But not very good at fixing them.  To put it mildly.  And yet we keep turning to government for help.  Go figure.

Selling High-Risk Securities Masquerading as Safe High-Yield Investments 

And it’s not only the U.S that made a mess of their mortgage market.  Europe has her own subprime problems.  On top of their sovereign debt crisis.  As if they didn’t have enough to worry about already (see Europe banks slide to 29-month low on multiple headwinds by Simon Jessop, Reuters, posted 9/5/2011 on Yahoo! Finance).

European bank shares slid to a 29-month low on Monday, leading the broader market down on fresh sub-prime mortgage woes, fears of recession and yet more evidence of political disunity that could hamper efforts to solve the region’s debt crisis…

“The chances of a near-term recovery remain slim as euro zone debt concerns, structural reform and a lawsuit for allegedly mis-selling mortgage debt all weigh heavy on the sector,” Manoj Ladwa, senior trader at ETX Capital said.

Subprime mortgage woes.  And a debt crisis.  All caused by activist Keynesian governments.  Playing with interest rates.  To stimulate the economy with an artificial demand.  Which always ends the same way.  Asset bubbles.  And crises.  In Europe.  The U.S.  And everywhere where activist governments think they can outsmart the free market.

Royal Bank of Scotland…

… is among the worst-placed of European lenders facing a multi-billion-dollar U.S. regulatory lawsuit accusing them of misrepresenting the checks they made on mortgages before securitising them.

So Europe, too, has been dabbling in mortgage-backed securities (MBS).  And collateralized debt obligations (CDO).  Doesn’t look like things ended any better for the Europeans.  They sold high-risk securities masquerading as safe high-yield investments.  Because of those ‘safe’ mortgages underlying these investments.  That were anything but safe.

“The banks’ cost of funding goes up in tandem with the country’s cost of funding, and eventually they get denied access to the credit market.”

That relationship was once again thrown into focus on Monday as both Italian and Spanish 10-year yields rose to near 1-month highs. Peripheral euro zone sovereign CDS yields also rose, with French yields at a record high.

The financial crisis is not only hurting investors, it’s hurting countries.  By raising borrowing costs.  Which is a BIG problem for countries that like to spend beyond their means.  Because they have to borrow to pay today’s bills.  As well as borrow to pay yesterday’s bills. 

As bonds come due they have to borrow money to redeem them.  And all this new borrowing is at higher and higher interest rates.  So high that governments even have to borrow to pay the interest on the money they’ve borrowed.  And the interest on their debt becomes an ever growing line item on their budgets.  Which makes it harder to pay retirement benefits.  Health care benefits.  Education benefits (i.e., free college tuition).  Etc.  Eventually requiring budget cuts.  And austerity.  Which the people often respond to with riots.

Adding to growing concern over a return to recession in the developed world, data showed euro zone services sector growth eased for the fifth consecutive month in August.

Recent data showed a world economy growing at “near stall speed,” analysts at Societe Generale (Paris: FR0000130809 – news) said in a note, although they did not believe the world would return to recession as it needed a trigger, “which we believe will remain absent.”

“Taming burgeoning public debts on both sides of the Atlantic (Stuttgart: A0J3C9 – news) will take time and we forecast a prolonged period of low growth for both the US and Europe,” they add.

All this government spending is paid for (in part) with high taxes.  As the borrowing costs grow governments turn to raising tax rates.  Which puts the brakes on economic activity.  Which, in turn, reduces the amount of tax dollars collected by the government.  Making a bad problem worse.

You Never Want a Serious Crisis to go to Waste

This is Keynesian economics.  Keep interest rates low.  Depreciate your currency.  And keep on spending.  Their rationale is that governments can do anything they want.  For it’s their fiat money.  They can always print more.  And the resulting inflation will make yesterday’s debt easier to pay tomorrow.  We call it screwing our creditors.  I mean, monetizing the debt.

But debt has consequences.  The European sovereign debt crisis is a crisis because they can’t borrow any more money to continue their excessive government spending.  Standard and Poor’s just downgraded U.S. bonds because of excessive debt.  The tax and spend Keynesians say poppycock.  Keep spending.  And raise taxes.

But the responsible people say, “Wait a minute.”  For they see these crises as debt crises.  And they think ‘what if’ there wasn’t excessive debt.  Would there be a crisis then?  And the answer is, of course, no.  So they understand that too much debt is a bad thing.  And if it’s a bad thing, adding more of it will only make it more of a bad thing.  And unless you think a crisis is a good thing, you don’t want more of one.

But if you think a crisis is a good thing.  That “you never want a serious crisis to go to waste.”  Then you probably want more of a bad thing.  And you’re probably a Big Government Keynesian liberal Democrat.  Using that crisis to advance an agenda you couldn’t through the normal legislative process.

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Keynesian Economics gave us the Subprime Mortgage Crisis, but the Government blames S&P

Posted by PITHOCRATES - August 20th, 2011

We call it the Subprime Mortgage Crisis, not the Mortgage-Backed Securities Crisis 

When responsible for a problem you can accept blame.  Or you can blame the messenger.  Or better yet, you can attack the messenger (see Criticism of Standard & Poor’s over U.S. credit rating compounds its troubles in Washington by Jim Puzzanghera, Los Angeles Times, posted 8/18/2011 on WGNtv).

The backlash against Standard & Poor’s for downgrading the U.S. credit rating adds to the company’s problems in the nation’s capital, where it faces investigations for its role in fueling the financial crisis with faulty assessments of mortgage-backed securities.

S&P and the other credit-rating firms are widely believed to have enabled the near market meltdown by giving AAA ratings to many securities backed by risky subprime mortgages.

So the credit-rating firms enabled the subprime mortgage crisis.  Interesting.  Because the bad subprime mortgages already existed by the time those mortgage-backed securities came to them for review.  And it was those preexisting mortgages that people defaulted on and caused the near market meltdown.  So I don’t think you can blame this all on S&P.  And remember, we call it the subprime mortgage crisis.  Not the mortgage-backed securities crisis.  Ergo, the cause was the subprime mortgages.  And S&P didn’t write those mortgages.

Subprime Mortgages:  Creative Financing to Qualify the Unqualified

Once upon a time you saved up 20% for the down payment on a new house.  Then you went to a savings and loan to get a mortgage.  Or a bank.  In those days, people saved their money.  They deposited it into their savings accounts and earned 3% interest.  The banks and savings and loans then loaned it at 6%.  And the bankers were on the golf course by 3 PM.  Hence the joke about the 3-6-3 industry.  It wasn’t very sexy.  But it was reliable.  Few defaulted.  Because a new home owner had a lot to lose from day 1 thanks to that 20% down payment.

But there was a problem with this.  Home ownership was restricted to only those people who could afford to buy houses.  Those who could put down a 20% down payment.  And who had a job with sufficient income to qualify for a mortgage.  Well, you can see the problem with this.  What about the poor people who couldn’t come up with the 20% down payment nor had a job with sufficient income to qualify for a mortgage?

After World War II home ownership became a national goal.  Home ownership equaled economic growth.  It became the American dream (no longer was it the liberty that the Founding Fathers gave us).  As the years went by some saw that the poor were being left out.  Included in that long list of those who could not qualify for a mortgage were a lot of blacks.  Activists claimed that banks were redlining.  Disapproving a larger percentage of black applicants than white.  There were protests.  Investigations.  Banks had to figure out a way to qualify the unqualified and fast.  To prove that they weren’t being racist.

And the subprime mortgage was born.   Adjustable Interest Rate (ARM).  No documentation.  Zero down.  Interest only.  All kinds of creative financing to qualify the unqualified for mortgages.  And it was a hit.  Poor people liked them.  But banks were still reluctant to issue many of them.  Because they were far more risky than a conventional mortgage.  And it was dangerous to have too many of them on their books.  But then federal government solved that problem.

Fannie and Freddie enabled the Mortgage Lenders to Approve Risky Mortgages

Enter Fannie Mae and Freddie MacGovernment Sponsored Enterprises.  They would buy (or guarantee) those risky mortgages from the banks.  The banks breathed a huge sigh of relief.  Then started selling the crap out of subprime mortgages.  Because they were exposed to no risk thanks to Fannie and Freddie.  And the housing market took off.  The government urged Fannie and Freddie to lower their standards and buy even more risky mortgages.  To keep the housing boom alive.  And they did.  Not only were home owners snatching them up.  But speculators, too.  And the term ‘house flipping‘ entered the American lexicon.

Fannie and Freddie then repackaged the subprime mortgages they bought and resold them.  Into so-called ‘safe’ investments.  Thanks to being tied to a mortgage, historically one of the safest investments in America.  Well, they were when people were putting 20% down, at least.  So these mortgage back securities were created.  Reviewed by the credit-rating agencies.  And sold to investors, mutual funds, pension funds, 401(k)s, etc.  Who bought them with abandon.  Because they were rated AAA.  Long after those risky mortgages were written.

They were time bombs just waiting to go off.  Not because of the credit rating agencies.  But because of Fannie and Freddie.  Who enabled the mortgage lenders to approve risky mortgages with no risk to themselves.  And a long standing government policy to put as many people as possible into homes.  Because economic growth all came from home ownership.  And then it happened.  There was a housing bubble thanks to easy monetary policy.  The economy was heating up.  Worried about inflation, the Fed tapped the brakes.  Raised interest rates.  And all of those ARMs reset at higher rates.  People couldn’t afford the new higher monthly payments.  The higher interest rates left the speculators with lots of houses.  That they bought with no money down.  That no one was buying.  And, well, the rest you know.

The Greatest Threat to American Fiscal Solvency is the Government’s growing Health Care Tab 

So S&P didn’t cause the subprime mortgage crisis.  Whether they gave those securities AAA ratings or not those subprime mortgage holders were going to default anyway.  The origins of the subprime mortgage crisis reach a lot further back than S&P.  But their credibility did take a hit.  So they’re trying to be a little more cautious these days.  And if anyone paid attention during the debt ceiling debates, they know the country’s long-term finances are in some serious trouble.

Jeffrey Miron wrote a paper about the health of the U.S. states.  He starts in the introduction by going over the state of affairs in the federal government (see The Fiscal Health of U.S. States by Jeffrey Miron posted 8/15/2011 on Mercatus Center).

As the worldwide financial crisis has eased, economic policy debates have shifted from the short-term issue of stabilization to the log-term issue of fiscal imbalance.  Current projections suggests that the U.S. federal government faces an exploding ratio of debt to GDP, driven in large part by spending on health insurance1.  If this trend continues, the United States will soon find itself unable to roll over its debt and be force to default, generating a fiscal crisis.

————————————————————

1  U.S. Congressional Budget Office, “CBO’s 2011 Long-Term Budget Outlook” (Washington, DC: CBO, June 2011)

Perhaps this is why S&P downgraded U.S. debt.  Because that debt ceiling deal did nothing to address the greatest threat to American fiscal solvency.  The government’s growing health care tab.  The nation indeed may be seeing some difficult times.  As will the states.

This paper offers five conclusions. First, state government finances are not on a stable path; if spending patterns continue to follow those of recent decades, the ratio of state debt to output will increase without bound. Second, the key driver of increasing state and local expenditures is health-care costs, especially Medicaid and subsidies for health-insurance exchanges under the Patient Protection and Affordable Care Act of 2009. Third, states have large implicit debts for unfunded pension liabilities, making their net debt positions substantially worse than official debt statistics indicate. Fourth, if spending trends continue and tax revenues remain near their historical levels relative to output, most states will reach dangerous ratios of debt to GDP within 20 to 30 years. Fifth, states differ in their degrees of fiscal imbalance, but the overriding fact is that all states face fiscal meltdown in the foreseeable future.

Not a pretty picture.  This whole European Socialism model is pushing both the states and the country to default.  Like it is currently pushing European nations toward default in the Eurozone.  Whose financial crisis is worst than America’s.  So far.

Keynesian Economics stimulated the Housing Market into the Granddaddy of all Housing Bubbles 

Social engineering.  Tax and spend liberalism.  Keynesian economics.   These are what gave us the subprime mortgage crisis.  Putting people into houses who couldn’t afford them.  And keeping interest rates artificially low to stimulate the housing market into the granddaddy of all housing bubbles.  The subprime mortgage crisis.  And more of the same will only push us further down the Eurozone road.  Sadly, a road often taken throughout history.  As once great nations fell, littering this road.  The Road to Serfdom.

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The Anatomy of a Subprime Mortgage Crisis

Posted by PITHOCRATES - October 17th, 2010

Old Time Politics – Buying Votes

There’s a lot of lying going on about the subprime mortgage crisis.  How it happened.  Who was responsible for it.  Was it the banks and their predatory lending?  That’s who Barney Frank blames.  Well, them and Republicans.  Or was it some more of that irrational exuberance that led to a real estate bubble?  It created a dot-com bubble in the 1990s.  Which in turn caused a recession.  Was it just a little history repeating itself?  Perhaps they both played a part.  But if they did, they were minor supporting roles.  They weren’t the star of the crisis.  For neither could have done anything had it not been for their enabler.

The Boston Globe’s Donovan Slack writes about one of the enablers backpedaling on his previous rosy statements about the two companies at ground zero of the crisis (see Stance on Fannie and Freddie dogs Frank on boston.com).  Fannie Mae.  And Freddie Mac.  Frank is running for reelection.  And his words are coming back to haunt him.

America is a center-right nation.  To counter that, the Left courts a coalition of special interests and single-issue voters.  Federal workers, teachers, unions, gays & lesbians, pro-choice feminists, environmentalists, socialists, minorities, etc.  Each taken by themselves is a very small percentage of the voting population.  But taken together it’s a sizeable percentage.  Then add in one more very important Democrat constituency.  The poor.  Now with all of these firmly in the Democrat’s camp, it’s just a matter of getting enough of the moderate and independent vote to win an election.  Of course, this is a moot point if they DON’T lock in the Democrat base.  And they do this by giving away as much free stuff and favorable legislation as possible. 

Give Me Your Tired, Your Poor, Your Huddled Masses Yearning for a House They Can’t Afford

The key to locking in the base is, of course, the poor.  There are a lot of them.  So the Left courts them.  Engages in class warfare.  They paint the Republicans as rich fat-cats who want to take their welfare, social security, food stamps, etc., away from them.  That they want to keep them in slums or throw them onto the street.  In contrast, they, the Democrats, want to provide for them.  To help them.  And they give them a lot of things.  To earn their gratitude.  And their votes at the election booth.  And the grandest of all the things given to them?  Affordable housing.

Poor people don’t have a lot of money.  That’s pretty straight forward but it needs to be said.  Because people who don’t have a lot of money can’t afford to buy a house.  Again, that’s pretty straight forward.  But it needs to be said.  Now, when these people apply for a mortgage and get denied, why do you think they got denied?  Here’s a hint.  Re-read this paragraph.  They get denied because they don’t have a lot of money.  You see, if you don’t have a lot of money, you can’t buy expensive things.  Again, straight forward.  But it needs to be said.  Again.  And often.

Now, what do you think a politician thinks the reason was for these poor people getting their mortgage applications denied?  Red-lining.  Racism.  Classism.  Unfairism.  (Yeah, that isn’t a word.  But it works.)  A large percentage of those denied mortgages are from the inner city poor.  And because of previous white-flight, that inner-city poor also happens to be primarily minority.  Hence the charges of racism.  And that’s just gold to a political party who needs poor minorities to vote for them.

The Siren Song of Affordable Housing

Now Barney Frank is running for reelection.  His Republican challenger is using Frank’s own words in his campaign.   And they’re causing some damage.  For Frank sat on the House’s Financial Services Committee (the oversight committee for Fannie Mae and Freddie Mac) throughout the time the crisis built.  And now he’s answering some very uncomfortable questions (this and all quotes are from Stance on Fannie and Freddie dogs Frank).

Frank, in his most detailed explanation to date about his actions, said in an interview he missed the warning signs because he was wearing ideological blinders. He said he had worried that Republican lawmakers and the Bush administration were going after Fannie and Freddie for their own ideological reasons and would curtail the lenders’ mission of providing affordable housing.

Ideology trumped responsibility.  The Left cries foul when the Right doesn’t reach across the aisle, but the Left never reaches out when they have power.  It’s us against them.  Pure partisanship.  Even when there’s great danger brewing.  It’s their interests first.  Then the country’s.  So he protected Freddie and Fannie.  And enabled them to cause greater harm.

Freddie and Fannie are in the secondary mortgage market.  They don’t write mortgages.  They guarantee them (so banks are more willing to take risks with less credit-worthy people).  And they buy these risky mortgages from the banks.  This further reduces a bank’s risk in approving very risky loans to people who are not credit-worthy.  Which is what the Democrats want.  More affordable housing for people who can’t afford to buy houses.  Frank’s committee sets the rules Freddie and Fannie must follow to keep them from approving mortgages that are crazy-stupid.  But that’s exactly what they encouraged.  Subprime loans.  Adjustable Rate Mortgages (ARMs).  Interest only mortgages.  No documentation approvals.  Any bank that didn’t have enough of these mortgages on their books (i.e., risky loans to poor people who couldn’t afford to buy houses) was in trouble.  The federal government would investigate them for red-lining, racism, classism, etc.

The more mortgages Freddie and Fannie bought, the more cash banks had to make more risky loans.  They then dumped these risky loans onto Wall Street.  You see, before the day of subprime loans, ARMs, interest only mortgages and no documentation approvals, mortgages were very safe loans.  But these subprime loans weren’t.  But they looked safe when Wall Street sold them.  I mean, buyers didn’t see the mortgage applications.  They had no idea what a credit risk these people were.  They just knew mortgages were traditionally safe investments.  So they just bought them.  And Freddie and Fannie made it all possible.

Known as government-sponsored enterprises, they didn’t provide mortgages themselves, but rather bought loans from banks and mortgage brokers, freeing up cash so the lenders could make more loans. Fannie and Freddie held or bundled the loans and sold them to investors as mortgage-backed securities.

Investors bought these very ‘profitable’ securities.  This demand just fueled the crisis in waiting.  Because Freddie and Fannie could dump these on Wall Street, they wrote more and more risky loans.  This made everyone happy.  Everyone was making money.  And more people who couldn’t afford to buy houses were buying houses.  And this was, after all, Freddie and Fannie’s mission.  Affordable housing.

In an effort to increase homeownership, the Clinton administration in the late 1990s and the Bush administration in the 2000s pushed Fannie and Freddie to meet growing quotas for buying affordable home loans. Those pushes, combined with a drive for more profits at the enterprises, drove Fannie and Freddie to take on more risk and more debt. They backed subprime and other risky loans, including mortgages for borrowers without proof of steady income.

Even the Republicans got on the band wagon.  New homes sales drive the economy (because of the stuff people have to buy to put into those houses that they can’t afford).  And you make points with the poor and the minorities.  There was just no down side in affordable housing.  Or was there?

But the director of the federal office responsible for overseeing Fannie and Freddie, Armando Falcon, began noticing their expanding portfolios and increasing reliance on risky investments. In early 2003, Falcon warned Congress in a 118-page report of the companies’ potential for a catastrophic failure that could jeopardize the economy.

Okay.  Five years before the crash someone was taking notice.  And he warned Congress.  Thank god someone was looking out for America’s best interests.

But Frank and other Democrats still opposed tighter regulation, Frank most notably in his public statements saying there was nothing wrong with Fannie and Freddie. He and other House Democrats also sent a letter to President George W. Bush in June 2004, saying the proposed crackdown could “weaken affordable housing performance . . . by emphasizing only safety and soundness.’’

Frank and the Democrats were saying that it was more important to put people who couldn’t afford houses into houses than it was to provide oversight.

So he initially supported a Republican measure in 2005 that would have imposed stricter standards on the lenders. But he voted against it in the full chamber because it did not include funding for affordable housing, he said. The bill passed the House.

Frank came around.  He supported a Republican measure to provide stricter oversight.  But he changed his mind.  Once again, affordable housing was more important than the oversight he was supposed to provide.  Then, in the summer of 2008, Treasury Secretary Henry Paulson warned Frank again.  Now Frank chaired the House’s Financial Services Committee.  Now, more than ever, it was his responsibility to reign in Freddie and Fannie.  To provide the oversight that was his committee’s responsibility.  But he still didn’t.  Like Nero, he fiddled as the crisis burned out of control.

In July 2008, then-Treasury Secretary Henry Paulson called Frank and told him the government would need to spend “billions of taxpayer dollars to backstop the institutions from catastrophic failure,’’ according to Paulson’s recent book. Frank, despite that conversation, appeared on national television two days later and said the companies were “fundamentally sound, not in danger of going under.’’

A few months later, Freddie and Fannie would cause the worst recession since the Great Depression.  On Frank’s watch.  And he kept denying that there was any problem until the very end.

Lots of Blame to Go Around – On the Left Side of the Aisle

Barney Frank is not the sole cause of the subprime mortgage crisis.  He was just one of the leading players.  Ultimately, it was an ideology.  Affordable housing.  Putting people into houses who couldn’t afford to buy houses.  This is what caused the worst recession since the Great Depression.  And, yes, the Bush administration did partake in the affordable housing mania.  But if you want to assign real responsibility, ask yourself this question.  Which party do you think of when it comes to affordable housing for the poor and minorities?

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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.

www.PITHOCRATES.com

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