Posted on 03/18/2009 12:00:31 PM PDT by Windflier
What Cooked the World's Economy?
It wasn't your overdue mortgage.
By James Lieber
published: January 28, 2009
It's 2009. You're laid off, furloughed, foreclosed on, or you know someone who is. You wonder where you'll fit into the grim new semi-socialistic post-post-industrial economy colloquially known as "this mess."
You're astonished and possibly ashamed that mutant financial instruments dreamed up in your great country have spawned worldwide misery. You can't comprehend, much less trim, the amount of bailout money parachuting into the laps of incompetents, hoarders, and miscreants. It's been a tough century so far: 9/11, Iraq, and now this. At least we have a bright new president. He'll give you a job painting a bridge. You may need it to keep body and soul together.
The basic story line so far is that we are all to blame, including homeowners who bit off more than they could chew, lenders who wrote absurd adjustable-rate mortgages, and greedy investment bankers.
Credit derivatives also figure heavily in the plot. Apologists say that these became so complicated that even Wall Street couldn't understand them and that they created "an unacceptable level of risk." Then these blowhards tell us that the bailout will pump hundreds of billions of dollars into the credit arteries and save the patient, which is the world's financial system. It will take time—maybe a year or so—but if everyone hangs in there, we'll be all right. No structural damage has been done, and all's well that ends well.
Sorry, but that's drivel. In fact, what we are living through is the worst financial scandal in history. It dwarfs 1929, Ponzi's scheme, Teapot Dome, the South Sea Bubble, tulip bulbs, you name it. Bernie Madoff? He's peanuts.
...completely off-topic or at least tenuously related?
China appeals to Washington to safeguard assets
http://www.freerepublic.com/focus/f-news/2205693/posts
U.S. Federal Reserve to buy up to US$300B long-term Treasury bonds
http://www.freerepublic.com/focus/news/2209403/posts
I've had a rock in my boot about SOX from the getgo. I've seen it cost honest companies hundreds of thousands of dollars a year (if not more) and I'd sure like to nail it's butt on this one too but I don't want to jump to conclusions.
Not that it'll do any good. I doubt if 99 out of 100 people know what it is.
Sigh.
bookmark
“Not that it’ll do any good. I doubt if 99 out of 100 people know what it is.”
Sardines-Octopus Act. Yeah...I know what it is. Fishy. ;)
Actually IMO it’s another of the often used ruse of Congressional Professionals as “do something now” reactionary legislation to passify the anxiety after the Enron debacle.
The costs are born by others, so they are free to do as they please.
Like Versailles on the Potomac keeps a pristine balance sheet and are paragons of immaculate accounting.
I don't think your links are off-topic at all. The economic meltdown has definite, definable sources, but it's affecting every economy on the planet. It's all inter-related, and every story on it is a part of the puzzle.
Once those long-standing credit standards were destroyed, it was a race to the bottom among mortgage originators, and any reckless fool could get a mortgage, including flippers, get-rich-quick dreamers, illegal aliens, urban deadbeats, you-name-it.
With the Fed's easy money policy and Fannie & Freddie ("quasi" government entities, ha ha) and HUD and even Bush (with his "ownership society") basically giving the "US government approved" seal to the mortgage-backed bond scene, investors of all types from around the world slurped up these highly-rated US home mortgage bonds, so the pipeline was always there for more of them. The return-to-risk might seem too good to be true, but then there was Uncle Sugar standing nearby, winking and giving his thumb's up.
Probably inverting the yield curve. But the Fed had to do it, just like the Japanese had to pop their bubble in the late 90s.
But I wouldn't call it a "failure". Because it worked.
BFL
So, Toddster, here’s what I’ve been trying to say for some time, though admittedly I’ve been doing a poor job of articulating it. Focusing on what happened post-2005 seems to me like saying “it wasn’t the fall from the 20th floor that killed him, it was the sudden stop.”
You say the Fed “had to” invert the yield curve just like the Japanese had to pop their earlier bubble, and I agree. It seems to me that if conditions forced them into a position of bubble-popping, or of pulling the reins on monetary aggregates, or of raising rates to an area where Taylor Rule says would lead to negative inflation or negative growth, or however anyone describes their actions... if they found themselves in a spot where that type of recession-inducing action was the best option available, there must have been some previous causative problem that put them in that position. Getting to that point was the problem, not how they reacted to being there - just like cancer - not the chemotherapy required to treat it - is the problem.
The corollary is that they could have decided to just let the bubble process continue, presumably with worse expected results (otherwise they would not have made the decision to tighten), which tells me that the condition itself - not the tightening - was the underlying problem.
I’ve argued that a “loose” blend of monetary, fiscal, & regulatory policy, combined with an unavoidable loosening of the technical definition of money since the widespread adoption of electronic forms of money and transactions all contributed to an unhealthy imbalance - an imbalance that some call “asset inflation” which cannot be measured by CPI or PCE or money aggregates, but which grows via the same mechanisms as consumer-goods price inflation, and which every responsible central bank in the world (including our own) has been pondering for a couple of decades because of its well-known lifecycle, from mania to panic to deep & prolonged real economic slumps. That is the fundamental problem which led to the tightening of the past couple of years, and which ignored would have presumable led to something worse.
BTTT
They could have flattened the yield curve without inverting it. The problem is every major central bank inverted their curves at the same time, mainly to fight high oil prices, which is something Bernanke knew was bad, because it was one of his research topics before he became Chairman. I think that's one reason Bernanke was the first to blink and stopped hiking rates before everyone else.
I remember when our curve was first inverted, and Bernanke was asked why. He said 5% was a historically low rate, which is a very bad answer from a very smart person. Geniuses seem to lose their brains when they join the FOMC.
Having a president for eight years who was repulsed by economics and investment, and despised the tech sector didn’t help.
Having a president for eight years who was repulsed by economics and investment, and despised the tech sector didn’t help.
George Bush did a lot of damage to the Republican brand, no doubt about it. On all sorts of levels.
There isn't enough money in the world to unwind those positions.
“Okay, so now I’m wondering if the author of the article, or anyone else for that matter, would consider PMI insurance a credit derivative? I guess it depends on what a large loan is. One of the fellas at work mentioned that the folks who got in over their head with a mortgage they could not afford were likely not to have the 20% down payment required to forgo the PMI insurance on a home mortgage. And since these folks likely represent the majority of default borrowers, why are the mortgage companies in trouble instead of the PMI companies?
I thought it was a good question and I haven’t heard of this topic asked before. Anyone else?”
PMI pretty much was not in the picture, because people could get loans with 10% down, and another 10% second from the same lender.
PMI was pretty costly when it was used during the 90s. And prices went up from the mid 90s until 2006. The companies issuing PMI probably re-insured the risk, and so long as payments were made, prices went up the risk was safe, and the insurers made money.
And many people refinanced once they had 20% equity, which often came about in the first years.
Anyway that was back when lenders had sanity—a long since past time.
Now they are playing ultra-safe. So safe they are holding down the real estate market.
I arrived at this particular thread following a couple of other FR links, so I'm late getting to the dance. I saw your question and noticed there hadn't been any replies so having been in and around the mortgage and PMI industries once upon a time I thought I'd take a crack at an answer for you:
For starters, one possible misconception, mortgage companies RARELY have funds of their own to lend. They, by charter, are not deposit based institutions so they loan other people's money, in a roundabout way. The loans they make are usually packaged in "pools" in increments of, say, $1M and sold to investors. Far and away the largest purchasers, or investors of these originations are Fannie and Freddie. Since they are not deposit based institutions either, THEY in turn after a fashion, lay hands on these mortgage backed securties(MBS's) to make them acceptable for sale to the next level of investor. THAT'S where the bucks are; banks, savings banks, investment banks, pension funds, insurance companies, etc...
Back to the mortgage company. If they are in trouble it's *generally not because the loans they originated are going bad; they don't really own the loans. Where they acquire the largest chunk of their income is from fees(points) generated from MAKING loans. Aside from this MOST mortgage companies will have a small stream of revenue that comes from "servicing" loans, that is, collecting and applying payments, handling escrow accounts and the like. Bottom line; they don't make loans, the have no revenue.
I haven't really followed the mortgage business that closely over the last 15 years or so but recently I caught a blurb on the news saying the mortgage refinance business was booming. Makes sense given the rates available on loans right now. I suspect one would have to be gold plated to get one of those right about now though. Sub-prime borrowers need not apply. So, I would hazard a guess the mortgage companies shouldn't be doing all that badly for the most part.
PMI companies..... My guess would be that most of them would be suffering with a case of default shock. I pulled up one in Market Watch that I'm familiar with to see how they were doing. Not good. At one time MGIC was the largest, best managed, best capitalized company in the business, and now, see for yourself: MARKET WATCH
I can't say for sure the rest of the PMI companies are in trouble since I didn't check any others, but it would be a safe bet. One item of note, there may a link from these companies to say an AIG for example. In an effort to share the risk, some/most PMI companies went to re-insurers. It follows that AIG would have likely been one of the largest re-insurers of PMI backed loans.
Hope that shed some light.
a later read
So what do we do now? In 2000, the 106th Congress as its final effort passed the Commodity Futures Modernization Act (CFMA), and, disgracefully, President Clinton signed it. It opened up the bucket-shop loophole that capsized the world's economic system. With the stroke of a presidential pen, a century of valuable protection was lost.
Billy Jeff again...
*bump* for later
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