September 30, 2008
Greenspan: Desis Can Save Us
Abhi asks how “Does the credit crisis affect ‘us’” and what Desi’s could do so I thought I’d chime in. Personally, although I’m a pretty strident free trader, the more I learn, the more I believe some sort of bailout is ultimately necessary (and so I’m probably disappointed by the House’s failure to pass legislation - don’t know enough of the deets to say for sure).
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The Solution to the Credit Crunch? More Desis. |
Of course, it’s awful on almost all counts that taxpayers get stuck holding the bill. But as I often say here, most of life’s choices aren’t between good and bad (and a bailout is clearly bad) but rather, between bad and worse (an economy-wide credit crunch). It’s cheap & easy moral pontificating to iterate the umpteenth reason why the situation is Bad (or why some sort of Wall Street comeuppance is Good). What real adults have to do is accept the bad to avoid the worse.
This interview from Greenspan, circa August 2008 is quite plain & direct about the necessary outcome -
The collapse in home prices, of course, is a major threat to the stability of Fannie and Freddie. At the Fed, Mr. Greenspan warned for years that the two mortgage giants’ business model threatened the nation’s financial stability. He acknowledges that a government backstop for the shareholder-owned, government-sponsored enterprises, or GSEs, was unavoidable. Not only are they crucial to the ailing mortgage market now, but the Fed-financed takeover of investment bank Bear Stearns Cos. also made government backing of Fannie and Freddie debt “inevitable,” he said. “There’s no credible argument for bailing out Bear Stearns and not the GSEs.”
If there’s a silver lining here, perhaps it’s that taxpayers & voters will have been taught a bitter lesson about what danger lurks the next time a politician tries to promise some new class of positive, economic rights…
There’s no such thing as a free lunch and when a politician promises economic benefits to one group what it usually means is that costs will be displaced either in time or to a different, less politically favored group. Most often, that “group” is the public at large who have better things to do with their time than scrutinize the cost of individual earmarks. We’re now seeing the price of govt attemps to create a “right to home ownership”; similar days of reckoning await with “right to retirement” and “right to healthcare”. (Imagine the massive unused daytime TV commercial airtime and unemployment in the Scooter industry when/if the Medicare gravy train grinds down 
)
So what is perhaps uniquely Desi about the whole thing? Well, in that same interview, Greenspan offers one, relatively straightforward (albeit partial) remedy. Simply put, the current crisis is caused by a price collapse as too many homes chase too few folks who reliably make their mortgage payments. So, why not *import* folks who are more predisposed than average to being both credit worthy and buying new homes?
“The most effective initiative, though politically difficult, would be a major expansion in quotas for skilled immigrants,” he said. The only sustainable way to increase demand for vacant houses is to spur the formation of new households. Admitting more skilled immigrants, who tend to earn enough to buy homes, would accomplish that while paying other dividends to the U.S. economy.He estimates the number of new households in the U.S. currently is increasing at an annual rate of about 800,000, of whom about one third are immigrants. “Perhaps 150,000 of those are loosely classified as skilled,” he said. “A double or tripling of this number would markedly accelerate the absorption of unsold housing inventory for sale — and hence help stabilize prices.”
And, of course, any wholesale increase in “skilled immigration” to the US has a pretty disproportionately positive impact on Desi’s. So Desi’s - do your part, go forth, multiply, and continue to maintain your credit scores assiduously.
UPDATE: Another Desi angle
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Corporate America has just lost a chunk of its value the size of the Indian economy.
vinod on September 30, 2008 11:38 AM in · T·r·a·c·k·b·a·c·k address · Direct link · Email post
I think you're going pretty light on the complicity of the private sector in the creation of the credit-rating oligopoly--gov't creates regulation but the businessman is every vigilant to policy language that could advantage his/her firm over another and ever assiduous in cultivating relationships with legislators who can ensure that such legislation is only favorable to his/her firm in terms of compliance costs, etc.
so what is your preference, Mussaism or Greenspanism?
>>the more I believe some sort of bailout is ultimately necessary
Et tu, Vinod? :(
>>What real adults have to do is accept the bad to avoid the worse
I don't think a large section of the American public is convinced that things would be worse for them. I think that there's a ring of truth to the fact that the bailout will help the rich and the poor, at the expense of the middle class which is being thrown under the bus (middle class folks don't riot).
What this bailout does is to push the pain down to the next generation, who will see hyperinflation and increased taxation. Moreover, the flawed ideas of social security, medicare etc won't get their comeuppance.
As to the truth that this mess we're in is because of Government policies and intrustion - Yes, that'true but only partly. The public and the banks are to blame as well. Look at it this way - if you're not saving today because you're counting on Social Security in your old age - is it your fault or the Government that promised you Social Security (and then defaulted)?
M. Nam
>>Admitting more skilled immigrants, who tend to earn enough to buy homes, would accomplish that while paying other dividends to the U.S. economy
Fast tracking Green Cards/Citizenships for immigrants who buy foreclosed houses is certainly a good idea. Hope this gains bipartisan support from both parties.
M. Nam
Perhaps the government needn't have tried to establish homeownership as a right, but that has long been part of the American dream- every family with a house, two cars in the garage, a chicken in every pot etc.
On the other hand, no one forced the large ibanks to fill their portfolios with CDOs and mortgage-backed assets. Notice how Berkshire is one of the only financial stocks that went up yesterday, and Buffett has been buying stuff left and right. I guess he wasn't as out of touch as people have been saying for the past 6 years :)
I think we should let more of these institutions go the LEH way and once and for all clear the crap. What happens when the bill passes and government actually starts buying these assets? What price do they buy them at? Book Value, there is no established market so who and how is the price determined? And also if someone here knows the rationale behind the $700 billion number, please share
I would never take personal financial advice from this man. He has single handedly caused many folks to pay thousands of dollars of additional interest since they are now stuck in ARMs @ 7.5% or greater. These are folks who refi'd from fixed term to an ARM based on this speech in 2004. At the time I thought that it was inappropriate that Greenspan would be pushing a personal finance product especially since the federal funds rate was the lowest @ 1% with no chance in hell of ever going lower. I had just refi'd from a 30 yr fixed @ 5.75 to a 15 yr fixed @ 4.50 and was tempted to go the ARM route. People I know called their brokers and got into ARMs based on this speech. The rest of 2004 the Federal Reserve kept increasing the rate 0.25% every quarter. December 2005 onwards the housing values in Michigan got into a death spiral and none of those ARMs could be refinanced into fixed term, without a large downpayment, since the loan was larger than the current value of the home. These are desi folks who are very hesitant to foreclose but that may be the best option.
Plus Greenspan is hardly non-partisan now, he is an advisor to Pimco, Deutsche Bank and Paulson and Co.
not sure about this. as was discussed in the presidential debate this bailout would mean more cuts to other programs and competing priorities for the next president. maybe only those banks/investment firms,whose failure would affect the hard-working, salaried working class/middle class the most, deserve a bailout.
umberdesi asks: >>also if someone here knows the rationale behind the $700 billion number, please share
In the words of Hank Paulson: We didn't exactly figure this out with a calculator.
M. Nam
Going by recent events, what you certainly DON'T need is more Wall Street desis!
Which is what I read and couldn't believe, brilliant
3 · MoorNam said
What fairytale world are you living in, Moornam?"First our jobs, then our houses" will be the public response to that piece of legislation. The Dobbsians will paint outsourcing as economic terrorism and claim that this time the attack is happening on American soil. I wonder which legislator will put himself in a politically precarious position by supporting a policy. The only thing they can do is quietly increase the immigration quotas for skilled workers and never link it to the sale of foreclosed properties.
please see this
Oh, PUH-LEAZE! You might THINK the government was the Rethuglicans who've been the majority in Congress for the past 14 years, and you MIGHT blame it on them, but we all know the government is already bought and paid for my industry lobbyists who write the actual regulatory language that's supposed to reign them in.
Big Business = Our Current Government = Big Business (and Paulson = Goldman Sachs)
I'm not sure what crackpot video you were trying to link to on YouTube, but if it's the one about the Community Reinvestment Act causing the current crisis, you're wrong again. The community credit unions and small banks that made those loans are doing just fine, even today, thank you.
Greenspan needs to go read some more Ayn Rand or something. You still take that man seriously? Really?
I don't know all the financial jargon people are going to drop to tell me how stupid and wrong I am, but as far as I know, this crisis has more to do with betting on bets (credit default swaps and derivatives derivatives derivatives) than on the housing bubble's burst.
John Gault! Howard Roark! Ken Lay! Where are you when we most need you!!!
I don't know all the financial jargon people are going to drop to tell me how stupid and wrong I am, but as far as I know, this crisis has more to do with betting on bets (credit default swaps and derivatives derivatives derivatives) than on the housing bubble's burst.
Fannie, Freddie, Lehmann, Goldman, Morgan, Bear and Julius Caesar sold/lent $40 based on the $1 that you repaid on your mortgage. The govt allowed them and now they blame the guy who walks out on the $1 contract.
Thats how I read it.
14 · Harbeer said
I'm not sure that proves anything, Harbeer. Those banks my be doing fine but lehamn, fannie and freddie aren't. Why? Probably ibanks like lehman took those loans off the community banks books, repackaged them into mortgage backed securities, and sold them to themselves (their internal hedgfunds), other hedge funds, insurance companies like AIG, and off course freddie and fannie...massive govt sponsored enterprises that more or less make the secondary mortgage market.
There's a lot going on here, and not just the CRA. The Clinton admin, for example, pushed banks to extend home mortgages to individuals whose credit prevented them from qualifying for conventional loans, asked them to reduce down payment requirements, while simultaneously pushing Fannie to ease credit requirements on loans purchased from these banks and other lenders. HUD wanted 50% of Fannie and Freddies portfolio be made up of loans to low and moderate-income borrowers. Everyone knew at the time that this meant considerably more risk but the move was intended to increase the number of minority home owners , so everyone looked the other way.
By 2003 Fannie and Freddie accounting scandals began to hit the fan, fanned by the WSJ excellent reporting on the matter. McCain and Greenspan called for more regulation (blocked by the dems) and the 2 companies were asked to justify their government subsidy, which they did by pointing to their affordable housing mission. Around this time their subprime portfolios grew enormously.
this is very true, but the housing bubble/subprime loans and derivatives are intricately intertwined. mortgage defaults appear to be amplified within the derivatives market, and that's arguable the crux of the problem more than the original lending. but i'll come beck later to try to explain what i think is going on there.
15 · amaun said
in the meantime, that wasn't a bad summery
15 · amaun said
Thanks for breaking it down. It takes a true scholar to express "complex ideas" in simple words.
But there is no fingers being pointed at Bill Clinton and Greenspan for starting this mess.
16 · Manju said
That's not what BUSINESS WEEK reports in the article I linked to. It's BUSINESS WEEK, not SOCIALIST WORKER
But there is no fingers being pointed at Bill Clinton and Greenspan for starting this mess.
WSJ, going back to 2004, has been after Greenspan for going too easy on the fed funds rate in the 03-04 era. After the 9/11 market panic Greenspan left the fed funds @ 1% far too long.
Sorry, but Greenspan talks from both sides of his mouth. Right now he seems intent on clinging on to his faded glory and selling his book. The sooner the everyday-American realizes that the days of riding the gravy-train is over, the sooner the country can get back on the right track. And this includes the realization that there is absolutely nothing that just being ‘American’ makes one inherently better at. So this requires hard work right from high school, living within ones means, and losing that sense of entitlement. Which of course describes most desis here quite well! Wish there was a way to knock this into the heads of all Americans!
So when binLaden said he would bring down America, we never assumed Greenspan helping him :)
Who knew vinod was such a welfare queen when it is his money and his buddies on the line?
20 · Harbeer said
Yes, it does appear that CRA banks were much more likely to hold their loans than non-cra banks, buts that very different from saying they ddn't sell their loans to ibanks. The study biz week cites shows CRA banks sold 64% of their loans to ibanks, much lower than non-cra banks (who log in at 84%), but still significant indeed.
24 · baby momma said
silicon valley is still active and doing fine, and in general VC funds don't us much leverage, so it looks like vinod is being generous by bailing out silicon valleys sketchy cousins: wall street traders.
13 · umber desi said
it is clear that miron has an axe to grind. when you have a hammer all you see is nails. libertarians want to equate regulation with poison and de-regulation or no regulation as a panacea for economic growth and market health. ok, so risk-taking by fannie mae and freddie mac had a role to play in this crisis, but what about the fact that a large part of why Wall St got to gamble with investors' money with their fancy financial instruments is attributable to deregulation ushered in by the Commodity Futures Modernization Act and the Gramm-Leach-Bliley Act?
Sound regulation (or incentive structures) homogenizes contracts and decreases transaction costs -- lubricated markets -- which I am told are the stuff of libtertarian and objectivist wet dreams.
What greenspan was really talking about are the thousands of Indian and Chinese immigrants, who are already in the country, in Adjustment-of-status, waiting for their GC (which is stuck because they have country limits on employment GC quotas). These people would buy houses if their status was more concrete and if they had a GC. Its illogical to have country limits on "employment" quotas, but thats a whole different discussion.
16 · Manju said
Manju: Are there any data which show that community banks were lending at subprime rates in more instances than regular commercial banks? Were their lending practices really worse than the the industry norm? I hope you're not swiftboating community banks for no reason at all.
It is not enough just to blame government (psst. Bill Clinton aka democrats) for the fact that they intended to increase house ownership for poor people. It is also important to realize who is responsible for the failure of the bailout and the fall of the Dow yesterday: Nancy Pelosi.
Poor innocent disadvantaged Wall street firms and republicans have had no voice in the congress for the last 20 years, and no voice in government for such a long time, all they are trying to do is get a fair year's pay for a day's work, and it is ridiculous to try and believe that they had any role at all to play in downplaying the risks and hiding the extent of their leverage.
29 · factual aversion said
no, just the opposite. see #25. Also, #16, loosening lending requirements went beyond the cra. and then we have derivatives, which i haven't gotten to yet. at the end of the day its clear crises won't fit well into any one ideological narrative. very annoying.
31 · Manju said
right, but i see that hasn't stopped vinod from believing.
factual aversion!
31 · Manju said
Gawd I hate when that happens. Bring back black & white, us against them!
Sorry, I can only give you black and brown.
16 · Manju said
i see it hasn't stopped you either manju. like some people bring it back to hitler, you bring it back to the pernicious minorities.
what about the laws that deregulated derivative trading? were those also created for the benefit of the minorities? damn those black and hispanic and azn gangs repackaging their peoples' bad debts into mortgage backed securities in the ghettos of america! a pox on society! this what happens when you provide sexual education in school. the women become head of the household, the babydaddies become queers in jail and marry each other, and the kids become renegade financial engineers and set fire to the markets.
35 · factual aversion said
i didn't bring it back to this. i mentioned it. its part of the puzzle. sorry if it doens't fit your narrative.
Wasn't CRA enacted in 1977? You only need "google" to find a rebuttle to the idea that CRA is the culprit. I've read figures that CRA only covers/ed 1/4 of subprime loans.
According to this Harvard study on credit scoring and underserved populations FICO scores were mandated for use by Fannie/Freddie in 1995.
Banks didn't make loans because CRA forced them to,loans were made, further securitized /tranched to make money. I don't think we can pin this crisis on minority home owners with bad credit.
Of course we can. What are they going to do about it? Hire a lobbyist?
Vinod linked from an article circa August 2008. August 2008?! Not very prescient was it?
At the Fed, Mr. Greenspan warned for years that the two mortgage giants’ business model threatened the nation’s financial stability.
Some people the NYT interviewed have a different recollection. (he was for it, before he was against it)
Fed Shrugged as Subprime Crisis Spread
37 · economic dilettante said
it was, but its mandated evolved considerably. more importantly is the role of fannie and freddie, who more or less make the mortgagte market. without them i doubt the demand for subprime would be there in the secondary market. i don't know if their easing of credit requirments was part of cra's evolution, in may have been, but that sounds like an important catalyst for htis crises, knowing their unique and pwerful position in the market.
how badly must deregulation have f---ed up when even manju can't come up with a fig leaf of an argument to absolve them, and has to resort to bipartisanship. i guess it is tough times for everybody indeed.
even ronald reagan's apocryphal welfare queen didn't commit this scale of fraud or take the govt for close to a trillion.
41 · oops i did it again said
which dereg are you reffering to?
35 · factual aversion said
which laws are you refferring to?
41 · oops i did it again said
i don't think there was much fraud, except for fannie and freddie accounting and some sleazy mortgage brokers (but they are small potatoes). i'l explain later as the derivative part is a little harder to untangle.
'02-'06 Global investors hungry for more investments in the American market wanted mortgage-backed bonds, there weren't enough mortgages to meet the demand, that led to no income verified assets that begat no income/no asset loans (liar's loan), 23 dead people got mortgages in Ohio, the bad loans were packaged and sold to Wall Street, Wall Street packaged the loans and sold them to the global investors. The financing and those doing the financing are to blame.
41 · oops i did it again said
hey, i'm a famous obama supporter so that makes me the most bipartisn person on this entire blog.
45 · bess said
bess, that true but it sounds like micelle malkin's illegal immigrants getting mortgages scenario. it certainly happenned but how much did that contribute to the crises.
bess, i meant the 23 dead people scenario. certainly investors wanted these securites, but i think the biggest fish was fannie. plus a key aspect to this crises is that wall street wan't passin these securities of to unsuspecting individual invesors, (unlike the Internet and accounting frauds at the end of the clinton boom) but rater to sophisticated professional investors and even ther desks within their own firms.
that tells me that these securities are in all likelihood worth a lot, but some peculiar market events has valued them close to zero. all those desis from IIT can't be this wrong.
I hear Merill Lynch had a pretty big appetite for mortgages. In fact (Bloomberg news May 2006) they bought a mortgage lender.
That minority feller Stan O'Neil (former Merill CEO) " Fatefully, oversaw an expansion into mortgages, approving a decision to push Merrill's expertise in repackaging and re-selling home loans on the debt markets." No doubt that other
black dudeFrank Raines over at fannie mae has blame coming to him, I just don't see this as a problem caused by "liberals" and/minorites.default risk was massively understated on a systemic basis. this entire fiasco reminds me of a very memorable quote on ltcm: they complained they were struck by lightning. well, if your business involves standing in the middle of fields, you should expect to be struck by lightning.
bootstrap theorists who emphasise a culture of personal responsibility have no business making excuses for the massively lackadaiscal way in which wall street estimated its exposure. and now we all pay the price. on both ends, both with the downturn and with the cost of righting the economy.
dumbed down article, but it explains how wall street evaded the mandatory checks it was supposed to have to avoid exactly this kind of situations.
51 · bess said
not sure, bess. they weren't neceeasrlly passing them on either. they were holding them in their own hedge funds (as well as selling them.) it not the internet pump and dup/reserach scandel here.
umm...
50 · oops i did it again said
ah, but ltcm's portfolio of derivatives proved to be quite valuable, just the firm was so overleveraged they couldn't survive a deviation from their models that russia default represented. could the same be happening here?
not pump and dump, repackage and sell. gotta go - be home for dinner ; )
48 · Manju said
Economists and salespeople tend to be Pollyannas. The future is always bright when you're trying to sell something. The whole practice of using GDP as a measure of economic health is short-sighted and needs to be relegated to history's trashbin.
50 · oops i did it again said
well, what a charmed life i live. at the moment wall street stumbles i've embraced president obama's philosophy of no personal responsibility. what luck. i've earned the right to make excuses.
you both r missing the true nature of the crises. these seucrites were often held in house and, when they were sold, sold to traders at hedge funds who were probably the salesmans boss a few years earlier. i think this will prove to be very important as things unfold.
They would like a trillion, but it sounds like a really large number. $500B is clearly not enough. $700B is a compromise.
There are around 50M households with mortgages. By the end of 2007 when prices had fallen 10% from peak, 8.2M households were underwater. Using Case-Shiller projections and other bottom predictions, average prices will probably fall 35% from peak putting about 23.6M mortgages underwater. If half of them default and each default leads to 50% losses (transaction costs + fall in price), you get 216K * 23.6M * 0.5 * 0.5 = 1.3 Trillion, using median home price of 216K. If 1/3rd defaults, you get 216K * 23.6M * 0.33 * 0.5 = 840B. 700B is a conservative estimate of total mortgage losses.
Question is what's the best way to inject this amount back into the system, and prop up the fragile house of cards, given the pooling, derivative, leverage, layering, reselling, MBS, bankruptcy, mark-to-market, firesale, counterparty risk mess.
So you are backing away from Freddie/Fannie as being "the engine" of this?
NYT Jan. 2008From the same article ;Last month, H&R Block, the tax preparation company, announced it was closing its mortgage lending arm after the private equity firm Cerberus Capital Management walked away from a deal to buy it for $300 million.
H&R Block/ Blackstone Group/ Cerberus Capital Managment covered by the CRA? I think not.
We need to prop up the system so that we can start inflating our next bubble. Its amazing that a lot of people couldnt see that a 0% down, interest only mortgage is actually not the way to become a home owner, but a way to be a renter with huge credit risk.
Why just bash the government when the people themselves engaged in huge borrowing and living way, way beyond their means.
One research firm had data about the last 5 years GDP growth with and without Mortgage Equity Withdrawls (MEW) and it was apparent that most of the positive GDP came from the MEWs (people using their homes at ATMs).
BTW, just as a related side note, I think that McCain is toast now. I thought he did have a real shot but with this kind of financial uncertainty its lights out, I think.
61 · dilettante said
well its not either or. in fact fannie, freddie, aig, and hedge funds (including those within ibanks) are all on the some side: ie professional investors who make up the distribuion network for the sales & trading desks of wall st ibanks. hey are the secondary market, especially fannie and fredie, whose size dwarfs the hedge funds.
Something this systemic has multiple "root causes"
This 1999 NYT article is interesting.
Yes Gujudude that NYT article is interesting. In fact in 2004 someone from Harvard (see link in #37) did a study on the subprime market/ FICO scores and housing- I found it useful.
I can also agree with RC that there were less call them "niave" consumers out there who brought homes that they should not have, as well. There really is enough blame to go around...which is why I've bothered Manjunath on what seemed to me, his one sided assessment
Home Equity Frenzy Was a Bank Ad Come TrueI would like to know what Prof. Shiller (of Case-Shiller) thinks of the Paulson plan.
66 · RC said
Like to have it handed to you, do you RC? Kidding!
Yale Daily News from yesterday
Washington Post op-ed from Sunday
Unlikely. Home prices are fundamentally driven by household formation, interest rates and income growth (or lack thereof). Demographics, deficits, historic low rates of last few years, wage deflation caused by globalization, along with recent supply glut, seem to suggest any price recovery following mean-reversion will be too long-drawn to recover anything significant from a big chunk of subprimes, Alt-As, and second loans written over the last few years.
48 · Manju said
manju, as i've said before, they're so wrong that they're right.
bess, did you hear the 'This American Life' piece on the mortgage crisis? Your take on it sounds much like theirs. Very entertaining and solid structural account for lay people here.
Manju, you'll be ill to know (as all the Americans I'm speaking to about the financial crisis) about how these mortgage securities guys working in random finance firms were sipping Cristal at Marquee with B-grade celebrities. Aren't you glad that these million-bucks-a-year-fresh-outta-state-school-grads are finally getting their comeuppance? It's time for personal responsibility, son.
59 · Manju said
you both r missing the true nature of the crises. these seucrites were often held in house and, when they were sold, sold to traders at hedge funds who were probably the salesmans boss a few years earlier. i think this will prove to be very important as things unfold.
Keeping it in the family sounds less creepy when they do it.
Thanks Chachaji !!!
Dipanjan,
Agreed about home price deflation but what about the fact that the middle and the south of the nation never experienced the kind of home price boom that the coastal states experienced. In suburbs of Houston and Dallas during the last 5 years home prices barely kept pace with historical home price inflation.
So essentially this problem is a coastal problem (also upper midwest problem, but that is due to lack of employment) and as a result we might be overestimating the size of the problem.
62 · RC said
I worked at a loan brokerage in 2005-2006. We specialized in sub-prime loans and we never went to great lengths to explain the real risk to the buyers--partly because we were genuinely pleased to help them gain the keys to their first home, partly because we didn't see this coming, ourselves, even, and partly because the banks paid us a Yield Spread premium on the back end if we sold the buyer a higher interest rate.
Some people were smart and hung up on our cold-calls. Others trusted us because we truly believed in our product--we were not deliberately lying to them.
Fortunately, I didn't do so well in that business and came to grad school to get my MFA instead. None of the (very few) loans I referred to my agency have defaulted...yet...[crosses fingers].
Living beyond their means, though...that's just the American way.
70 · Nayagan said
roundtripping is truly the oldest profession in the world.
FWIW, I also don't blame Freddie/Fannie as the sole cause of the bubble anymore than I blame Clinton/Bush for the cause of the dotcom bubble. Asset bubbles happen just like drunken parties + morning-after hangovers happen. In hindsight it was obvious that everyone should have drank less but it's tough to imagine the regulation that would have prevented it (what law would you have passed to "force" investors to pay less for Pets.com?)
Freddie/Fannie did however make the mortgage bubble different from dotcom in a couple of important ways -
- they vastly increased the size/scope of the bubble. Freddie/Fannie have nearly a trillion dollars in assets EACH... there were no trillion dollar entities in the dotcom bubble; direct and indirect policies adopted by them in the 90s and 00s vastly increased their participation in subprime loans; their pioneering work in lower downpayment & CRA loans were originally crafted for the poor but tricked "up" to middle class owners who used 'em to buy McMansions beyond their means, etc. There were attempts to tighten Freddie/Fannie's lending standards but that would have meant fewer loans for poor / minorities / etc.
- as GSE's, they drew the government (& taxpayers) into the problem in a very direct way. For better or worse, other financial market players did behave differently (e.g. more recklessly) around them because there was always that implicit promise that Uncle Sam would ultimately pick up the tab. Entire classes of banks arose who's primary business became finding loanable consumers and selling the loans back to Fannie/Freddie (by contrast, the dotcom bubble mostly burned some banks, companies, dotcom employees, etc. aside from tax receipts, the feds weren't "hit" and noone got bailed out... just as it should be)
So, there's now an entire class of assets (underperforming loans) which, while they wasn't responsible for creating, they did vastly accelerate through direct policy as well as implicit govt assurance. Eventually, those implicit assurances have to become explicit lest the entire framework built on top of them crashes.
yes, and the government should make good on those assurances by nationalizing these underperforming firms for the duration it takes them to get their risk-return on track. otherwise, samuelson might as well rewrite his economics textbook and change his first chapter to "fuck yeah, there is such a thing as a free lunch."
Most people are wondering and analysing what went wrong, who made which mistakes, and greed overcame whom.
Let's consider a separate hypothesis: This mess has been caused intentionally.
Let's say, there exists a group of people who are pissed at the direction the country has taken in the last century from an economic and social point of view. Let's say these folks themselves were quite successful personally, but failed in trying to change the system no matter how hard they tried. So they wait for a sympathetic president in the 80's, and they install their Trojan horse as the Fed chairman. This man patiently studied the system from within, and gave an impression that he had abandoned all his earlier principles (tight credit, gold standard). Over three Presidents, he tests the stress points of the system. First time he brings the system to its knees based on a single hedge fund's positions and props it back up. The second time he inflates the internet bubble and pops it. And then he inflates the housing bubble and pops it again, knowing fully well that three pops within a decade will crush the system.
All the time, he is helped by the rest of his friends in key places. You think these folks (who are billionares) were greedy to make more money? You think they made mistakes with their swap/CDO models and pricing? Think again.
Now finally, what should have happened over the course of fifty years will happen within five. The mergers, collapses and takeovers that happen over the course of a decade have happened just within this one month. The landscape will be changed forever. Credit will be very difficult to get. Retirement/Pensions will be redefined as Social Security and Medicare pay one tenth of what they were intended for. Gold standard will start to make a comeback (Russia is rumoured to be considering that this week. China's quitely piling up reserves). People will have to pay cash for most of their monthly expenses. Houses and cars will require 50% down. And women will go back to giving their body only to the man who will provide for them for the rest of their life.
Who needs TV for entertainment?
M. Nam
Ah, the Freudian slip which shows us what your analysis is all about!
;-)
76 · MoorNam said
I'm no expert, but there have *got to* be easier ways to
get laidhave a slave.What? HMF orchestrated the meltdown?
76 · MoorNam said
You seem to think that infidelity will disappear in a more stratified society, ha! Just wait 'til I show up as your cabana boy, rich man!
Yes, in Krugman terminology [link] (2005 op-ed, btw), there is a "flatland/zoned zone" dichotomy in USA. But investment money from coastal bubble equity poured into Vegas, Inland Empire and Arizona. Current Case-Shiller chart of decline-from-peak shows that top two losers are Pheonix and Vegas neither of which is coastal. [link]. Also Detroit is in top 10.
Some consensus is emerging about expected peak-to-bottom decline (look at JP Morgan's estimates made public last week when they acquired WAMU garbage) and how many mortgages that decline will put under-water, as well as loss severity of defaults. One big variable is what percentage of underwater mortgages will eventually default. 33% gives 840B. One could argue it will be 15%. On the other hand, given the dominance of more expensive coastal cities in the biggest loser list, one could also argue that the median of defaulting mortgages will be significantly higher than national median 216K, putting total loss estimates back to around 800B-1T. Using a different set of numbers, Brad Setser guessed, if assets were valued at par before the crisis, aggregate losses would be around 1.4 trillion. [link]
60 · dipanjan said
They would like a trillion, but it sounds like a really large number. $500B is clearly not enough. $700B is a compromise.
There are around 50M households with mortgages. By the end of 2007 when prices had fallen 10% from peak, 8.2M households were underwater. Using Case-Shiller projections and other bottom predictions, average prices will probably fall 35% from peak putting about 23.6M mortgages underwater. If half of them default and each default leads to 50% losses (transaction costs + fall in price), you get 216K * 23.6M * 0.5 * 0.5 = 1.3 Trillion, using median home price of 216K. If 1/3rd defaults, you get 216K * 23.6M * 0.33 * 0.5 = 840B. 700B is a conservative estimate of total mortgage losses.
Question is what's the best way to inject this amount back into the system, and prop up the fragile house of cards, given the pooling, derivative, leverage, layering, reselling, MBS, bankruptcy, mark-to-market, firesale, counterparty risk mess.
Boston_Mahesh wrote:
Very interesting. I have a couple of questions:
1. What do you mean "Underwater"? I assume that you mean where the outstanding mortgage amount exceeds the value of home due to depreciation. As an example, a person borrows 90,000 to purchase a 100,000 home. 1 year later, only 1,000 of the principal is paid off. But the home is worth now 88,000. But their loss is about 1,000, and this isn't that bad. Please clarify this "underwater" phenomenon.
2. Instead of purchasing these junk bonds at 700B - what would be the advantages/disadvantages of allowing the companies to go bankrupt, but the 700B is given to the delinquent mortgage owners? This would have the effect of making the financial institution's share value become 0, but the homeowners would be saved. This also, in effect, "punishes" the shareholders/financial institutions but subsidizes the homeowners.
Hello Brown Friends,
I vividly have a memory back in '02, and another one in '04. They both are very different, and they reflect the loopholes and greed of the industry.
Back in '02, I had a friend named Naveen who was a loan officer (not his real name). Naveen had some program/system on his computer at home which allowed him to underwrite the mortgages. As a loan officer, there are other entities which process the bulk of the loan, and who require proof of the income of the borrower. This underwriting system still required income info, but I vividly remember that there was a way to "shock" the system, and somehow ignore existing debt that the borrower has outstanding. I forget the details of this, but I remember that it was possible to get a consumer a favorable loan even when their debt-to-equity was high.
Back in '04, I was interviewing for jobs. I remember one of the employers was a mortgage loan officer. He was a very flashy looking, preppy white kid, I remember. He told me, very calmly, that their model was to sell ARMS, which adjust. As time goes by, the interest rates would rise, and the borrower would have to refinance. The loan officers would have the consumer's data and relationship history in their sales system (i.e. CRM system), and a few months later, would call the consumers up, and offer their "help". I totally remember this vividly.
Here are my concerns and questions:
1. It's possible to purchase cars with 0% down, and a car loan is "always under", since the car's value is most of the time worth less the principal owed. Why doesn't this wreak havoc in the markets? These are re-packaged and securitized.
2. Is only the subprime tranche bringing down the entire sector, or is it also the people with the high credit scores that are defaulting?
From a desi point of view, they used the desis/immigrants to create the bubble, now they want the same/more desi slaves to put in their hard-earned money to buy from the cunning speculators who will otherwise go bankrupt (and pay for their specularion/greed), and save the banks as well.
No, desis are not coming in for a rescue. Desis are being brought in to be the suckers nth time over. And desis being desis will play mostly by the rules, put in 20-30% down etc etc.
America may nt like immigrants all that much, but it loves immigrant labour and certainly their hard earned money. Another round of builders and goras can now squeeze the poor desi (engineer type) once again and make even more money..
@83,
1) Yes, under-water = outstanding mortgage > market price of the house.
2) Official version: currently because of insolvency fears, short-term credit market is entirely frozen and TED spread -- difference between government and commercial lending rates -- is at record high. Also there is a real danger of a series of bank runs. Immediate task is to restore confidence in the system so that banks can start lending again, without which central banks can prop up the global financial system only for a few more weeks. Buying illiquid mortgage-based assets at a "reasonable" price, and thus re-capitalizing banks through back door, does just that. Handling each situation on a case-by-case basis as they were doing till now (bridge loan to AIG, let Lehman fail, broker deals for Bear and Wamu) is not sufficient to restore systemic confidence.
They are probably not exaggarating the risk, but questions remain about pricing the assets, oversight and transparency of transactions, upside(?) sharing and ownership of the institutions selling assets.
84 · amit said
I love that game! That squeaking sound they make fills my heart with joy, though you must have to squeeze pretty hard to make a bubble. (There was, however this one guy I went to grade school with who'd make bubbles with his nose, but I wouldn't even want to squeeze him. Chi-chi-chi-chi.)
Haha,--err, no--OK, Harbeer, now I know why we don't agree on basic topics--of course, no reason to take this to an annoying or undignified level, but your chortling over this makes me--err--much more of a classical liberal. Rethink yourself, man.
87 · rob said
Not sure I follow. What do snot bubbles have to do with negative rights?
Eff dignity. Harbeer is the trickster. Chortle chortle.
Vinod said:
You glibly called CRA a "right to home ownership". What "rights" were Blackstone group/H&R block/Hedge funds/ IB's etc exercising when they used the lack of regulation on what type of institutions could be involved in which types of asset classes?
And wasn't that pioneering work hailed as 'innovation' of letting the market work it out, vs strigent rules and interference from the govt. about who could underwrite mortgages for whom?
So with 20/20 hindsight,albeit of a longer view than circa August 2008, perhaps Mr. Greenspan might have urged caution,etc about the excess of Fannie/Freddie? Wasn't that the point of his appearances before congress to advise on economic matters? During a 60min interview , he admitted he "didn't get it". This story isn't over yet,and as I've said, there is plenty of blame to go around. However Its sickening to see the lax regulation,greed (which is of course good when the right sort are involved), blamed on Jamal and Shaniqua, lets not forget Travis & Brianna, and those soft hearted liberals who were tyring to force the market to provide homes for them. Or as you suggest- we can have the Patels over, stop the Lopez's from coming in, and "Bob's your uncle" ;-)
>>Ah, the Freudian slip which shows us what your analysis is all about!
Freudian? Me?
Economic climate and social behaviour are intricately linked. Was so thousands of years before Freud and will continue to be so.
M. Nam
The level of incomprehension about capitalism that true believers in "capitalism" have is truly miraculous to behold. Even THIS doesn't shake your faith in your basic, flawed preconceptions about state, society, market, government, etc? There is a special circle in heaven reserved for true believers such as yourself, vinod. truly breathtaking.
The rest of us will be busy cleaning up the mess of Friedman, Greenspan, Clinton, Bush, et al.
I think with respect to auto loans, the amounts of loan securitized are small compared to mortgages and the loans are shorter duration.
I don’t think it is only the subprime backed securities that are devalued, the alt-a loans are also stressed.
The rest of us will be busy cleaning up the mess of Friedman, Greenspan, Clinton, Bush, et al.
Who are these "rest of us" and, how do they plan to clean the mess?
dill: i didn't respond to your earlier blackstone comment b/c i didn't understand it. what is your point? i don't get the vague reference to galss-steagel either. personally, i think blackstone is poised to save the day, but i'll leave that until after i hear your arguemnt.
Dr asks: >>Even THIS doesn't shake your faith in your basic, flawed preconceptions about state, society, market, government, etc?
But what about that heavenly place that liberals constantly want America to emulate - the place where state, society, market and Government are working in perfect harmony to create utopia. Europe.
In that last two months, more than five major British institutions have been nationalized or bankrupted, two french banks and a bunch of State pensions in France, a dozen retirement funds and two mortgage brokers in Germany, housing companies in Spain, Iceland and Sweden...the list goes on. I mean, these are snobby countries that profess to hate Capitalism and Free markets, where Government regulation is supposed to have removed all chances of foul play. What happened to their famed model?
M. Nam