Congress and the Credit Crises Fiasco
60Congress and the Credit Crisis Fiasco
After the huffing and puffing will the real perps get a free pass? On November 4th we the people get to decide. Much press has been devoted to demonizing Wall Street, the mortgage industry and individual mortgage holders but did they cause the problem?, or did they simply follow the lead of a more nefarious coterie.
The nexus of the current problems can be traced to the Community Reinvestmentment Act initiated by Congress during the Carter administration 1977. This mandated that lenders lend to high risk borrowers by lowering long-held industry standards. If they failed to comply they were subject to stiff penalties and frequently prudent bank mergers were held up if one or both entities did not sufficiently "lend" to borrowers that under normal circumstances would fail to qualify. After much lobbying by activist groups and community organizers in the early nineties the Clinton administration broadly expanded the CRA.The result was that sub-prime lending surged from $35 billion in 1994 to nearly $1 trillion by the end of last year - for total growth of 2757%. No market grows that fast for that long without hitting the wall.
The Clinton era revisions allowed for the first time the securitization of CRA regulated loans containing sub-prime mortgages. These changes were pressed in great measure by "housing rights" groups such as ACORN who at the time was represented by a young "public interest" lawyer from Chicago named Barack Obama. This public interest activism in turn led to HUD pressuring Fannie Mae and Freddie Mack to purchase more sub-prime mortgages from the likes of Countrywide Financial and others. The Village Voice reported that Andrew Cuomo, Clinton's HUD secretary "made a series of decisions between 1997 and 2001 that gave birth to the current crises." One such rule change gave Freddie and Fanny extraordinary leverage, allowing them to hold just 2.5% of capital to back their investments vs. 10% for banks. Since they could borrow at lower rates than banks due to the implicit government guarantees for their debt these two enterprises boomed. Commercial banks with "incentives" hanging over their heads also poured billions into "no doc" and "no income" loans that required no money down and no verification of income. By 2007 Fannie and Freddy owned or guaranteed nearly half of the $12 trillion dollar U.S. mortgage market.
And then there was the cronyism.
Freddie and Fanny became a kind of jobs program for out of work politicos, mostly Democrats. Not surprisingly both organizations soon became huge contributors to Congress showering both sides of the isle with largess. Of course this worked. In 2004 (one of dozens of examples) Rep. Cliff Stearns, R-Florida tried to hold hearings on Freddie and Fanny's questionable accounting practices and was promptly stripped of responsibility for their oversight by then House Speaker Rep. Dennis Hastert.
So where were the regulators?
Congress had created a purposely weak regulator to over-see Freddie and Fannie - the Office of Federal Housing Enterprise Oversight - which unlike other regulatory agencies had to go hat in hand to Congress each year for its budget.
In 2005, the Senate Banking Committee, then under Republican control, adopted a strong reform bill. This bill prohibited GSEs from holding portfolios, and gave their regulator prudential authority roughly equivalent to a bank regulator. Given the current financial crises this was probably the most important piece of financial regulation before congress in 2005 and 2006. All of the Republicans on the committee supported the bill and all of the Democrats opposed it. The bill was not allowed to come to a vote by bipartisan consensus.
With lax oversight Freddie and Fannie had the green light to rapidly expand their operations and their officers to siphon off ever increasing salaries and bonuses all while showering their protectors with hundreds of millions of dollars in campaign donations and millions more on think tanks and community groups.
Head of the Senate Banking panel, Chris Dodd (of below market mortgage fame) heads the list in total campaign contributions, followed by Barak Obama who hasn't been there more than a few years but sure knows how to play catch-up (or is that pick-up?). In third place is John Kerry. Sizable donations also flowed into the campaigns of Barney Frank and Nancy Pelosi who throttled investigations at both of the agencies. Jim Johnson and Franklin Raines the CEO's under whom the worst excesses took place from the late 1990's to mid 2000's both left with millions in salaries and bonuses, in Rains case in excess of $100 million and both serve as advisers to presidential candidate Barak Obama.
This mess was not the fault solely of community organizers and special interest groups which naturally wanted to help their constituents. It was not solely the fault of the many unsophisticated people who saw an opportunity to get their piece of the pie but were unable to adequately assess the risk inherent in a scheme that required ever increasing prices and continued low interest rates. It wasn't the lack of regulation other than as it applies to the lynch-pins Freddie and Fanny. It certainly wasn't the sole fault of the free enterprise system, despite the influence of greed and the desire to get something for nothing. There were adequate systems in place to deal with all of these issues had they been allowed to function.
The primary fault lies with Congress and the imposition of yet another Big Government program that began with the best of intentions and ended with devastating consequences that hurt millions of people. This, history has shown, is the inevitable consequence of Big Government trying to run private industry. The halls of power in Washington now echo with calls for investigations and the prosecution of those on Wall Street that brought the financial system to the brink of collapse. Let's not forget that we all learned by age five that the best way to deflect attention from ourselves is to point our finger at some other person.
Without government insistence banks would never have offered such dodgy loans. Now politicians are blaming the financial crises on "deregulation". This is a politically expedient canard. The primary deregulation in the financial services industry over the last two decades has allowed banks to diversify their risks both between varying product lines and geographically. This has allowed banks a relative measure of stability in the current tempest. One result is that U.S. commercial banks have been able to attract more than $100 billion in new capital in just the past year to replace most of their sub-prime write-downs. The deregulation of bank branching restrictions and product offerings also has made possible the acquisition of Bear Stearns, Merrill Lynch and Wachovia by private enterprises saving billions in acquisition costs for taxpayers. The same politicians who now decry the lack of regulations to stop "excessive risk taking" are the very ones who blocked the legislation that could have stopped it. The problem wasn't deregulation but dumb regulation.
True to form Congress took a three page rescue plan for $700 billion and in one short week morphed it into a 140 page monstrosity laden with "sweeteners" worth another $150 billion. And that of course is just what's visible on the surface. With history as a guide when all is said and done the total cost will probably be closer to $1 trillion. Most people have trouble even forming a vague notion of what 1 trillion of anything is. To gain some appreciation of the magnitude of what 1 trillion represents, let's ask "How long ago was a trillion seconds?
If many years ago, before the Roman Empire or the rise of the ancient Chinese dynasties, the U.S. Treasury had started printing dollar bills at the rate of one per second the presses would have cranked out the 1 trillionth bill at about the same time as our glorious Congress was passing their porcine rescue bill, which House Speaker Pelosi has assured us is only the beginning. This is one time that we would do well to take her at her word.
The real question is will we give her and the rest of this bunch the chance? The answer will come soon and will have serious ramifications for all of us.
