Professor Christopher Peterson has a new article out entitled: "Fannie Mae, Freddie Mac, and the Home Foreclosure Crisis." Here is the abstract:
Following the Great Depression, the federal government was the primary architect of the secondary residential mortgage market. The foremost pillars of this federal involvement were the twin government sponsored enterprises (GSEs) Fannie Mae and Freddie Mac. In the public debate over the struggling American financial system, opponents of federal involvement in housing finance have persisted in asserting that Fannie Mae and Freddie Mac caused the home foreclosure crisis. This symposium essay attempts to provide a brief rebuttal to this surprisingly persistent oversimplification. It begins with historical context necessary for understanding the debate over the GSEs’ responsibility. Next it explains the development of the private, sub-prime home mortgage market, recounts the radical change in the GSEs’ investment and underwriting policies in the mid-2000s, and traces the events leading to the collapse and nationalization of the two companies. Although the GSEs began to engage in unacceptably risky investment decisions, the two companies were only one part of a larger more complex commercial and regulatory pattern that also included monetary policy, regulatory dereliction, judicial passivity, ill-advised borrowing, and reckless (or dishonest) brokering, appraising, lending, servicing, and securitizing by private financial services companies.
I found this quote compelling: "As soon as the GSEs abandoned direct monitoring, the profit-seekers (including the credit rating agencies) the GSEs relied on arranged to sell them garbage and harvest massive bonuses, commissions, and fees in the process. Like so many others, Fannie and Freddie's core failing was this: they were suckers."
So why the continued fury on the right regarding Fannie and Freddie? Here is Professor Peterson's take:
Although government minimalists hope to use the subprime crisis as evidence of President Reagan's mantra that 'government is not the solution to our problem; government is the
problem,' any fair appraisal of events demonstrates otherwise. It was the absence of a legislative response to shape and facilitate the rapidly emerging patterns of housing financial commerce. It was a sleeping judiciary that neglected to lay down a relevant common law in the absence of legislation. It was captive federal banking regulators that interpreted their 'consumer protection' obligations to mean protecting banks from consumers. It was the erosion of deposit insurance as a useful tool in preserving bank solvency. It was massive speculation in derivatives. It was media and scholarly academies that did not find a way to tell the stories and marshal the arguments to show what was about to happen. And, it was an indulgent, indifferent American public that that let itself be misled. Fannie Mae and Freddie Mac-part of the problem, rather than the solution-were but one factor in much larger and more genuinely disappointing picture of letdown.
In other words, the propaganda regarding Fannie and Freddie is simply "outdated demagoguery."
This is the most careful and balanced assessment I have seen on this issue. It fully recognizes that Fannie and Freddie both invested in much subprime product (under the bipartisan direction of two administrations) and guaranteed trillions of mortgages. Yet, in the end Fannie and Freddie were bit players compared to the long litany of causes. More to come on the long litany. . . .
Although government minimalists hope to use the subprime crisis as evidence of President Reagan's mantra that 'government is not the solution to our problem; government is the problem,' any fair appraisal of events demonstrates otherwise.
ReplyDeleteIt was the absence of a legislative response to shape and facilitate the rapidly emerging patterns of housing financial commerce. [Government] It was a sleeping judiciary that neglected to lay down a relevant common law in the absence of legislation. [Government] It was captive federal banking regulators that interpreted their 'consumer protection' obligations to mean protecting banks from consumers. [Government] It was the erosion of deposit insurance as a useful tool in preserving bank solvency. [Government] It was massive speculation in derivatives. [Government]
Wow. Reagan's prescience was amazing. Far from demonstrating otherwise, these examples only confirm Reagan's observation.
The fact that the problems resulting from the deliberate abuse of Fannie and Freddie's balance sheets for political purposes grew to encompass a ever larger share of the financial industry does not mean that they were "bit players", nor does it absolve those who set that abuse in motion and perpetuated it from responsibility.
"Profit seekers" - a rather loaded term since the vast majority of those seeking profits do so in a legal and ethical way - were only to happy to accommodate the governments nearly insatiable demand for compliant mortgages in a manner that met the governments lack standards. "Reckless (or dishonest) brokering, appraising, lending, servicing, and securitizing by private financial services companies" were, and are, the step-children of government indifference and incompetence. Through FHA, the Veterans Administration, Fannie Mae and Freddie Mac, taxpayers now guarantee repayment on more than 80% of all U.S. mortgages. The government is not a "bit player".
As evidence of the government's continued determination to put the taxpayer and the financial system at risk despite what has happened, and in the absence of the ancillary players, we have stories like this:
20 Year Old Buys Home With $183,000 FHA Loan And Just 3.5% Down
The detrimental explosion in derivatives all took place under the watchful eye of government regulators at both the state and federal level. AIG, a subject of deserved derision on this site, was a major player in the derivative market, selling CDS's on mortgage backed securities. How did their derivative business escape regulatory scrutiny? As this WSJ piece explains, it didn't:
ReplyDeleteThe politicians also prefer to talk about AIG's latest bonus payments because they deflect attention from Washington's failure to supervise AIG. The Beltway crowd has been selling the story that AIG failed because it operated in a shadowy unregulated world and cleverly exploited gaps among Washington overseers. Said President Obama yesterday, "This is a corporation that finds itself in financial distress due to recklessness and greed." That's true, but Washington doesn't want you to know that various arms of government approved, enabled and encouraged AIG's disastrous bet on the U.S. housing market.
Scott Polakoff, acting director of the Office of Thrift Supervision, told the Senate Banking Committee this month that, contrary to media myth, AIG's infamous Financial Products unit did not slip through the regulatory cracks. Mr. Polakoff said that the whole of AIG, including this unit, was regulated by his agency and by a "college" of global bureaucrats.
But what about that supposedly rogue AIG operation in London? Wasn't that outside the reach of federal regulators? Mr. Polakoff called it "a false statement" to say that his agency couldn't regulate the London office.
And his agency wasn't the only federal regulator. AIG's Financial Products unit has been overseen for years by an SEC-approved monitor. And AIG didn't just make disastrous bets on housing using those infamous credit default swaps. AIG made the same stupid bets on housing using money in its securities lending program, which was heavily regulated at the state level. State, foreign and various U.S. federal regulators were all looking over AIG's shoulder and approving the bad housing bets. Americans always pay their mortgages, right? Mr. Polakoff said his agency "should have taken an entirely different approach" in regulating the contracts written by AIG's Financial Products unit.
The Real AIG Outrage, WSJ
It seems that Reagan was right. Whether acting as the market for subprime and Alt-A mortgages, or as the regulator of that market, the government is the problem.
Finally, the use of terms like, "any fair apprasial", "the most careful and balanced assessment" do not lend any actual weight to the argument. And suggesting that anyone who disagrees with your assessment is engaged in "outdated demagoguery", only exposes you to charges of the same.
Well, I suspect we are not going to sway each other.
ReplyDeleteI will say this: government policy played a huge role in all this--particularly our money driven political system always seeking to do what the monyied interests wish.
Here's another story that should give everyone pause:
ReplyDeleteSAN FRANCISCO -- In January, Mike Rowland was so broke that he had to raid his retirement savings to move here from Boston.
A week ago, he and a couple of buddies bought a two-unit apartment building for nearly a million dollars. They had only a little cash to bring to the table but, with the federal government insuring the transaction, a large down payment was not necessary.
"It was kind of crazy we could get this big a loan," said Mr. Rowland, 27. "If a government official came out here, I would slap him a high-five."
[...]
The Internal Revenue Service is giving tax rebates to first-time buyers, and soon to move-up buyers, in a program beset by accusations of fraud. And the government agency that issues mortgage insurance, the Federal Housing Administration, is underwriting loans at quadruple the rate of three years ago even as its reserves to cover defaults are dwindling. On Thursday, the Mortgage Bankers Association said more than one in six F.H.A. borrowers was behind on payments.
F.H.A. insurance was created for minority and low-income families who could not come up with the traditional down payment of 20 percent required by private lenders. Buyers receive loans from government-approved lenders and are required to document their income and assets. They must pay a substantial insurance premium of 1.75 percent of the loan. But in return, their down payment can be as low as 3.5 percent.
For decades, most F.H.A. loans were in low-cost states like Texas and Michigan. Under the agency's loan limits, houses along the coasts were usually too expensive to qualify. In 2007, fewer than 4,400 F.H.A. loans were made in California, according to the research firm MDA DataQuick, and none were in San Francisco.
The Economic Stimulus Act of 2008 helped change that by temporarily doubling the maximum loan the F.H.A. insured, to $729,750. A two-unit property like the one bought by Mr. Rowland and his friends can be insured for up to $934,200.
[...]
Some F.H.A. borrowers here say they have the cash for a full down payment but would rather invest it in the stock market or use it for remodeling. Others, like Mr. Rowland and his friends, simply do not have the money required by private lenders -- which would have been nearly $200,000, in their case.
[...]
Their building, for which they paid $963,000, is on a quiet street in the up-and-coming Hayes Valley neighborhood, close to fashionable restaurants they have already been trying out. The friends plan to live in the bottom unit and rent out the top. Thanks to rock-bottom interest rates, none of them will pay much more than a thousand dollars a month. "Everyone should have the chance to do this," Mr. Kurland said.
Everyone may get a chance.
A few weeks ago, Congress extended the higher lending limits for another year. Representative Barney Frank, the Massachusetts Democrat who is chairman of the House Financial Services Committee, said in an interview that he planned to introduce legislation next year raising the maximum F.H.A. loan by $100,000, to $839,750.
His bill would make the new limits permanent.
New York Times
My question is this: If, as you argue, the reckless lending of the past was the result of Bush administration policies, why hasn't it stopped. Why is the Obama administration continuing to load the system with dubious loans insured by the taxpayer? Why extend this program beyond the "minority and low-income families" it was designed to help?
Somewhere Ronald Reagan is shaking his head.