The Credit Crisis: How we got here

There have been a lot of reasons bandied around for the current credit problem. There were a lot of causes of this, so many of them are right, but some more than others.

The preferred Democrat reason seems to be corporate greed. Certainly there is an element of that, but greed is always with us. You can't rationally claim that this whole thing was caused because the heads of some corporation are greedy and if we replaced them it would all get better. There are essentially two ways to run an economy. You can give power to the government or to business. At least with business you have to choose to give over your money. There were certainly instances out there of banks doing things like lying about the terms of a loan or preparing duplicate contracts so the buyer didn't sign what they read, but these instances were already illegal and I would imagine that they're fairly uncommon (though more common than they should be). The overwhelming majority of problem mortgages aren't people who were cheated, they are people who took a subprime ARM on a house where they could barely pay the artificially low teaser rate. It might be scummy that banks did this but it's not a surprise that a adjustable rate offered with a half point discount from the lowest rates in history is going to go up. The information that this was a bad deal has been around for ever and, as I'll show later, the government not only didn't discourage this, they actively encouraged it.

Barack also submitted the Gramm-Leach-Billey act, which he falsely claims McCain voted for (his running mate, by the way, actually did vote for it). That bill removed a restriction that "savings" banks couldn't also do "investment". The obvious problem with this in the current climate is that when Wachovia's investment side takes a hit, their savings side is also put at risk. I haven't delved very deeply into how much FDIC is impacted by the potential change in Debt-to-Equity (hereafter DE) ratios that this poses, but so far my savings at Wachovia is fine even though their investment side had problems and none of the major federal bailouts were operating as banks, so this can't possibly be the main culprit.

There are two actions by the Fed that have come up as issues. By far the most common is the assertion that Greenspan and later Bernanke lowered interest rates too much to avoid corrections. Certainly this seems valid. The dollar is very obviously weak even relative to other currencies that are themselves inflating. And when dollars are cheap the natural thing to do is to spend as many of them as you can, encouraging all sorts of speculation. In particular in this case it encourages people to buy houses they can't afford because the cost of the house and the interest rate (on an ARM) both look better than they are.

The other Fed action, which I was unaware of until this morning is something Bernanke implemented called the "Term Auction Facility". This was put in place at the beginning of the problems with credit. I don't know much about it, but at least one economist states that among other things it hides who is borrowing money from the Fed from other banks, which makes banks skittish about interbank loans. As I said, I haven't looked very far into this, but it's potentially a really huge deal. Anything that hides loans to banks is going to necessarily mean you can't tell how much the bank is worth. If you don't know how much banks are worth that's going to screw up interbank loans, and interbank loans are where a lot of credit comes from in our system.

The final potential problem I've seen is the Community Reinvestment Act of 1977. This is a bill that went after mortgage banks because they were only offering loans to relatively well off people. The bill requires brokers to make loans across the income spectrum and carries stiff penalties if they "redline", or only offer them to people who are well off. It was updated in 1995 to allow Fannie Mae and Freddie Mac to buy subprime loans, to allow subprime loans to be repackaged as securities. It was then weakened in 2004. There are those who argue, reasonably, that this did not contribute to the current debacle because 75% of subprime loans are made by banks not covered by the CRA and because subprime loans escalated after the bill was weakened. I'll admit this probably wasn't the prime mover, but a huge percentage of those loans were still almost certainly underwritten by Fannie or Freddie, which are quasi-government agencies authorized, by the CRA, to buy the loans. So yes, the loans were made by non-CRA banks who thought they could rake in the dough (and probably did) by using funds from a government sponsored entity and selling the bad loans off as equity for a profit later. But that GSE gave them money because of the CRA.

The last contributor is the existence and mismanagement of Fannie Mae and Freddie Mac. Fannie and Freddie are quasi-private companies that make a profit for their shareholders but are theoretically overseen by congress and had an implicit guarantee that the taxpayers would bail them out if they got in trouble. It was frequently argued that the taxpayers would not bail them out, because otherwise there would be a strong incentive to take huge risks since the potential profit from them is high and the loss would be insured by the taxpayer, but as we have seen in the last 2 weeks, we're going to pay the loss. We have known for at least 5 years that both of these government sponsored entities were behaving in ways that are clearly irresponsible and would be illegal for a private corporation. Their DE ratio was 65:1 (banks maintain 10:1), they frequently took actions that would have violated Sarbanes-Oxley if they weren't the government, and their management was known to manipulate accounting data to maximize bonuses. I know this because it was all brought up in hearings in 2003 and 2004. As you can find all over YouTube several congressman, most notably Barney Frank and Chris Dodd, thought this was much ado about nothing and fought hard to let Fannie and Freddie continue doing the great work they were doing securing bad loans for people at great risk to the taxpayer. After all, as Franklin Raines, Fannie CEO and Obama advisor, said "These assets are so riskless that the capital for holding them should be under 2%". The Republicans may not be free from fault for this, though. Though opposition to increasing oversight of Fannie and Freddie were Democrat concerns, the Republicans controlled the Congress in 2004. I haven't been able to find the bill number or roll call on the call to regulate them more heavily, but if it didn't pass the House it's the Republicans fault. They could have done it with no Democrat help so Democrat stupidity should not have prevented it from passing. (The Senate, of course, is another matter)

The Credit Crisis: An overview

This is likely the first of several parts on the current financial problems in the US Economy. I'll start by exposing my positions on this.

• We got here primarily through government interference and mismanagement in Congress, in particular Barney Frank and Chris Dodd, and in virtually every independent agency involved in finances. There was also mismanagement of private institutions, but that was a relatively minor part of the problem.
• The Democrats in the House, particularly Nancy Pelosi, bear the responsibility for the failure to pass the bailout bill on Monday and therefore the resultant Wall Street crash.
  
• The bill that was in the House on Monday was a terrible bill that didn't solve the problems that created this mess and probably isn't the best way to fix it, but it was the best we're likely to get this year and the Republicans should have passed it. (Honestly this is the part I'm least convinced of, but it's my current position.)
  

Judicial Review

The proposed bailout bill includes a provision that any actions taken by the Secretary of the Treasury should not be subject to judicial review. Why didn't congress think of that before?

• We hereby disallow guns in schools. This bill not subject to judicial review
• It is hereby illegal to burn the flag. This bill not subject to judicial review
• Congressmen or former congressmen are immune to all laws. This bill...

I think the Constitutional validity of such a provision needs no further exploration.

The Debate Debate

Going against every conservative columnist I read, I think McCain's decision to postpone the debate was a bad one. If Congress really needs John McCain to be there debating this bill full time then he should have dropped the Clinton Global Initiative speech as well. I rather doubt that he couldn't fly out for the debate and fly back without missing a crucial point in the debate.

Unsurprisingly, though, I find Barack's response even worse. The gist of his response is "I have told the leadership of Congress that if I can be helpful then I am prepared to be anywhere, anytime" (I should note, in fairness, I can't find an original, unedited version of his statement anywhere so this may be edited). Translated from WashingtonSpeak this sounds to me a lot like "If the leaders of the Democratic Party need me to do something, I'm prepared to show up and sign something or make a statement." Even leaving that aside, though, this is not the statement of a leader. I've seen comments while looking for an original version of the speech that assert Obama really knows how to lead because leadership is about delegating. I agree that a leader needs to delegate, but that's not what he's doing.

I've spent a lot of time in the Boy Scouts as an Assistant to something and a bit of time as the guy in charge of something. I try very hard to sound exactly like Obama (without the "um"s) whenever I'm an assistant. It's the mark of someone who knows how to serve their leader that they're willing to step in and help whenever needed. As a leader, though, you don't have the option of "let me know if I can be helpful." A leader isn't helpful, they're responsible. In the recent gas shortage in Atlanta, Governor Sonny Perdue didn't tell the legislature "let me know if I can be helpful"; he went to the EPA to push them to suspend formulation requirements. I'm not familiar with Alaska state politics but I would imagine that Sarah Palin has faced issues as an executive and has responded similarly. Barack has previously voted "present", but now he's saying "I'll be present if the party needs me to."

Mortgage Bailout, part 3

I really liked Krugman's column this morning, but I wanted to highlight some of the developing Paulson bailout bill. Naturally my tendency is to be against any of it because it's clearly un-Constitutional (I don't recall the "bailout dumb lenders to save the market" clause), but then so was the Community Reinvestment Act that brought us here.

I'm going to start with that statement. The media has not convinced me that Phil Gramm getting through a bill that allowed banks to issue insurance or vice versa (the Gramm-Leach-Biliey Act) had anything to do with the current problem. AIG isn't going under because it owns assets and issues insurance. It's going under because a bunch of companies put out very dumb subprime loans, securitized them, and then AIG insured them so that people wouldn't lose their money just because nobody could pay off their mortgage. Then nobody could pay off their mortgage and suddenly AIG was paying out more than they could afford. Why were banks issuing loans to people who couldn't pay? The Federal Government told them to. The Community Reinvestment Act of 1977 required that banks issue loans across the income spectrum and not just issue them to people with high income and great credit ratings (despite banks arguing that this was a dangerous practice). It was updated in 1995 (again, over vocal objections from banks) to strengthen the requirements that mortgage lenders issue loans to low and middle income people and allowing them to securitize those loans, even of subprime mortgages. True, the banks discovered that they could make a killing at this so long as house prices kept going up and a combination of cheap money created by Greenspan and phantom security granted by Fannie and Freddie helped to push them to great excess. All of these, though, are government problems. And not problems of the government insufficiently regulating banks, problems of government getting too involved.

I'm aware enough of my limitations that I'm not going to go against every economist I've read and say that not bailing out these companies would not cause the next Great Depression (and in fact it is argued that not bailing out companies caused the last one). If we have to bail out companies, I think Krugman is exactly right that in doing so we should take the companies in payment and I also think the passage of a bill giving the Secretary of the Treasury the ability to do this at any time without consulting Congress is a bit much power to give away. And I'm radically pro-Executive.

Progressives and Charity (part 2)

I'll start with this video from Good morning America this morning:




I don't want to harp on the connection between paying taxes and patriotism, as many other commentators have. What I'm curious about is when Joe decided it was time to step up. Is it only when the Democrats get elected and pass new taxes? I am not aware of anything prohibiting him from voluntarily stepping up to "help get America out of a rut". Yet here, courtesy of Byron York is his AGI and charitable giving for the last 5 years:

Year AGI Giving

        AGI            Charity            
2003    $231,375       $260
2004    $234,271       $380
2005    $321,379       $380
2006    $248,459       $380
2007    $319,853       $995

According to Byron York's story, David Wade, an official spokesman for Biden claims, among other things, that as Biden is one of the lowest paid Senators he just doesn't have piles of money to give away. How is it that he then thinks a bunch of Americans with similar income have piles of money to seize in taxes?

I can't imagine a better example of the difference between conservatives and progressives except maybe Biden's statement that Sarah Palin may be raising a child with Down Syndrome (when 80-90% of them are aborted) but her opposition to federal funding of embryonic stem cell research shows she doesn't really care about them. There are tens of millions of people in this country who make a third what he does, give away more in a month than he gives away in a year, and still don't think Washington has any business taking more of their (or Biden's) paycheck. To many others, though, they are stingy, money-grubbing conservatives who just want to hold onto their money and don't care about the poor.

Science and Experts

Rather amazingly, I hadn't read this post by Steve McIntyre on disclosure and auditing in climatology (which in my experience is better applied to academic research generally), but I think it and its attendant comments distill beautifully the problem with modern Science education. (Quite apart from any statement it makes on actual climatology.)

I remember a few years ago my home county of Cobb came under national attention because it started requiring a sticker in high school biology books that stated

This textbook contains material on evolution. Evolution is a theory, not a fact, regarding the origin of living things. This material should be approached with an open mind, studied carefully, and critically considered.

Though I honestly don't think that rises to the level of unconstitutional, it is dumb. Particularly because of the content of the box. Science is the practice of approaching things with an open mind, studying it carefully (preferably experimentally), and critically considering it. Why distinguish evolution?

If we blindly accept the word of experts then we have left the path of Science and entered the world of Faith which, as critics of intelligent design rightly note, has no place in Science class.

Bush and the Iraq War

I don't normally post links to other blogs, but this post on Power Line appears to my eye to be possibly the most important blog post on the war and its prosecution I have read this year. I'll go read the WaPo articles cited, but assuming Power Line is referencing them faithfully (and I trust them to be doing so) that very much raises my respect for the President and his decisions.

Sewer systems?

In an interview this past weekend Barack Obama once again stated the fantastic job done by communist China in building up infrastructure around the Olympic site and contrasted it with America's failing sewer systems. I'm going to ignore that much of (rural) China doesn't even have sewer systems or that we did a pretty good job readying Atlanta for the Olympics (without giving up road building in California to do so).

What does the President have to do with sewer maintenance? Maybe the position Obama is looking for is Mayor.