“Greed” – Being Ever-Present – Explains Nothing

by Don Boudreaux on October 12, 2011

in Country Problems, Government Intervention, Housing, Hubris and humility, Myths and Fallacies, Subsidies

It’s too bad that Peter Wallison’s exceptionally clear and concise explanation of the causes of the housing bubble is available in full only to subscribers to the Wall Street Journal.  Here’s his conclusion:

The narrative that came out of these events [the government-sponsored bubble and its inevitable bursting] —largely propagated by government officials and accepted by a credulous media—was that the private sector’s greed and risk-taking caused the financial crisis and the government’s policies were not responsible. This narrative stimulated the punitive Dodd-Frank Act—fittingly named after Congress’s two key supporters of the government’s destructive housing policies. It also gave us the occupiers of Wall Street.

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muirgeo October 12, 2011 at 9:07 am

In my opinion he shows no understanding of the housing crisis what so ever. First the primary problem was decreasing wages and the need to fund more debt spending to keep demand up. That aside no one can give a cogent sensible explanation of how the housing collapse happens with out repeal of the Glass-Steagall Act and with out the deregulation of financial derivatives.

If we put ALL the blame on the government for $1 trillion dollars of bad housing loans it pales in comparison to those loans being leveraged 100 times over into $100 trillion dollars of bad assets completely created voluntarily by the private finance and banking sectors whose primary function is to decrease risk and efficiently allocate resources.

We are not in a global economic crisis because of American housing policy. The rest of the globe did not have our housing policy. We are in a global economic crisis because of the free market toxic products created by America’s Wall Street financiers whch to this very day infect all markets and balance sheets of governments and big banks and ultimately all of the economy.

Finally, the ability of Wall Street to do what it did was ALL the result of their being able to lobby for everything they wanted, including regulatory capture and pushing Greenspan to keep interest rates low. They bought the policy that leads us to this great disaster because we allowed them to accumulate so much wealth and power and we allowed them to bribe our politicians and auction our democracy.

Bruce October 12, 2011 at 9:16 am

could you please point out which financial products, other than mortgage backed securities and the credit default swaps which were used to hedge against them, you regard as toxic? Could you also link to any authoritative source which shows the adverse financial impact of these products on the market? If not, one might be lead to assume that Wallison’s points are more “reality based” than yours.

muirgeo October 12, 2011 at 9:34 am
Seth October 12, 2011 at 1:39 pm

The key causes in your link:
- “Widespread failures in financial regulation…”
- “Key policy makers ill prepared for the crisis, lacking a full understanding of the financial system
they oversaw”
- “systemic breaches in accountability and ethics at all levels”

These causes do not include deregulation and I’m not where will you find folks that have a full understanding of the financial system they are meant to oversee. If such people existed, they’d probably be wealthy enough that they wouldn’t want to bother doing that job.

Josh S October 12, 2011 at 10:41 pm

You must be new here, all responding to muirgeo and stuff.

muirgeo October 12, 2011 at 9:34 am
Bruce October 12, 2011 at 9:45 am

So you link to a report where the government basically absolves itself of wrongdoing and points fingers elsewhere and you consider this authoritative? How about something objective in defense of the GSE’s? Is that really asking too much?

muirgeo October 12, 2011 at 10:04 am

This response was anticipated and thus my post preceding it with the link to Christopher Whalen’s testimony.

Plus you might want to look at who the commioners of the report were before you so blithly dismiss it. They are not all yes men.

http://cybercemetery.unt.edu/archive/fcic/20110310173626/http://c0182732.cdn1.cloudfiles.rackspacecloud.com/fcic_final_report_commissioners.pdf

I don’t defend the GSE’s. They should NEVER have existed as private profit based institutions. Dwight Eisenhower should never have done that. Such hybrids between government and privateenterprise are doomed to corruption.

Invisible Backhand October 12, 2011 at 10:11 am

So you link to a report where the government basically absolves itself of wrongdoing and points fingers elsewhere and you consider this authoritative?

Wow, rhetorical fallacy foul. You lose.

txslr October 12, 2011 at 10:38 am

Please note that one of the experts listed as a member of the FCIC is the gentleman who wrote the article in the Wall Street Journal, and who “shows no understanding of the housing crisis what so ever”.

muirgeo October 12, 2011 at 10:54 am

Yep, and he wrote a dissenting view. So you can read the views of people like Brooklsy Borne who predicted this collpase wat ahead of it happening and compare them to the opinions of people like Mr Wallison who I am pretty sure I jsut showed was guilty of being dishonest in his WSJ piece.

Greg Webb October 12, 2011 at 10:45 pm

George, among your other prevarications, you said that President Dwight Eisenhower created the GSEs. No, President Franklin Delano Roosevelt created Fannie Mae.

Anotherphil October 12, 2011 at 1:33 pm

He was looking for your thoughts, not somebody elses, linkbot.

muirgeo October 12, 2011 at 9:47 am

Still more here by an expert in financial risk management;

http://www.rcwhalen.com/pdf/StatementbyChristopherWhalen_SBC_062209.pdf

Bruce October 12, 2011 at 10:13 am

did you actually read his testimony? He doesn’t cite the actual failure of any product save CDS’s which were tied to CDO’s, specifically MBS’s. Once again, can you please point out another financial product that has become toxic as you allege in your initial post?

Slappy McFee October 12, 2011 at 9:30 am

How do you reconcile these two points?

“We are not in a global economic crisis because of American housing policy. The rest of the globe did not have our housing policy. We are in a global economic crisis because of the free market toxic products created by America’s Wall Street financiers whch to this very day infect all markets and balance sheets of governments and big banks and ultimately all of the economy.”

“Finally, the ability of Wall Street to do what it did was ALL the result of their being able to lobby for everything they wanted, including regulatory capture and pushing Greenspan to keep interest rates low. They bought the policy that leads us to this great disaster because we allowed them to accumulate so much wealth and power and we allowed them to bribe our politicians and auction our democracy.”

Why wasn’t the regulatory structure of Europe able to stop this?

Why were countries with less stringent banking regulations, Canada, able to avoid much of the downturn?

Mitch October 12, 2011 at 10:11 am

On the Canadian question it some what interesting. A typical answer form the Canadian perspective especially if I may generalize the “left” is that Canada had much tougher regulations. This is a partial truth.

There are some possible tougher derivatives trading rules, however a better explanation would likely a combination of answer.

1.The patch work nature of Canadian Security and Stock exchange, each province can be different and Banks a Federal jurisdiction. Kind of slows things down for good and bad, mostly bad.

2. Canadian Banks are generally consider less risk taking. Canadian banks did buy bad stock, but not a a large quantity more less because they where unsure of the quality of the product. The Canadian Imperial Bank of Commerce took the largest loss, but had to eat it all.

3. I think Canadian a bank choose steady and consistent profits out of fear of there competitors if they fall behind and thus open to hostile take overs or other aggression form the other 4 major banks.

4. Canadian Banks also have their own specialities, consider Canadian investors are quite likely the biggest private backers of resource extraction across the world. Why bother with US mortgage packages when you invested in mining gold and other commodities that are doing well? A lot of Canadian finical companies are gear towards this type of income..

Just food for thought.

txslr October 12, 2011 at 10:45 am

I glanced back through the FCIC report (which I read in more detail when it came out) and my sense is that they mostly found that regulators could have taken actions, but did not. That is, the problem was not that regulators foresaw a looming disaster but lacked the authority to act. They actually had authority to act but didn’t see anything wrong. I wonder which part of Dodd-Frank gives regulators prescience?

muirgeo October 12, 2011 at 10:57 am

I think you are right but it’s a problem of regulatory capture. When Wall Streets guys are rotating through the regulatory and buearacratic agencies they become one and the same and they right and “enforce” the rules. Greenspan was very clarly an admitted hands off guy… except for keeping rates low to profit his buddies and to not have to deal with the real economy.

Fred October 12, 2011 at 11:08 am

Obviously the way to fix regulatory capture is to give the regulators more power.

By giving more power to the regulators they can control the corporations that control them.

Until they get captured again.

Then give them more power.

Wash, rinse, repeat.

anthonyl October 12, 2011 at 11:55 am

Regulators like to capture all the power, deflect the blame.

Methinks1776 October 12, 2011 at 1:44 pm

The power and the porn, Anthonyl. Don’t forget the porn. It’s very important to them – so important that at least one guy at the SEC had to buy external hard drives to store more porn after he filled his SEC-issue computer. The one located at work.

Actually, I’m trying to formulate a plan that’ll pay them to look at porn all day. They’re less destructive that way. There’s got to be a way to harness the power of porn for a brighter tomorrow.

anthonyl October 12, 2011 at 11:53 am

Bailout!

RM October 12, 2011 at 10:00 am

The primary problem was NOT decreasing wages. How is that a problem, when it’s not even a fact? I’ll put this in easy terms, because it’s clear you miss the point.
At worst (and this is still debatable), wages have been stagnant. Assuming they are stagnant or decreasing depends on how you decide to define this concept. More importantly, it also assumes the inability of a homeowner to adjust his spending patterns accordingly.

I am a perfect example of the concept you claim exists – my wages, today, are exactly the same as they were 13 years ago. In the interim period I have seen them cut in half, and for one single year, I had a singley year period where it was double what I make today. Overall, if I factor in 4 bouts of unemployment which had me without work for 2 years, my total income over the last 13 years has seen a downward trend. But I am an anomaly. I know this because my experiences are the result of my own doing, not ‘market forces’.

Now, what’s interesting about this is that during that 13 year period, my ‘decreasing wages’ have allowed me to accumulate more wealth and upgrade my house. And I live in the NYC region, while making a salary that is not remotely comparable to others my age in my neighborhood.
I make a good salary – I am not “rich” by Obama’s standard. In fact, his $250,000 was several thousands more than I’ve ever made in a single year. On the other hand, I spent 3 years making far less than $100,000 and 2 years unemployed (in total, not consecutively).
However, despite the up and down nature of my income, the overall trend has been down, with one spike up in an unusually good year.

I’m the living example to which you refer. Yet, as I point out, I’m in better shape today than I was 13 years ago. How can that possibly happen? In your world, I should be bankrupt.

The fact of the matter is decreasing wages is not a problem, unless you’re financially inept. My spending, with each bump in the road, was altered. I found ways to get what I need by paying less, reformatting payments, doing DIY work on my vacations (I happen to enjoy working, unlike many other people), and any manner of solutions to offset lost income. This has enabled me to grow my savings, increase my investments, and purchase a larger home. I have never missed a payment, I am not in debt (aside from a mortgage), and yet here I am – the living embodiment of your poor, sullen worse-off individual.

Now, I will point out a few things. I know people who purchased homes and are now foreclosed. They bought during the bubble as “investments”, and against better advice explaining how the government had rigged the entire bubble. They lost their investments, and worse. They lost their homes. Because they used leverage. “It’s how the rich get rich.” I was told. Um, no, the rich get rich because they manage their money well and don’t take outsized risks. They take intelligent risks. Buying a $500,000 on a $30,000 salary is not how the rich got rich.
Yet government incentives allowed several people I know to do this.

It was the banks’ fault, you may say. No, they were merely facilitators. These people knew what they were getting into. They took the risks willingly.

I’m sorry you’re incorrect, I know it’s a nice warm cozy feeling assuming the world works the way you have laid it out. But when life and reality come crashing down to make you feel misled, it’s a horrible feeling, isn’t it? We are where we are because the government provided incentives, and the Fed manipulated interest rates, and both conspired to infuse people with a misguided hubris regarding their ability to read markets.

When government intervention caused the bubble, and the bubble collapsed, people automatically blamed the market for “failing”. Tell me, if you rig the market to do a certain thing, and it eventually fails (as it should), is it the market failing, or the rigging?

You’re right – it’s the rigging. And the rigging was done by the government. Pointing to people in the market who tried to take advantage of the rigging, because they truly believed it was a smart way to rig the market doesn’t make them the bad people. They were doing what herd animals do….following instinct.

The global mess is not an offshoot of toxic US CDSs. It was the result of every nation doing the same stupid thing the US did – trying to pump a bubble to the point of exhaustion by encouraging debt of all kinds. Is Greece failing because of US debt? No, not even close.

A clue would be nice to have, wouldn’t it? Stop by sometime, I’ll give you $5. That should help you buy one and a cup of coffee.

anthonyl October 12, 2011 at 11:31 am

It’s all about planning for yourself. The federal government is an organization of people. People like all others, who are self interested. They like their jobs, they want security. They are good at making themselves seem more important to the nation than they actually are. Result: the world you see around you today. Most of it is good some of it could be improved. I know what the right things to do are without a government to tell me what they are. But people in government insist on telling me.

RM October 12, 2011 at 11:54 am

I should add that I live in the NYC area, I have a family of 4, and I’m preparing to send a son to college. So for anyone who claims, in outlandish fashion, that anyone who makes 6 figures is “rich”, I suggest you try it sometime. It’s not about the money you make, it’s about how you choose to spend it.
And if you spend more than you make, you deserve to suffer the consequences.

RM October 12, 2011 at 11:56 am

Oh yeah. And my wife hasn’t worked in a few years. She was laid off, and decided the market sucked so she didn’t look. That also is playing a role in our declining income. Interestingly, as tough as it was to lose her income, it wasn’t devastating.

We had a few months of scratching coins together, but we made it through.

Seth October 12, 2011 at 12:54 pm

“We are not in a global economic crisis because of American housing policy.”

Global? Canada didn’t have a housing bubble.

Ken October 12, 2011 at 1:08 pm

First the primary problem was decreasing wages and the need to fund more debt spending to keep demand up.

Why is more debt spending needed when wages decrease? Most likely (and to the extent it is actually happening), wages are decreasing relative to prices.

Why should prices not decline when wages do (if they do; I am adopting the premise for the sake of argument)? On balance, demand for goods and services should fall when wages fall.

Is it possible that prices don’t fall because, despite the decline in wages, there are more dollars chasing the same pile of goods and services (i.e., the supply of money has increased relative to demand)?

Krugman’s “sticky prices” remark from the other thread was really (obscenity bit back, barely) cute. One wonders just how the heck they managed to get that way.

Anotherphil October 12, 2011 at 1:13 pm

Is your opinion guided by any education, training, or experience?

I’d like to debate the merits of Mr. Wallison’s essay, which I find to be an accurate and compelling description of the matter at hand.

Present your credentials.

Andrew_M_Garland October 12, 2011 at 5:18 pm

Muirgeo,
Would you link to your source for your statement:

“pales in comparison to those loans being leveraged 100 times over into $100 trillion dollars of bad assets completely created voluntarily by the private finance and banking sectors”

Nikolai Luzhin, Eastern Promises October 13, 2011 at 9:38 pm

muirgeo

it is absolutely amazing to me how many people on this blog refuse to ever consider the facts. Neither government policy nor Fannie Mae nor Freddie Mac nor the Federal Reserve caused the financial crisis.

The cause of the crisis was the fraud of millions of people, here and elsewhere, who borrowed money they had no ability to repay and which they knew they could not repay.

In this fraud they were helped by hundreds of thousands of mortgage brokers, appraisers, loan officers, brokers, advisory services, advisers, fools who were seeking alpha, whatever. The help ranged from outright fraud to reckless to willful blindness to laziness. To argue or suggest that the gov’t caused any of this is beyond stupid.

Greenspan did, for example, made billions available to be borrowed but gov’t did not commit the frauds necessary to borrow the money. If I put a bottle of whiskey in front of you I have not caused you to take a drink.

Everybody also argues they are for freedom here. If that is true, they have to concede that the criminals were the borrowers not the people who put the whiskey on the bar.

The failure of gov’t wasn’t making the money available, it was in not educating people who would not listen, the same people who make up this blog. 999 out of 1000 people here would never has listened to anyone before Sept. 2008, who said we had a problem.

If you would listen you, and were as smart as you say you are, you would all be billionaires now for people to whom you should have listened (Krugman, August 2005) were saying, its a bubble.

The crap out of this writer from Cato or something is just a fundraising letter.

Bruce October 12, 2011 at 9:07 am

No comment of substance, only checking in to say that the full article appears to be available without subscription at opinionjournal.com

Don Boudreaux October 12, 2011 at 9:08 am

Ah! Terrific! Thanks much.

txslr October 12, 2011 at 9:08 am

I was hoping you would post this. I read it this morning while Occupying the Wall Street Journal.

Greg G October 12, 2011 at 9:09 am

Blaming greed is silly. Agreed. But putting all the blame on the GSE’s is also silly. Why did so many European countries without GSE’s have housing bubbles equal to and worse than our own?

Allowing the shadow banking system to run wild was the biggest problem. Perverse incentives that rewarded short term gambling caused management and shareholder interests to sharply diverge and rewarded reckless risk taking. If you delivered short term results, you got rich. If not you got fired.

Methinks1776 October 12, 2011 at 9:21 am

which shadow banking system are you referring to?

Ken October 12, 2011 at 1:11 pm

I would like a more rigorous definition of that one myself than I have seen so far. Folks like Karl Denninger (Market Ticker) and John Robb (Global Guerrillas) toss the term around in service of their arguments, but the definition remains elusive. I admit, however, that my own research has been scanty.

Emil October 12, 2011 at 9:26 am

Because

1) when a system as large as the US one collapses it inevitably has repercussions elsewhere
2) the other states had their own problems, mostly to do with excessive government debt, sometimes (Greece) combined with cooked books

Greg G October 12, 2011 at 1:22 pm

Methinks, I was thinking of the shadow banking system in the United States although the same thing happened in other countries as well. That would be the shadow banking system that facilitated an explosive expansion of credit on top of what the Fed was doing. Insane leverage, off balance sheet vehicles, heavy reliance on overnight financing, the booking of huge paper gains on risky derivatives which then became paper profits for future borrowing collateral etc. Also the lending by regulated lenders into the unregulated part of the system. Surely you are aware of this.

This should be a story that the Austrians can embrace. Their main useful insight is the danger of unwarranted credit expansions. By the way, I am retired. How do you find so much time for Cafe Hayek while making the many millions of trading decisions you wrote about last night?

Methinks1776 October 12, 2011 at 1:35 pm

Right. I get that. What I’m asking you to do is define the “shadow banking system”. What entities are included in this shadow banking system.

Insane leverage, off balance sheet vehicles, heavy reliance on overnight financing, the booking of huge paper gains on risky derivatives which then became paper profits for future borrowing collateral etc.

That would be the shadow banking system that facilitated an explosive expansion of credit on top of what the Fed was doing.

You mean fractional reserve banking? What does that have to do with shadow banking?

I don’t know what “insane leverage” is. I’ve never seen such a classification and all the banks were Basil II compliant. Overnight financing is the norm for all financial firms including regulated banks. That aside, all of those things you mentioned happened within the actual, non-shadow banking system. So, you can imagine why I’m confused. I suspect maybe you’re a little confused?

Economiser October 12, 2011 at 2:12 pm

Well put. Also a pet peeve of mine – the most painful failures were in highly regulated industries. Commercial banks were already heavily regulated and they experienced massive failures. Perhaps the biggest nonbank failure, AIG, operated in the highly regulated insurance industry.

The lesser-regulated entities, such as hedge funds and private equity funds, had their share of failures but didn’t get any bailouts or cause any systemic issues. Their failure were barely a blip on the market.

Clearly, the answer is more regulation.

Greg G October 12, 2011 at 2:42 pm

Methinks, Yes, you have convinced me that you ” don’t know what ‘insane leverage’ is.” I don’t know where the exact line is but I would say that the 30 to 1 leverage that was commonplace in some institutions was well past it.

Not all meaningful terms have precise formal meanings. For example, consider the terms “insanity” or “emergent order.” They do not have precise measurable formal meanings. But I doubt you would want to argue they are without meaning. There is just no substitute for common sense in such matters. I trust most, not all, readers will understand the term shadow banking system. It refers to a variety of financial innovations that increased the unregulated expansion of credit. I realize you may favor that and even profit from it.

There were indeed many excesses within the regulated and unregulated systems, usually more so in the unregulated system.

Methinks1776 October 12, 2011 at 3:10 pm

I don’t know where the exact line is but I would say that the 30 to 1 leverage that was commonplace in some institutions was well past it.

It is not uncommon (today or yesterday) for 30 to 1 leverage to be extended to equity options market makers. In your experience as a layman, do have any reason not rooted in pure ignorance to believe this leverage to be too high? If so, make your case.

Outside of equity options MMs (who had nothing to do with any of the claptrap you’re on about), what eery “shadow banking” institution was extended 30 to 1 leverage?

I don’t know if I favour or profit from whatever it is you think you’re talking about because I have no idea what you’re talking about and it has become increasingly clear that you don’t either.

There were indeed many excesses within the regulated and unregulated systems, usually more so in the unregulated system.

For example?

Economiser October 12, 2011 at 6:24 pm

>> Outside of equity options MMs (who had nothing to do with any of the claptrap you’re on about), what eery “shadow banking” institution was extended 30 to 1 leverage?

Methinks: At the height of the boom I saw some hedge funds take on leverage in this range. They generally invested in mortgage-backed securities. All experienced problems; some failed. None were bailed out.

I suppose this is within the “shadow banking system” Greg G is talking about, but I don’t see how this is a problem for anyone but the investors, the lenders, and the fund managers. It’s certainly not a systemic issue (whatever that means).

Methinks1776 October 12, 2011 at 6:40 pm

Economiser,

I have no doubt. As you know, leverage was extended to those hedge funds by their prime brokers on a case by case basis and based on the collateral held at the brokerage house. The prime broker examines trading strategies (including hedging) and the quality of the collateral to determine the amount of leverage that is to be extended.

As you say, hedge funds blew up left and right. Everyone in Greenwich was pale with a with green tinge. Yet, the financial system was unaffected. So, obviously, we have to use the crisis as a pretext for regulating hedge funds so that next time, everyone is part of the systemic financial calamity.

I don’t like to suppose anything about “shadow banking”. For one thing, I think people who talk about it have no idea what it means. How exactly are a pool of investors who lever up to invest in an asset called “mortgage backed securities” any more “shadow bankers” than Joe Shmoe who is levering up to buy an asset called a “house”?

Speaking of which, Joe Shmoe, an unsophisticated fellow with dubious employment opportunities was, at the behest of the angel congresscritters of all all political stripes, extended 100% leverage on his purchase of a large and extremely illiquid asset, in the process receiving a lovely free option paid for by taxpayers. Now let’s shove that up the shadow banking system and smoke it.

Methinks1776 October 12, 2011 at 6:51 pm

It’s certainly not a systemic issue (whatever that means).

Oh, well, that means that your blow-up will cause the entire system to blow up. It’s something the SEC and the Fed have long worked very diligently to ensure.

The latest is the “large trader” rule. Any individual or entity that trades more than $200MM per month or 20 million shares per month is considered a “large trader” and must register with the SEC – to receive the equivalent of a yellow star of David identifier so that the Gestapo is better able to identify who to harass. “Large traders” will have to stand ready to bear all to the the SEC – in much the same way broker dealers do. Of course, since customers can’t be responsible for their own OATS trail, the broker will have to spend millions of dollars providing that service. I don’t see that raising trading costs, do you? Hmmmm…

Of course, you understand that this “large trader” could be an actively managed $20MM portfolio of family money turned over just 10 times in one month. A small, one man equity market maker with $15MM in capitalization and portfolio margin leverage (6 to 1 – leverage available to any average Joe with $100K in a brokerage account) who just turns his portfolio over twice that month is considered a “systemic risk”.

If a guy trading $15MM with 6 to 1 leverage can bring down the entire multi-trillion dollar financial system, we are in deeper doo-doo than anyone imagined.

GiT October 13, 2011 at 3:17 am

First, the simple definition, then, the story behind it.

The shadow banking system were those intermediary banks (conduits, SIVS, investment banks, whatever) which held on to massive amounts of mortgages to be repackaged into CDOs and MBSs.

My understanding is that the shadow banking system we’re talking about derived from the switch in CDO origination practices. Instead of finding investors for a CDO, then going and buying up the assets and building the instruments to sell, or building the instrument from already held mortgages, banks started accumulating the resources for CDOs in expectation of finding investors.

(As a note, of course, shadow banking, or, rather, banking intermediaries who go between lenders and borrowers, arbitraging the interest rates and fees, is not unique to the housing crisis)

But that still doesn’t define anything, so let’s keep going. In order to be prepared to sell off CDOs, banks had to have a ready supply of mortgages to use as raw material.

Banks needed a place to store all these risky mortgages in the short term while they went in search of investors. So they created these ‘conduits,’ which were financial warehouses independent of the banks themselves, which used short term credit to buy up and hold these mortgages as a ready supply for building CDOs/MBSs. In 2006-2007, these ‘conduits’ held over $1.5 trillion in assets.

Here the circularity emerges: the bank issues a mortgage, takes the liability off its balance sheet by giving it to its shadow bank, then buys it back when it needs it to sell off another round of CDOs.

Once the demand for CDOs/MBSs went away, pop goes the weasel.

Methinks1776 October 13, 2011 at 7:52 am

Git,
Everything you described was created within the highly regulated banking sector to keep certain assets off their balance sheet in order to make their balance sheet look better. No shadows.

The “conduits” you’re talking about were not independent actors. They were controlled by the banks.

Nikolai Luzhin, Eastern Promises October 13, 2011 at 9:41 pm

fractional reserve banking

what other kind is there

SaulOhio October 12, 2011 at 1:43 pm

Have you considered the possibility that what happened in this “Shadow Banking Sector” happened because of the GSE’s and the Fed pumping a lot of money into the economy? Banks in other countries bought up these MBS’s BECAUSE the growing bubble gave the impression that housing prices would go up endefinitely, and therefore the MBS’s were safe.

Every part of the economy is connected to everything else. The financial system as a whole, including Europe, was overinvested in the housing market, which was overinflated by the GSE’s and the central banks, not just the Federal Reserve, but the central banks of those other countries as well.

And that doesn’t mean those other countries didn’t have their own homeownership policies.

Greg G October 12, 2011 at 3:44 pm

Methinks, Bear and Lehman will serve as examples of institutions that were insanely over leveraged and participating in what has commonly been understood as the shadow banking system. You may be OK with that. This system may have worked well for you and your millions of trades. For the rest of the country, not so much.

As Upton Sinclair said, “It is hard to make a man understand something when his salary depends on not understanding it.”

txslr October 12, 2011 at 5:28 pm

As I recall, Fan and Fred led the leverage parade at something like 40 to 1

Greg G October 12, 2011 at 6:10 pm

I am not defending Fannie and Freddie here. I think their leverage was even closer to 50 to 1.

I do object to the narrative that they were bullied by the government into going after this business in order to help poor people. They were more the bully than the bullied. Nobody had a more effective lobbying operation. They wanted to go after this business because their executives saw they could get rich doing it. And they did even though they blew up the companies.

Methinks1776 October 12, 2011 at 6:19 pm

Txslr,

When corrected for loan guarantees, Fan and Fred’s leverage was actually something like 130 to 1.

txslr October 12, 2011 at 7:02 pm

Greg G

How could they have been bullied by the government? The ARE the government! That’s the problem. They had the benefit of near-Treasury borrowing rates, and they used the extra spread to pay themselves (political types like Franklin Raines and the current mayor of Chicago) and to payoff their buddies in Congress to keep the gravy train running.

This was government corruption on scale unheard of in human history and the solution, we’re told, is more government regulation to stamp out greed.

Methinks1776 October 12, 2011 at 6:26 pm

Oh, excellent. Now you not only pretend to understand the financial sector but also what my “salary” depends on. Just out of curiosity, do you ever feel the urge to supplant pretense with actual knowledge?

Bear Stearns was a highly regulated investment bank and so was Lehman Brothers. Neither was part of any shady shadow banking system which you can’t define, have no idea what it is, but are absolutely sure was the cause of all our woes. Both banks were in compliance with regulation governing bank leverage. Are you disagreeing with the regulator? If so, on what basis and what level of leverage do you prescribe?

At the height of the crisis at Bear, its leverage reached a whopping 33 to 1 on a book basis. Lehman’s leverage was 15 to1, not 30 to 1.

I await with bated breath your learned layman’s thoughts on optimum leverage.

Greg G October 12, 2011 at 6:58 pm

Just curious Methinks, is there anything at all you think regulators should have been able to require Bear and Lehman to do differently?

Methinks1776 October 12, 2011 at 7:07 pm

No, Greg. I don’t think the regulator knows what the optimum leverage for an institution is. Government is no better at knowing the unknowable than you are. Those of us with actual knowledge of and experience in finance can make better guesses. That is all. We are all just working off the limited knowledge we have and trying to predict based on this sorry data. And that’s what makes your undying certainty, rooted as it is in ignorance, so obnoxious.

What regulation did was allowed those banks to become systemic risks. Without regulation, they wouldn’t have grown as large and, like the thousands of of hedge funds that blew up without so much as a scratch on the “system”, would have blown up, taken their investors with them and the rest of the financial sector would have been left intact – shadow or otherwise.

Greg G October 12, 2011 at 8:19 pm

Methinks, I don’t know exactly what the “optimum” speed limit on a public highway should be. I doubt the government knows either. Even so I prefer a system where a democratic government chooses and enforces a speed limit. I don’t know the exact age that is best to allow someone a driver’s license. But I still prefer a system where a democratic government decides that, rather than let everyone decide for themselves no matter how strongly those people believe they could make better guesses.

Methinks1776 October 12, 2011 at 9:09 pm

Greg, are you for some reason under the impression that stringing together non sequiturs will fool people into thinking you’re making an cogent argument?

Chris O'Leary October 12, 2011 at 9:14 am

Stupid (but serious) question: What caused the bubble to burst? Was it just that they ran out of sub-prime mortgages to write?

Methinks1776 October 12, 2011 at 9:23 am

Chris,

Bubbles usually burst when the market runs out of greater fools. Nobody can predict such a moment, but it always happens. It’s all one big party until everyone turns around an notices that the next bid is several handles below the last print.

Sam Grove October 12, 2011 at 10:39 am

In this area (SF bay region), when gas prices jumped, people stopped buying homes that required a big commute. There had been a great deal of development in regions (50-100 miles or more) from the employment centers.

Seth October 12, 2011 at 12:51 pm

I agree. Once home ownership rates increased so much and many people had 2nd or 3rd homes, the market ran out of buyers plain and simple.

John Dewey October 12, 2011 at 10:38 am

In Artizona it seemed to be an oversupply of housing. Realtors I talked with six and seven years ago told me that California speculators had artificially increased demand. Homebuilders responded to the increase in demand and simply built many more houses than could be sold even with a growing population. Speculators were competing with new home builders, and prices began to drop. The price drop was gradual at first, but picked up steam through 2007 and 2008.

I think speculation by rank amateurs was the problem in many other U.S. cities. Here in Dallas-Fort Worth, I knew several people who had no clue about the housing market, yet believed they could achieved success by flipping houses. A number of television programs showed them how easy it was. Their act of removing unsold houses from the market apparently caused both mortgage lenders and homebuilders to overestimate the demand for housing. Eventually supply far outpaced demand even in this growing market.

Methinks1776 October 12, 2011 at 11:41 am

California speculators had artificially increased demand.

I’m always puzzled by this demand classified as “artificial”. As long as there is someone willing to buy what you’re selling, the demand is real – regardless of its source. The only question is if this demand will continue. That’s where forecasting comes in and forecasting is notoriously difficult for professionals and amateurs alike. It’s just that amateurs are usually unable to deal well with downside risk.

John Dewey October 12, 2011 at 12:01 pm

By artificial, I meant that the increase in demand was due not to homebuyers who desired to occupy the homes – the end consumers. Rather, much of the demand was due to speculators who assumed they would continue to find end consumers to buy the homes.

Not sure I agree that forecasting housing demand is that difficult. The several realtors I talked with in 2004 and 2005 seemed to know the increase in demand was caused by speculators rather than end consumers. Why homebuilders couldn’t also learn that is puzzling to me. Those homebuilders had much more at risk than I did, so they should have also been talking with realtors.

Methinks1776 October 12, 2011 at 12:27 pm

I dunno, John. It seemed pretty silly to us because we knew that hot real estate markets (like the Southeast) typically appreciated about 8% per year. So, 30% growth seemed particularly strange in light of the fact that the population wasn’t growing that fast.

Bubbles rely on fools.

John Dewey October 12, 2011 at 12:49 pm

“Bubbles rely on fools.”

I agree. I’m not surprised that so many small speculators lost money. But I am surprised that the big homebuilders, such as Pulte and Lennar, kept building so many homes.

Methinks1776 October 12, 2011 at 12:59 pm

John, we saw the same thing in the 1990′s during the tech bubble.

The problem is that even if you know the party will end, you just don’t know when. I’ve mentioned before that I think we tend to underestimate downside risk. Home builders are not immune to that optimism.

John Dewey October 12, 2011 at 2:03 pm

“The problem is that even if you know the party will end, you just don’t know when.”

That makes sense. Timing the real estate market must be just as difficult as timing the stock market.

I looked at Pulte and Lennar a few minutes ago. Sales in 2010 were down 70% and 80% from 2006 highs. Stock price declines were even greater. No end in sight, either.

Methinks1776 October 12, 2011 at 3:42 pm

Well, don’t look at me. I can’t pick stocks and I’ve never been able to time anything.

txslr October 12, 2011 at 7:25 pm

I wonder how much of the increased demand came from “flippers”. Their goal was to buy and turn as fast as possible – 60 days or so. So they certainly had some impact, but at the peak I wonder how big the inventory had grown. The real action on the demand-side, it seems, would have simply come from people entering the home purchase market who previously would not have been able to buy because of a lack of credit quality.

vidyohs October 12, 2011 at 11:06 am

There is a very simple answer, and as I grow older and wiser I have that very few people want to hear the simple answer, much less see that simple can also be true.

When an individual borrows more money than he makes, he is in trouble, and unless his income shoots up dramatically to cover the differential, that individual will have to default on the loans or go bankrupt, which leaves the lender sucking wind, Right?

Before the 1960s Civil Rights upheavals, banks had criteria (qualifications) a potential lender had to meet before the bank issued a loan, especially a substantial loan as for a car or home. One of those criteria was income enough to make default a small risk. Another important one was a credit history showing faithful repaying of loans, meeting loan payment schedules. Because of high crime rates in certain areas banks (and other businesses) avoided opening branches in certain areas.

Government responding to the pressures of the Al Sharpton(s), the Jesse Jackson(s), the Black Panthers, began to pressure and brow beat banks to forego their qualification criteria and make loans to people who had no, or bad, credit history, who had insufficient income to justify faith that the loan would be repaid, and above all had never shown the character that encouraged trust that the risk was worth it. Banks pushed back and told government, if we do this, you gotta cover our ass. Government did.

Civil Rights are Civil Rights, banks/lenders could now issues loans to risky borrowers and their ass was covered, so as time progressed not only black borrowers received loans they were a bad risk to repay, but whites and others were also receiving loans they were unlikely to repay. Covering a lender’s ass means covering a lender’s ass regardless, so lender’s began not only issuing loans to poor risks, they began to encourage refinancing and the debt just continued to build, meanwhile the government’s exposure was becoming increasingly frightening. So much so that the issue was addressed in Congress as well as by the Whitehouse; but your stubborn socialist holdouts in Congress (such as Frank, Dodd, Waters, et.al) beat back attempts to corral the run-away financial exposure of the government.

Yes, creative people turned those mortgages into investment paper, and sold them; but, sold them to who? Who bought that paper without doing due diligence? Methinks and Mesa Econoguy can tell you who bought them, and they’ll tell you that the potential buyers went into the deal with their eyes closed.

Now we had a ton of people underwater on their debts and the government began telling them that they could walk away and not be held accountable. The situation became like a hole in the cow pasture, once one cow finds the hole and walks out free and clear, you can bet the whole herd will follow before the day is out.

There is your crash in the terms and observations of a layman that lived through it.

Essentially the entire blame can be laid at government’s feet because of the pressure they put on lenders and the guarantee of ass covering. Just another instance of why government interference into markets and trade will always wind up distorting things to the point of disaster.

vidyohs October 12, 2011 at 11:08 am

Correction:

Government responding to the pressures of the Al Sharpton(s), the Jesse Jackson(s) (of the day), the Black Panthers…….

Anotherphil October 12, 2011 at 1:17 pm

The reason the bubble metaphor is used is because it describes a structure that appears stable, but whose nature is one of inflation, suject to collapse that is certain as to occurrence, but inexplicable as to cause and timing.

In short, there is do determinable cause, other than inherent fragility.

muirgeo October 12, 2011 at 9:30 am

Peter Wallison claims, “The private financial sector must certainly share some blame for the financial crisis, but it cannot fairly be accused of causing that crisis when only a small minority of subprime and other risky mortgages outstanding in 2008 were the result of that private activity. ”

I believe that is totally wrong. No wonder he believes what he does. He doesn’t even know the basic facts.

Federal Reserve Board data shows that more than 84% of the subprime mortgages were issued by private lending institutions. Also only 1 in 25 top subprime lenders were subject to those housing laws.

http://www.mcclatchydc.com/2008/10/12/53802/private-sector-loans-not-fannie.html

Bruce October 12, 2011 at 9:42 am

I notice they use the word “issued” in their defense of Fannie and Freddie. Dare I ask what happened to these loans after they were issued? Also, if Fannie and Freddie were such small players in the subprime market, why have they sucked up 125 billion dollars in bailout funds (and they might need up to a quarter trillion) to cover their losses with no hope of repayment? http://www.washingtonpost.com/wp-dyn/content/article/2010/10/21/AR2010102101941.html

anthonyl October 12, 2011 at 11:37 am

They had great incentive to dive into the housing market as the Fed and the federal government pushed home ownership. Why do they need to push anything?

Anotherphil October 12, 2011 at 1:19 pm

Federal Reserve Board data shows that more than 84% of the subprime mortgages were issued by private lending institutions.

How many were issued under the coercion of the Community Reinvestment Act, and the need to attain a grade of “A”, in order to be innoculated from the threat of litigation by “civil rights” groups or government action? Do tell.

Nikolai Luzhin, Eastern Promises October 13, 2011 at 9:42 pm

none

txslr October 13, 2011 at 9:53 pm

Cite?

muirgeo October 12, 2011 at 9:58 am

“Greed” – Being Ever-Present – Explains Nothing

Unregulated greed explains a lot.

RM October 12, 2011 at 10:13 am

wow. I see. That’s so unenlightening.

What, exactly, does it explain?

Be precise, not accurate, in making the points.
Greed, in and of itself, is what drives all of us. Right now, you are posting here in pursuit of intellectual greed, and you are unregulated (as the authors point out). This intellectual greed is manifesting itself with posts by you, and then further feeds itself when you respond to people. You find yourself emboldened and empowered.

These are good things. In the marketplace of money and ideas, the desire to pursue what we most want, in the manner we most want, leads to overall improvements in thought. I disagree with virtually everything you write, but I am improved by reading it because it helps me understand my thoughts better. I’m assuming you believe the same thing (though I can’t imagine it’s true because it’s such a faulty and balky conceptual world in which you live).

Yet the marketplace of ideas, the exchange of goods, are exactly the same concept. One man’s trash is another man’s treasure. I believe your views are trash, but I treasure the opportunity to engage the debate. In the end, we view ourselves as being better off.

Our intellectual greed has made us both intellectually richer because it is unregulated. (though I’d argue you don’t seem to be better off – still, it’s all about perspective and if you think you’re better off, more power to you)

Now, let’s say the authors decide to “regulate” the market by blocking some of your posts. Or editing them. Or pushing them to the bottom. Where is the regulated greed on their part getting them?

It gets them nowhere, intellectually.

You lose. I win. Actually, no matter how you slice that argument, I win.

veritasrex October 12, 2011 at 10:20 am

What about the unregulated political “greed” of the US Gov Housing Policy in desiring to increase home ownership at whatever cost? The mortgage and banking industry seemed to be responding to the incentives provided by this policy, were they not?

Sam Grove October 12, 2011 at 10:41 am

If there is a large, powerful agency that is largely unregulated in its exercise of power, the federal government fits the bill quite well.

Captain Profit October 12, 2011 at 11:01 am

Self… control… weakening…
Must… not… reply…

Methinks1776 October 12, 2011 at 11:43 am

LOL!

brotio October 13, 2011 at 3:10 am

:D

Sam Grove October 12, 2011 at 11:35 am

Politicians count on normal human responses when they enact policies. In order to get lenders to take on high risk borrowers, the politicians had to provide a profit motive to the lenders.
See, the policy makers were counting on greed to effect their policy goals.

Think about incentives.

veritasrex October 12, 2011 at 12:58 pm

You articulated perfectly what I failed to capture in my above comment. The existence of the regulations that some feel should have been in place may or may not have prevented the bubble but their presence may also have been contrary to the stated policy goal of more homeownership. Mortgage companies gave policymakers exactly what they asked for. Perhaps the mortgage companies would have found another way to fulfill the policymaker’s goals in the presence of those regulations or the policymakers would have created new incentives for homeownership? I just think it’s hypocritical for policymakers to turn around after the fact and scold the mortgage companies for doing exactly what they were asked to do.

brotio October 13, 2011 at 3:11 am

*LIKE!*

Anotherphil October 12, 2011 at 1:21 pm

Unregulated greed explains a lot.

Irrepresible idiocy explains more.

txslr October 12, 2011 at 7:09 pm

I think the goal of the regulators is to get the greed out of the markets and into the government where it belongs.

rhhardin October 12, 2011 at 10:13 am

Most gated articles, including at the WSJ, can be googled into in full form by searching on a phrase in it. They deliberately let refers from google to see the whole article.

Don N. October 12, 2011 at 10:16 am

Indeed. It is closer to the truth to say that banks and “Wall Street” got – not greedy – but lazy.

John Dewey October 12, 2011 at 11:53 am

I don’t know if it was laziness or poor judgment. Based on what I’ve read, investors in CDO’s relied on credit ratings agencies to assess the CDO financial risks. Apparently the computer models for risk assessment grossly underestimated the number of defaults, the amount of losses due to those faults, and the correlation of the defaults.

I reecntly read a Nomura Securities paper from 2003. It pointed out errors in risk models used by S&P and Moody’s for assessing risk of CDO’s backed by high-yield corporate bonds. The paper argued that risk models did not account for credit risk correlations which occurred during financial stress period of 2002 and 2003.

I later read that exactly the same error was made in assessing mortgage-backed CDO risk later in the decade. Only, this time, the correlated defaults in total were much larger.

Methinks1776 October 12, 2011 at 12:37 pm

My husband constructed a lot of hedges for CDOs (the CDO manager – who is not necessarily the originator – was his client). What stunned him was that they actually believed their own BS. Not to say that they didn’t acknowledge the risks at all, but they all thought they’ll make money.

The hedges they were looking for were for extreme scenarios. Never for the national market going down. So, it wasn’t just the risk models of the ratings agencies that weren’t anticipating a national decline (although, why? The national market was rising and that never happened before either). For some odd reason, nobody was.

Poor judgement? Laziness? A willingness to suspend disbelief in order to compete? All are reasonable explanations.

Greg G October 12, 2011 at 2:57 pm

For God’s sake people, how about……incentives as an explanation? The executives in these companies could and did make tens of millions of dollars a year by taking extreme risks with their shareholders and bondholders money. On top of that, if they couldn’t produce results equal to their competitors they were likely to be fired. Is their eagerness to risk blowing up their companies really such a mystery in such a situation.

Methinks1776 October 12, 2011 at 3:20 pm

None of the people I’m talking about had the power to blow up the bank. They did all underestimate downside risk. This is common to human beings in general.

But, you’re correct. Investors seek returns and they don’t much care how the company comes by them. If John Doe doesn’t produce, Sally Jones will replace him. That feeds risk taking – especially at public I-banks. I’ve never been a fan of I-banks going public. It’s just a bad fit, IMO.

txslr October 12, 2011 at 7:17 pm

Ramping up the risk is in the interests of the shareholders. That’s why they pay managers the way they do. The debtholders, on the other hand, bear the cost. So why didn’t the debtholders stop the madness?

Some hints: FDIC, TBTF…

John Dewey October 12, 2011 at 12:41 pm

One important point about credit rating agencies was made by John Carney of Reason Magazine back in 2009:

“The ratings agencies simply became lazy and complacent thanks to the government created de facto oligopoly granted to Fitch, Moody’s and S&P. This is getting far closer to the truth. Numerous financial regulations basically gave the Big Three’s decisions the force of law and guaranteed them market-share. Under this circumstance, almost any company would be likely to produce poor quality products.”

veritasrex October 12, 2011 at 10:45 am

I would love to know how things would have played out without guarantees by Fannie and Freddie?

anthonyl October 12, 2011 at 11:41 am

No homes would exist without such policies! ‘ forbid!
I kid.

HaywoodU October 12, 2011 at 5:20 pm

We could play the “what-if” game for longer than one would like. It would also be a very dis-heartening exercise.

Nikolai Luzhin, Eastern Promises October 13, 2011 at 9:45 pm

no different

Fannie and Freddie guaranty loans, so there have been no losses to bond holders of Fannie and Freddie paper (tax payers are footing the bill)

the trillions of losses have all been on totally private paper, never touched by Fannie and Freddie hands

veritasrex October 12, 2011 at 10:57 am

Wallison writes in his dissent: “Without waiting for the Commission’s insights into the causes of the financial crisis, Congress passed and the President signed the Dodd-Frank Act (DFA), far reaching and highly consequential regulatory legislation.”

Is this not the least bit disturbing? Does this not at all impact the credibility of the FCIC?

Anotherphil October 12, 2011 at 1:25 pm

Does this not at all impact the credibility of the FCIC?

No, it impacts the credibility of the legislature and executive that acted in haste, without pertinant details of exactly the kind the group was chartered to provide.

Randy October 12, 2011 at 10:57 am

As seen above, the question of whether the problem was caused by a greedy private sector or a greedy political sector is likely to continue… forever. The thing is, it was a bubble, the value was never real and is not now, and the important thing now is for the politicians to stop trying to reinflate.

Ryan Vann October 13, 2011 at 4:11 am

Precisely. Moreover, recognizing that this is a debt/credit issue would be a boon to the entire debate being had. It amazes me that people still want to talk monetary and fiscal stimulus about an issue that can really only be addressed in three ways 1) courts (as in bankruptcy courts) 2) legislative action 3) grinding it out.

vidyohs October 12, 2011 at 11:22 am

In spite of what I wrote above about the loan crash. I still hold to the following principles which in my mind make the public individual the real cause of the problem:

1. An individual who requests a loan he knows he can’t repay, and is unlikely to ever be able to repay is engaging in fraud, that’s a crime.

2. A loan never requested is a loan never made.

3. A loan never made is a loan that can not ever be defaulted.

4. Lenders who know the risk is totally owned by themselves, do not throw qualification criteria out the window.

So, who do we have to blame for the financial problems today, greed by lenders and investment firms who can force no one to contract or commit; or, do we blame the greedy individual who has been enculturated by the socialist scriptures to believe that he deserves what ever he can get under what ever circumstance he can get it?

I go with the latter when I lay blame. And, I do this because I am one who, over the last thirty years, threw countless solicitations from lenders, who were set free from financial accountability, into the trash bin with not one moment of temptation. Did I want things, yes. Did I want them bad enough to take on debt I could not and did not want to handle, yes. Did the solicitations go in the trash, yes. And, my friends I am no paragon of virtue, just a country boy that is not going let some one get a hook, especially not a debt hook, into me because I’d like a new toy.

The public is the ultimate blame because the American public in general lost all semblance of good character with the baby boomer generation and the baby boomers raised their kids with even less discipline and education than was put on them.

vidyohs October 12, 2011 at 11:23 am

Edit function sorely needed by those of us who are poor at proof reading our own stuff.

anthonyl October 12, 2011 at 11:43 am

I sometimes write in notes then paste it into the window. It helps alleviate some of the missspellings.

vidyohs October 12, 2011 at 11:56 am

I sometimes do that as well and you’re right it does cut down on misspellings and poor grammar; unfortunately I obviously need to make myself do it even when posting spontaneously.

Fred October 12, 2011 at 1:25 pm

http://www.mozilla.org/en-US/firefox/new/

Firefox has a built in spell checker, though it doesn’t catch grammatical errors.

GiT October 13, 2011 at 3:23 am

A loan has two sides, the creditor and the borrower.

The creditor is just as (if not more) responsible for insuring the viability of the loan than the borrower.

Or, to parody your formulation.

1. An individual who issues a loan, which he does not think is viable, because he knows he can pass off the liability to someone else, is engaging in fraud and that is a crime.

2. A loan never issued is a loan never made

3. A loan never made is a loan that can never be defaulted.

4. In the market at the time, lenders knew they would not have to hold on to their liabilities because they could just hide it in a CDO, slap a triple A rating on it, and whistle their way to the bank.

anthonyl October 12, 2011 at 12:04 pm

What can you do about greed? It’s not illegal to be greedy. Regulators might try to ‘regulate’ greed but they won’t stop greed. So why fret over it. Wall street would have gotten their punishment if the Fed hadn’t stepped in and bailed them out. The dummies!

Dan H October 12, 2011 at 12:06 pm

We’ll be better off when people realize that “greed” is an innate human quality. We all work for our own self-interest, whether it is rational or irrational. An inventor works to produce things that may one day make him rich when brought to market. A social worker works to make herself feel better because she values her emotional gratification and feelings of piousness. In the end, though, both work for self-interest.

The best way to ensure that greed doesn’t destroy us is to NEVER induce the moral hazard. Losses and failure are a way to separate irrational short term self interest from long term benefit. If you tell a bunch of banks to give risky mortgages because Fannie and Freddie will buy them and take them off their books thereby minimizing the direct risk to the primary lender, then they will obviously make these loans. It’s like going to a casino and playing blackjack all day. When you win, keep your earnings. When you lose, the house will cover your losses, but just keep playing.

Randy October 12, 2011 at 12:29 pm

Dan H,
I define Greed as “the desire for unearned wealth”. This allows me to accept its usual negative character , while recognizing that earned wealth is never a negative. Greed, the negative, is a very common trait, but those who use the word are generally projecting.

Dan H October 12, 2011 at 12:32 pm

I would definitely more agree with your definition Randy. To take claim to something that is not yours is the epitome of greed.

Anotherphil October 12, 2011 at 1:30 pm

We’ll be better off when people realize that “greed” is an innate human quality.

I disagree.

We’ll be better off when we distinguish between “greed” and acquisitiveness and self-interest. When we do, we’ll recognize politicians, and their quests for status, power and priviledge as the most virulent and destructive form of greed.

As long as a 30 year congresscritter gets to tell us that their motivation to face 15 elections was “public service” with a straight face, the job ominiously unfinished.

vidyohs October 12, 2011 at 3:18 pm

Like +1

John Dewey October 13, 2011 at 4:24 pm

Dan H: “We’ll be better off when people realize that “greed” is an innate human quality”

I completely agree.

It bothers me greatly that many folks – including some commenting here – would redefine words to suit their own ideology. If we are not going to use standard definitions of words we write, how on earth can we hope to communicate?

Here’s the dictionary definitions of the word “greed”:

From Merriam-Webster Online:

“greed: a selfish and excessive desire for more of something (as money) than is needed

Example: He was a ruthless businessman, motivated by naked ambition and greed.”

From The Free Dictionary:

“greed: An excessive desire to acquire or possess more than what one needs or deserves, especially with respect to material wealth”

From the Oxford Online Dictionary:

“greed: intense and selfish desire for something, especially wealth, power , or food”

Those are the English language definitions of the word “greed”. Based on those definitions of the word, I agree with Gordon Gekko:

“Greed is good.”

Methinks1776 October 12, 2011 at 12:53 pm

This narrative stimulated the punitive Dodd-Frank Act—fittingly named after Congress’s two key supporters of the government’s destructive housing policies.

Dudd-Frank will turn banks into regulated utilities. Those who will be punished by Dudd-Frank are the people and entities who did not contribute to the housing bubble. Those entities include hedge funds, smaller competitors of the TBTF and everyone else in America. The banks will be fine.

Ryan Vann October 13, 2011 at 4:06 am

“The banks will be fine”

Funny how that plays out.

kyle8 October 12, 2011 at 5:44 pm

Of course no one ever seems to talk about the greed of bureaucratic job shoppers who always want to add to their department. Or greedy politicians who want to buy votes with public funds, Or how about the greed of big labor?

Jeff Neal October 12, 2011 at 8:51 pm

A little more information on how the housing bubble/burst. Encourage a certain thing with subsidies and you’ll get more of it….and Wall Stree will, everytime, figure out a way to “financially engineer” it (Thank God!).

http://wp.me/p1jTK0-8Q

GiT October 13, 2011 at 3:51 am

Not this tired old argument about the FMs again.

First, the housing bubble does not begin with the FMs. It begins with the richest 20% of households taking out equity lines of credit on their homes in 1998. Their increased consumption pushes the US into dissavings as early as 1999. It’s in 1998 when the ratios between rent and house values start to go out of whack.

Second, the FMs were more regulated than the banks. They could only originate fixed rate mortgages, not variable rate mortgages. The MBSs they issued, being based on FRMs, were transparent, standardized, and relatively liquid assets. The closest they get to the sorts of VRMs private banks could issue were their near-prime loans. They could not originate the no collateral, no paperwork, variable rate, negative amortization, etc mortgages which private banks could.

Third, in 2003, when everyone starts blaming Dodd and Frank for not regulating the FMs, FM origination of mortgages (which, again, were fixed rate mortgages more heavily regulated than those of normal banks) is falling and origination is going up among private banks. FM originations fell from 2.7 trillion to 1 trillion in 2003, while sub prime and alt-a origination by private banks double and quadrupled, respectively. In 2003 prime mortgages make up 60% of the market. Prime originations (to which the FMs were chiefly restricted) drop 50% in 2004.

Sub prime mortgages go from 5% of market share in 2000-2002 to 20% in 2003-2004 (primarily issued by private banks). By 2006, 40% of the market is sub-prime and alt-a mortgages. That’s a jump of 20 points relative to pre 2003.

Fourth, in 2003 when you are all complaining about the FMs (which, again, are decreasing their loan origination while private banks are increasing their origination of the riskiest sorts of loans), the Office of the Comptroller of the Currency invoked a clause from the 1863 bank act to quash state investigations into predatory lending practices and lowered lending standards in the national banks.

Fifth, in both 2001 and 2004 the governor of the Federal Reserve is pressured to investigate private lending standards. And, in each year, he doesn’t. The Bush administration, in fact, actively quashed state attempts to investigate private lending practices in, among other places, California.

Did the government have something to do with the bubble? Sure. But not particularly through Fannie Mae and Freddie Mac, which could not, as per regulation, originate the sorts of risky mortgages which private banks could, and did, originate.

Methinks1776 October 13, 2011 at 10:49 am

They could not originate the no collateral, no paperwork, variable rate, negative amortization, etc mortgages which private banks could.

No, but they could buy them, providing incentive to for originators to to write them.

It begins with the richest 20% of households taking out equity lines of credit on their homes in 1998.

What special thing happened in 1998 that made the richest quintile suddenly start running around taking out HELOCs on their homes and how did that lead to massive subprime defaults? Shouldn’t have been the top quintile defaulting?

Did you actually read the article?

Did you actually read the article.

GiT October 13, 2011 at 2:43 pm

I read the article. I’ve also read lots of other articles. This one omits a lot of things and engages in blatant deception.

Checking back on those sources I misarticulated the role of HELOCs, which are important more for the way in which they were used (again, by households with good credit, not those evil minorities the right would love to blame) to drive increased consumption throughout the period and push US households on the average into dissavings. Savings among households without HELOCs actually went up. Almost the entirety of the change in savings during the period is explainable by the increase in mortgage equity withdrawals. But the point is hardly crucial so I’ll drop it.

But let’s return to the article and how it engages in clear sophistry.

Note this line:

“Of these, over 70% were held or guaranteed by Fannie and Freddie or some other government agency or government-regulated institution. Thus it is clear where the demand for these deficient mortgages came from.”

But what does that mean? Nearly all US financial institutions are government regulated. So what does it mean to say that 70% were ‘held or guaranteed’ by FMs or ‘some other… institution.’ Why, it doesn’t mean anything. What portion were actually held by FMs, who are the alleged culprit? Surprise Surprise, Wallison does not say.

How much in the way of subprime mortgages did they actually hold? 148 billion. The vast majority (nearly 90%) of their holdings (1.4 trillion) were prime mortgages.

But remember, by the time of the crisis 40% of the market was in sub-primes, and the FMs only held 40% of the market as a whole. That leaves 36% out of the 40% of subprime mortgages NOT held by the FMs.

So when Wallison starts off his sentence, for rhetorical effect, fingering the FMs when, in fact, the data would necessarily place the FMs well behind other institution’s holdings in sub-prime mortgages, and when he lumps in the ambiguous and meaningless phrase ‘government regulated’ to describe the rest of the holders, he is basically lying to your face.

The only way I can think to make sense of such a farcical line is to assume the 30% of non ‘government regulated’ institutions were just not regulated by the federal government – they were regulated by other governments. And, indeed, 25-50% of MBSs were sold to, and held by, foreign banks at the time of the crash.

So why should I trust an article that tries to imply nearly 70% of MBSs were held by ‘the government’ when it uses a phrase that would include all US financial institutions and whose numbers could only make sense if MBS holders were divided into, on the one hand, US institutions regulated by the Federal government, and, on the other hand, non-US institutions regulated by some other government.

Frankly, I shouldn’t trust it, and neither should you. But you will, because it confirms your biases. Russ certainly seems to be right about how Libertarians choose what they do or don’t believe.

txslr October 13, 2011 at 7:29 pm

“…by households with good credit, not those evil minorities the right would love to blame”.

Why would you assume minorities have bad credit? I certainly wouldn’t.

txslr October 13, 2011 at 7:44 pm

“How much in the way of subprime mortgages did they actually hold? 148 billion. The vast majority (nearly 90%) of their holdings (1.4 trillion) were prime mortgages.”

And yet current estimates of F&F’s requirements for government funds to keep afloat is around $400 billion. Doesn’t that suggest that there is something else going on here? I mean, a 250% default rate on subprimes with zero recovery would seem like a tough acheivement, even for the feds.

Methinks1776 October 13, 2011 at 7:06 pm

You are a deeply confused Git.

Have neither the time nor the inclination to address the entire knot of confusion. So,

How much in the way of subprime mortgages did they actually hold? 148 billion. The vast majority (nearly 90%) of their holdings (1.4 trillion) were prime mortgages.

You don’t seem to understand the effects of leverage. If 10% of your portfolio declines in value by 5% and you are levered 130 to 1, then that means the entire portfolio’s value declines by 65%. Behold the power of leverage. So, even if subprimes accounted for a minority of the portfolio, the effect of even modest declines at such high leverage is enormous.

I don’t know where you’re getting your data, but subprime mortgage lending peaked at 22% of total mortgage lending in 2006.

But, whatever. In focusing on who might be holding all these other mortgages (banks, hedge funds, foreign banks, foreign governments, pension funds…btw), you completely missed the point of the op-ed.

In setting these quotas, lending to people who were poor credit risks (including but not exclusively the people to whom you rather distastefully refer as “evil minoirities”) was heavily encouraged to the detriment of the banking system.

Don Boudreaux October 13, 2011 at 7:38 pm

Like.

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