The Left still attacks Free Market Capitalism and the Invisible Hand despite the Left’s Record of Economic Failure

Posted by PITHOCRATES - April 14th, 2012

Week in Review

No matter how many times their policies fail those on the left never give up.  The free market capitalism that gave us the Industrial Revolution was not as good as the mercantilism it replaced.  The free market capitalism that won World War II was not as good as Nazi Germany’s National Socialism.  The free market capitalism that won the Cold War was not as good as the Soviet Union’s communism.   No, any economic system that doesn’t place smart people in the government (and from our most prestigious universities) in charge is an inferior economic system.  At least, according to those on the Left (see There Is No Invisible Hand by Jonathan Schlefer posted 4/10/2012 on the Harvard Business Review).

One of the best-kept secrets in economics is that there is no case for the invisible hand. After more than a century trying to prove the opposite, economic theorists investigating the matter finally concluded in the 1970s that there is no reason to believe markets are led, as if by an invisible hand, to an optimal equilibrium — or any equilibrium at all. But the message never got through to their supposedly practical colleagues who so eagerly push advice about almost anything. Most never even heard what the theorists said, or else resolutely ignored it.

Interesting.  Using the economists of the Seventies as the authoritative position for government interventionism into the economy.  Why, that would be like having the captain of the Titanic being the authority on how to miss icebergs in the North Atlantic. 

The Seventies were the heyday of Keynesian economics.  Where the government was aggressively intervening into things economic.  And the results of their policies were so bad that we had to create new words to describe it.  Like stagflation.  A heretofore unheard of phenomenon.  And something that just wasn’t supposed to happen when the Keynesians used inflation to lower unemployment.  But it did.  Even though you weren’t supposed to get inflation and high unemployment at the same time.  Stagflation.  Like we did.  In the Seventies.

Believing far too credulously in an invisible hand, the Federal Reserve failed to see the subprime crisis coming. The principal models it used literally assumed that markets are always in instantaneous equilibrium, so how could a crisis occur? But after the crisis exploded, the Fed dropped its high-tech invisible-hand models and responded with full force to support the economy.

The subprime mortgage crisis was a government-made crisis.  Precisely because government refused to allow the Invisible Hand to guide the market place.  Instead they stepped in.  Forced lenders to make risky subprime loans to people who couldn’t qualify for a mortgage.  With tools like the infamous Adjustable Rate Mortgage (ARM).  And then they had Fannie Mae and Freddie Mac buy those risky mortgages.  To get them off the lenders’ balance sheets so they would make more risky loans.  Then Freddie and Fannie chopped up these risky loans and repackaged them into ‘safe’ investments to unload them to unsuspecting investors.  Getting these toxic mortgages off of their balance sheets.  (In case you don’t know, Fannie and Freddie are Government Sponsored Enterprises (GSE).  Which are for all intents and purposes the government.)  This house of cards imploded when the Fed raised interest rates.  After keeping them below what the Invisible Hand would have set them at for far too long.  The government created the real estate bubble.  Then blew it up when those higher interest rates reset all the AMR mortgage payments beyond the homeowner’s ability to pay.

There are many economists in the world.  And the consensus of economic thought tends to be one that supports large government intervention.  Which proves the economic consensus is wrong.  For if history supported this consensus the Soviet Union would have won the Cold War.  East Germany would have absorbed West Germany.  China would not be experimenting in ‘Invisible Hand’ capitalism.  And Cuba wouldn’t be experimenting with a little capitalism themselves to fix their broken government command economy.

All these market failures economists like to point to aren’t market failures.  They are the unintended consequences of government intervention into the market.  As the subprime mortgage crisis clearly proved.  Which never would have happened in the first place if the government didn’t try to be smarter than the Invisible Hand.

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Keynesian Policies gave us the Subprime Mortgage Crisis, Solyndra and Inflation while the Free Market gives us Jobs

Posted by PITHOCRATES - September 30th, 2011

The Problem with Washington is that there are too many Elitists who Think they are Smarter than Us

Now we know why we have slow economic growth.  Apparently it’s par for the course after a financial crisis (see Phony Fear Factor by Paul Krugman, Keynesian Economist, posted 9/29/2011 on The New York Times).

We might add that major financial crises are almost always followed by a period of slow growth, and U.S. experience is more or less what you should have expected given the severity of the 2008 shock.

So why do any spending?  Why have any stimulus to stimulate growth that won’t come.  Because “major financial crises are almost always followed by a period of slow growth…”  If true then we could have gotten here without that $800 billion stimulus bill.  And we could have avoided that debt ceiling debate.  And the subsequent downgrading of U.S. sovereign debt.  All because we were spending money trying to alter slow growth that was going to happen anyway.

But the Keynesian will say, “Just think how bad things would have been if we didn’t spend that $800 billion.  And how better things would be if we had just spent more.”  How do you argue with that?  When spending fails it’s because we didn’t spend enough.    By this logic, then, spending as a policy can never fail.  Even when it fails.

If slow growth is more or less what you get were they then lying?  When they said they would keep the unemployment rate below 8%?  If Congress passed the stimulus bill?  Or did they just not understand how bad things were?  Because their understanding of economics is that bad?  Or was George W. Bush so much smarter than them that he was able to hide how bad things were?

And it also, of course, reflects the political need of the right to make everything bad in America President Obama’s fault. Never mind the fact that the housing bubble, the debt explosion and the financial crisis took place on the watch of a conservative, free-market-praising president; it’s that Democrat in the White House now who gets the blame.

But good politics can be very bad policy. The truth is that we’re in this mess because we had too little regulation, not too much. And now one of our two major parties is determined to double down on the mistakes that caused the disaster.

Who was it that pushed subprime lending to get people who couldn’t afford a house into a house?  Whose policies were those that made home ownership available to everyone, not just those with good-paying jobs that could pay their mortgage payments?  Who was it that brought suits and protests against lenders for ‘redlining’ poor and minority communities by not approving mortgages for those who could not qualify for a mortgage?  The Republicans?  The so-called servants of the wealthy?  Or the Democrats?  The so-called champion of the poor and disenfranchised?

Buying risky mortgages from banks allowed banks to make risky loans.  And who was buying those risky mortgages?  Fannie Mae and Freddie Mac.  That was government policy.  Keynesian policy.  Keeping interest rates low and removing risks from the normal risk takers in the mortgage industry.  There could not have been a Subprime Mortgage Crisis without these Keynesian government policies in place.  And we know that conservative Republicans aren’t Keynesians.  That’s why Keynesians hate conservative Republicans.  Especially when they hold up further stimulus spending in Congress.

The problem with Washington is that there are too many elitists who think they are smarter than us.  And these elitists want to double down on the mistakes that caused this crisis.  Already the Obama administration has been talking about boosting subprime lending.  Incredible.  This after that very same policy caused the worst recession since the Great Depression.

After the Benefit of a Cheap Euro runs its Course the Depreciated Euro turns into a Liability

The Keynesian’s answer to everything is more spending.  And when someone warns about igniting inflation with all of their easy monetary policy they call those people misinformed.  Monetary policy doesn’t cause inflation.  Greedy business people do.  By raising prices.  And supply shocks.  Like the OPEC oil embargo of the Seventies.  They point to the Eurozone and say, “See?  Their central banks have been keeping rates low to stimulate spending.  And where is the inflation?”  Here, apparently (see Euro-Zone Inflation Surges by Paul Hannon, Dow Jones Newswires, posted 9/30/2011 on NASDAQ).

The annual rate of inflation in the 17 countries that share the euro surged to its highest level in almost three years in September, while the number of people without work fell slightly.

The European Union’s official statistics agency Eurostat Friday said consumer prices rose 3% in the 12 months to September, up from 2.5% in August and was well above the European Central Bank’s target of just below 2%.

Prices rose faster than at any time since October 2008, and more rapidly than economists had expected. Those surveyed last week by Dow Jones Newswires had estimated that prices rose 2.5%. The last rise in the annual rate from one month to the next that was of a similar scale was in March 2010, when it picked up to 1.6% from 0.8%.

With a depressed economy businesses haven’t been able to raise their prices.  But what they couldn’t do their central bank has.  Put so much cheap money into the economy that they depreciated the Euro.  Which is another way to cause inflation.  Eventually.  After the benefits of a cheap Euro (making cheap exports) run its course.  And the depreciated Euro turns into a liability (higher input prices in the manufacturing process).

This always happens in Keynesian economics.  Yet the Keynesian ignores this reality and doubles down on the failed policies of the past.

Government Policies Favor Green Energy over Oil and Gas because Government Elitists are in Control

Keynesian economic thought is the prevailing though in most governments.  For a reason.  They’re expansionary policies.  And put government in control of that expansion.  Government officials don’t care if they work.  They just like the power it gives them.  The control over the economy.  And an open checkbook to buy votes.  So governments everywhere put Keynesians into their administrations.  Which give the Keynesians legitimacy.  People accept what they say.  Because if government adopts what they say they must know what they’re saying.

But Keynesian thought is wrong.  History has shown this.  The Austrian School of economics has a far better track record of success.  But that is not a popular school among expansionists.  Because it leaves the economy to the free market.  Not to elitists in government.  Who think they know better than the free market.

An example of this elitist intervention into the free market is government’s choice of green energy as the smart investment of the future.  Which has been failing even with heavy subsidies.  While the hated oil and gas industry, on the other hand, is creating jobs (see Gassing Up: Why America’s Future Job Growth Lies In Traditional Energy Industries by Joel Kotkin posted 9/27/2011 on Forbes).

But the biggest growth by far has taken place in the mining, oil and natural gas industries, where jobs expanded by 60%, creating a total of 500,000 new jobs…

Nor is this expansion showing signs of slowing down. Contrary to expectations pushed by “peak oil” enthusiasts, overall U.S. oil production has grown by 10% since 2008; the import share of U.S. oil consumption has dropped to 47% from 60% in 2005.  Over the next year, according to one recent industry-funded study, oil and gas could create an additional 1.5 million new jobs.

What makes this growth even more remarkable is that the month of August posted zero new jobs.  So if there were no new jobs while oil and gas was creating hundreds of thousands of jobs, hundreds of thousands of jobs in other industries must have been disappearing.  Such as in that government-backed green energy sector.

How about those “green jobs” so widely touted as the way to recover the lost blue-collar positions from the recession? Since 2006, the critical waste management and remediation sector — a critical portion of the “green” economy — actually lost over 480,000 jobs, 4% of its total employment…

The future of the rest of the “green” sector seems dimmer than widely anticipated. One big problem lies in cost per kilowatt, where wind is roughly twice as expensive and solar at least three times as expensive as electricity produced with natural gas. Given the Solyndra  bankruptcy  and their inevitable impact on the renewables industry, it’s also pretty certain that the U.S., at least in the near term, will not be powered by windmills and solar panels.

Natural gas is a clean burning fuel.  It’s so clean we use it in our homes.  In our stoves.  And our furnaces.  It’s cheap.  And it’s plentiful.  We’re getting it out of American ground that can put hundreds of thousands of Americans to work.  Without loan guarantees.  And they can bring it to market at market prices.  Without any subsidies.  It’s the hanging softball of energy policy.  But what are we pursuing?  Green energy.  A sector that is bleeding jobs.

The relative strength of the energy sector can be seen in changes in income by region over the past decade. For the most part, the largest gains have been heavily concentrated in the energy belt between the Dakotas and the Gulf of Mexico. Energy-oriented metropolitan economies such as Houston, Dallas, Bismarck and Oklahoma City have also fared relatively well. In energy-rich North Dakota there’s actually a huge labor shortage, reaching over 17,000 — one likely to get worse if production expands, as now proposed, from 6000 to over 30,000 wells over the next decade.

Why are we subsidizing green startups when we have an energy belt almost the size of the Louisiana Territory?  A labor shortage of 17,000?  And a plan to increase wells from 6,000 to 30,000 (an increase of 400%) in one state?  This is real economic growth.  Created with no government help.  I mean, if there is one thing the Obama administration isn’t known for it’s being a friend to the oil and gas industry.

So this is an industry government doesn’t help.  If anything government hinders it with heavy regulation.  And yet the gas and oil industry is blowing government-subsidized green energy away.  There’s a lesson here.  Free market works.  And when government intervenes into the market you can bet on them picking a loser.

Industry experts say that the shift in energy exploration is moving from the Middle East to the Americas, with rich deposits of oil and gas uncovered from Brazil to the Canadian oil sands.

Much of the new action is on the U.S. mainland, including the Dakotas, Montana and Wyoming. Increasingly, there’s excitement about finds in long-challenged sections of the Midwest such as Ohio. The Utica shale formation, according to an estimate by Chesapeake Energy, could be worth roughly a half trillion dollars and be, in the words of CEO Aubrey McClendon, “the biggest to hit Ohio, since maybe the plow.”

Ohio now has over 64,000 wells, with five hundred drilled just year. Recent and potential finds, particularly in the Appalachian basin, could transform the Buckeye State into something of a Midwest Abu Dhabi, creating more than 200,000 jobs over the next decade.

A Midwest Abu Dhabi?  Creating 200,000 new jobs?  And that’s just in the oil and gas business.

The energy boom also has sparked a spate of new factory expansions, including a $650 million new steel mill to make pipes for gas pipelines. Other local firms are gearing up to make up specialized equipment like compressors.

This is real economic growth.  Created and sustained by the private sector.  Without any stimulus funding or subsidies.  The way of the Austrian School of economics.  But is anathema to expansionist Keynesians.  That’s why government policies favor green energy.  Like they favored subprime lending.  Because government elitists are in control.  Not the free market.

The Genius Elite have given us the Subprime Mortgage Crisis, Solyndra and Inflation in the Eurozone

The government bet wrong on green energy.  As smart as they are.  And as smart as their Keynesian advisers are.  Is there a lesson here?  Yes.  They are not that smart.

The oil and gas industry is booming.  Why?  Because there is enormous demand for oil and gas.  For all the Keynesians’ lament over the lack of demand you’d think they’d jump on this.  But no.  They ignore it.  Instead they impose oppressive regulations.  Impose moratoriums on Gulf drilling.  And do more to impede this industry than to help it.  To please the environmentalists.  And their friends in green energy.

The genius elite have given us the Subprime Mortgage Crisis, Solyndra and inflation in the Eurozone.  The Keynesian way.  Whereas the free market is finding domestic sources of real energy and creating jobs.  The Austrian School way.  Which was also the American way.  Once upon a time.  And it can be again.  If we listen more to the market.  And less to the Keynesian elites.

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Asset Bubbles and Deflationary Spirals in Japan, the United States and China

Posted by PITHOCRATES - December 25th, 2010

The Japanese Asset Bubble and their Lost Decade

During the eighties the Japanese government worked with Japanese business.  And the eighties in Japan were booming.  The Japanese went on an American buying spree.  They gobbled up American landmark buildings and business.  It was an economic Pearl Harbor.  Some people wringed their hands in distress, fearing the Japanese ascendancy.  Presidential candidates said we were fools for not following the Japanese model.

Easy money created excess liquidity.  Which created inflationary pressure on prices.  Real estate values soared.  And irrational exuberance bid up prices further, creating an asset bubble.  Times were good while they lasted.  But the bubble popped.  Real estate values tumbled.  And the Japanese suffered a deflationary spiral that would last a decade.  They call their 1990s the ‘lost decade’.  They still haven’t fully recovered.  And this was a direct consequence of government working with business.

The Subprime Mortgage Crisis and the Beginning of our Lost Decade

Totally ignoring the lessons of the Japanese, the Americans went down the same road.  Easy money created excess liquidity.  And like in Japan, this created inflationary pressure on prices.  And like the Japanese, real estate values soared.  Alan Greenspan warned us about our irrational exuberance.  But we didn’t listen.  We bid prices higher still.  Created the mother of all asset bubbles.  Times were good in the 1990s.  But the bubble popped.  As history has shown bubbles to do.  And real estate values tumbled.  But with a twist.

In America, government pressured bankers to approve mortgages for people who couldn’t qualify for a mortgage.  So bankers had to come up with some creative ways to make the unqualified qualified.  The weapon of choice was the subprime mortgage.  And everything worked as plan.  Until interest rates went up.  And then the whole deck of cards came crashing down. 

Fannie Mae and Freddie Mac (government sponsored enterprises) guaranteed those risky loans.  Then, to encourage bankers to make more of these risky loans, they bought them from the banks.  They chopped them up and created investment instruments.  We called them derivatives.  High yield (because of the ‘subprime’ in subprime mortgage).  And safe (because of the ‘mortgage’ in subprime mortgage).  So when interest rates rose and the unqualified couldn’t pay their mortgage payments anymore, we got the subprime mortgage crisis that reverberated throughout the world thanks to those derivatives.  All because government worked with business.

The Chinese are Working on an Asset Bubble of their Own

In the 2000s, it’s the Chinese that everyone fears.  Economically speaking.  (For now at least.)  Over the past decade or two, China has become more capitalistic than communist.  It’s not pure capitalism.  It’s more government partnering with business.  Sort of a throwback to mercantilism.  They have tariffs and monetary policies to protect their domestic industries.  And they subsidize their export industries in an export-driven economy.  And it’s been working.  So far.

It worked in Japan for awhile.  But we saw what happened there.  It worked in the United States for awhile.  But we saw what happened there.  Government partnering with business has, historically, been a train wreck.  Now China is trying her hand.  Will history repeat itself there?  Perhaps (see China Raises Interest Rates Again to Cool Inflation by Edward Wong posted 12/25/2010 on The New York Times).

China’s central bank announced on Saturday that it was raising interest rates for the second time in about two months in what appears to be a long-term campaign to suppress inflation as many ordinary Chinese express discontent with rising consumer prices.

Oh my.  Inflationary pressures are raising prices.  And to tamp those prices back down, they raised interest rates.  This is giving me a strange feeling of déjà vu.    

The Chinese economy has been awash in liquidity due to government stimulus money and generous lending by state banks. Chinese officials are now concerned about an overheated economy and the inflationary pressures that come with that.

Awash in liquidity?  Government stimulus money?  Generous state bank lending?  It feels like we went through this before.  Odd.  This feeling of déjà vu.

But investment in large capital-intensive projects has also been fueling the economic engine and driving up prices.

Capital-intensive projects?  That requires financing.  Lots of it.  Lots of bank loans.  Lots of liquidity.  And a lot of liability on bank’s balance sheets.  Shouldn’t be a problem.  As long as those are safe loans.  Backed by safe assets.  Just like in the United States.  Before we started putting people into houses who couldn’t afford to buy a house.

Officials have signaled throughout the month that moves will be taken to better control spending across the country. China announced on Dec. 3 that it would tighten monetary policy next year, shifting it from “relatively loose to prudent.” That was a clear sign that Chinese officials were intensely concerned about inflation.

The Chinese get a little Alan Greenspan.  They’re getting a little nervous about their irrational exuberance.

The property market in China has been booming. Rising property prices, along with the government stimulus money and loose bank lending, have spurred new developments across the country. Even long-term residents on the tropical southern island of Hainan have had to grapple with soaring real estate prices from outsiders coming in to buy up land.

Some analysts say this growth has resulted in a gargantuan bubble in the real estate market, while others argue that the capacity will be put to good use.

And for good reason.  Real estate bubbles aren’t good.  Things can get really ugly when they burst.  If you doubt me, ask the Japanese.  Or the Americans.

Until now, low wages have helped to hold down inflation and keep China’s export industry competitive. But those wages in the context of soaring real estate prices mean that migrant workers from the interior of China are becoming less tolerant of poor work conditions on the coasts, where many of China’s export manufacturing factories are located. Many workers are now choosing to stay closer to home in the interior provinces, and some companies are moving their manufacturing centers inland.

They took our jobs.  But now they don’t want them.  Those people who worked dirt cheap (by our standards, not theirs) have learned from the West.  They want more.  And, in a booming economy, they probably have choices out there.  It could add huge inflationary pressures on wages.  Or force a government crackdown on individual liberty.  Neither will probably be good for the economy.  Or those balance sheets.  At the banks financing those capital-intensive projects.

History Repeats – Ignore her at your Own Risk

One thing history shows us over and over is that free markets work.  Managed markets don’t.  Government partnering with business doesn’t work.  It didn’t work for the Japanese.  And it didn’t work for the United States.  When you intervene into market forces you disrupt market forces.  And often have unintended consequences.  Such as runaway inflation.  Asset bubbles.  And deflationary spirals.

The Japanese lost a decade.  The United States is looking like they will lose a decade.  Will the Chinese be next?  If history repeats, as history has a penchant for doing, they may be the next to lose a decade.  Of course, that could be a bit of a problem for us.  They hold a lot of our debt.  And if they want their money back to save themselves, guess what that will do to us.  Suffice it to say that the historians will then be able to write about the rise and fall of the United States.

History can be such a bitch when we ignore her.

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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. 

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