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“Democrats in Congress Forced Banks to Make Bad Loans”

“Democrats forced banks to make bad loans so that even people who couldn’t afford a house could own one.”

Right wingers have been saying this since soon after the financial collapse of 2008.  They have to make this argument, because otherwise responsibility for the sub-prime mortgage crisis falls primarily on President Bush and/or the free market.

It’s a total lie.

Conservatives point to the Community Reinvestment Act as the law forcing banks to make bad loans. What does the CRA actually do?

Sandra Braunstein, Director of the Division of Consumer and Community Affairs describes it thus to Congress:

Enacted in 1977, the CRA states that federally insured banks and thrifts have an obligation to help meet the credit needs of the communities in which they are chartered, including low- and moderate-income neighborhoods, consistent with safe and sound operations. The act also directs the federal bank and thrift regulatory agencies, including the Federal Reserve, to implement the CRA through regulations, and to examine banks and thrifts to determine whether they meet their CRA obligations.

Key phrase: “consistent with safe and sound operations.” Lawmakers were not concerned with making loans available to everyone, whether they could afford them or not– they were concerned with the process known as “redlining.”

Redlining describes the process by which banks literally draw a red line on a map through certain low-income neighborhoods and refuse to conduct operations there. As recently as 2004, the Department of Justice charged Chicago lender First American with redlining.

The key is that banning redlining did NOT and does NOT require banks to loan money to everyone who wants it— it just means that banks can not discriminate based on race or other factors. In other words, if a bank wants to loan money to poor white families, they have to loan money to poor African-American families. Through the CRA, banks are required to make decisions based on financial considerations (income, credit history, net worth) alone, not based on race, ethnicity, or what neighborhood you live in.

During the presidential election last year, conservatives pointed to this case as “evidence” that Barack Obama was partially responsible for the subprime collapse:

Case Name
Buycks-Roberson v. Citibank Fed. Sav. Bank Fair Housing/Lending/Insurance
Docket / Court 94 C 4094 ( N.D. Ill. ) FH-IL-0011
State/Territory Illinois
Case Summary
Plaintiffs filed their class action lawsuit on July 6, 1994, alleging that Citibank had engaged in redlining practices in the Chicago metropolitan area in violation of the Equal Credit Opportunity Act (ECOA), 15 U.S.C. 1691; the Fair Housing Act, 42 U.S.C. 3601-3619; the Thirteenth Amendment to the U.S. Constitution; and 42 U.S.C. 1981, 1982. Plaintiffs alleged that the Defendant-bank rejected loan applications of minority applicants while approving loan applications filed by white applicants with similar financial characteristics and credit histories. Plaintiffs sought injunctive relief, actual damages, and punitive damages.

U.S. District Court Judge Ruben Castillo certified the Plaintiffs’ suit as a class action on June 30, 1995. Buycks-Roberson v. Citibank Fed. Sav. Bank, 162 F.R.D. 322 (N.D. Ill. 1995). Also on June 30, Judge Castillo granted Plaintiffs’ motion to compel discovery of a sample of Defendant-bank’s loan application files. Buycks-Roberson v. Citibank Fed. Sav. Bank, 162 F.R.D. 338 (N.D. Ill. 1995).

The parties voluntarily dismissed the case on May 12, 1998, pursuant to a settlement agreement.
Plaintiff’s Lawyers Alexis, Hilary I. (Illinois)
FH-IL-0011-7500 | FH-IL-0011-7501 | FH-IL-0011-9000
Childers, Michael Allen (Illinois)
FH-IL-0011-7500 | FH-IL-0011-7501 | FH-IL-0011-9000
Clayton, Fay (Illinois)
FH-IL-0011-7500 | FH-IL-0011-7501 | FH-IL-0011-9000
Cummings, Jeffrey Irvine (Illinois)
FH-IL-0011-7500 | FH-IL-0011-7501 | FH-IL-0011-9000
Love, Sara Norris (Virginia)
FH-IL-0011-9000
Miner, Judson Hirsch (Illinois)
FH-IL-0011-7500 | FH-IL-0011-9000
Obama, Barack H. (Illinois)
FH-IL-0011-7500 | FH-IL-0011-7501 | FH-IL-0011-9000
Wickert, John Henry (Illinois)
FH-IL-0011-9000

Unbelievably, they somehow missed the point of the case. The case summary states “Plaintiffs alleged that the Defendant-bank rejected loan applications of minority applicants while approving loan applications filed by white applicants with similar financial characteristics and credit histories.” Could it be any simpler?

Obama and his colleagues were NOT demanding that everyone receive loans. They were demanding that race not be a factor.

This talking point needs to be thrown out the window. Banks did not make subprime loans because they had to. They made bad loans because they could package them up (into mortgage backed securities) and sell them. They didn’t CARE whether people paid them back or not. These MBS’s worked their way across the globe, crippling many financial institutions when the payments stopped rolling in.

Conservatives, face reality: the free market is NOT perfect. It’s the best economic system known to man, but guess what– people are selfish.  The market needs to be regulated.  Admitting as much does not make you a socialist, it makes you a realist.

35 comments to “Democrats in Congress Forced Banks to Make Bad Loans”

  • No Name

    A couple other points to add onto this:

    CRA only applied to FDIC-insured “retail banks”. The majority of the bad loans were originated by “mortgage brokers” like companies like Silver State Mortgage in Nevada … bundled up and sold to “mortgage companies” like Countrywide … which then passed them off to big investment houses like Merrill Lynch to bundle up and sell as CDO’s. All, 100% outside of the purview of CRA. Even the Libertarian-leaning Cato institute admits that if the CRA had any impact on the mess … it was a small portion at best.

  • Dan

    Interesting info, thanks. I didn’t realize that the CRA didn’t apply to mortgage brokers– not that it would have mattered to them, of course, because their only goal was to close as many loans as possible to everyone with a pulse. But it just makes the argument that much more ridiculous. Thanks for the comment.

  • Anon

    Thank you for this website. I cannot tell you how many times I’ve heard this lie repeated over and over again. It usually is qualified with “I hate that Barney Frank!”

    The lying assholes.

  • Dan

    No problem Anon. That’s exactly why we started this site. Hearing the same old talking points repeated ad nauseam makes us, well, nauseous. So we’re hopefully going to be exposing the worst of them. Regarding Barney Frank– he shouldn’t be let completely off the hook. It does appear he was careless, at the least. That said, he is nowhere near as guilty as the right would have us believe. More importantly, and this is where the conservative nuts are wrong, the nature of his mistake was a failure to regulate properly as opposed to forcing banks into bad decisions.

  • Splish Splash

    This is as shallow as a puddle. I don’t expect every American to be a researcher… who has time for that? You have demonstrated a true American character of rebellion. It is our nature.
    You have also engaged in another American character, joiner. Unfortunately, you quit looking into the underlying causes of the bubble. You were satisfied with confirming Liberal talking points and called it quits before proving anything.

  • Dan

    I disagree, Splish Splash. The goal of this article was not to identify the cause of the housing bubble or the financial crisis. The goal of this article was to demonstrate that the conservative talking point on this matter is ridiculous.

  • Anon

    Dan,

    I have a small suggestion. I think it would be great if at the end of each article you could supply recommended links to delve even deeper into the issues. Such as with this Barney Frank issue; I would have loved to have links to articles to help me better understand what hand Rep. Frank did have in the bust. Perhaps even links to help better inform one about the entire issue. That way this wouldn’t only be a great way to bust the republican talking points but also supply a list to become better informed on the issues.

    Thanks again.

  • Anon

    As for you Splish Splash. You are exhibiting the traits of a ‘joiner’ in your very comment. Why not make a cogent argument with citations to help us all understand your point of view?

  • Dan

    Thanks Anon, that’s definitely something we will try to do moving forward. As for the financial meltdown, though it is fairly easy to understand what happened, it is very difficult to assign blame. There are some good resources out there that I’d recommend:

    PBS has a documentary entitled “Inside the Meltdown” which gives a broad overview of the whole crisis.

    PBS also has commentary on the cause of the crisis from several prominent politicians and economists, including Barney Frank.

    Wikipedia has a long but useful entry on the subject, including the role that government policies may have had in the crisis.

    I hope this helps!

  • Splish Splash

    Hi all. Sorry to take so long to get back. As Anon correctly pointed out, I have chosen to join this discussion. I have also chosen a posture of rebellion against this argument.

    First all talking points are ridiculous by nature, regardless of who makes them. It might make me FEEL better to ridicule them but it doesn’t help me understand an issue any deeper.

    My point of view is that Democrats and ACORN had a majority role in the housing melt down. Democrats seem to think they can legislate morality. For that matter, so do Christian Activists who lobby Congress to MAKE LAW. Jesus Christ condemned the Pharisees for doing exactly that.

    The problem is not an issue of the FAILURE TO REGULATE ENOUGH. (How do you bold text in this comment box?) Regulations serve no purpose to modify our behavior. Peer pressure and Political Correctness have more influence on the population than some bureaucrat sitting in an office believing HIS or HER wisdom will benefit mankind by dictate. Oh, wait a minute, that would be the guy or gal who selflessly has an interest in what goes on in our lives; because they are such paragons of virtue.

    When we inject ourselves into the affairs of others we should tread lightly. Often our attempts to BENEFIT someone else causes more harm than does the good we intended. Overreach is seldom good for any of us.

    Dan, the fact you disagree was expected. How do you square the fact that the Republicans tried on three occasions to get to the bottom of the financial problems of Freddie and Fannie and the Democrats would have none of it? Republicans tried for 8 years to INCREASE the REGULATIONS but were fought over this. I know, you seem to think MORE REGULATIONS of Financial Institutions could have solved or prevented the problem, but are more REGULATIONS of Institutions that you don’t admire, really the answer?

    In 2004
    Republicans Sought Better Oversight Over Freddie Mac and Fannie Mae;
    http://www.google.com/url?sa=t&source=web&ct=res&cd=5&ved=0CBgQFjAE&url=http%3A%2F%2Fpatterico.com%2F2008%2F09%2F21%2Frepublicans-sought-better-oversight-over-freddie-mac-and-fannie-mae-democrats-opposed-it%2F&ei=kVhOS9K_KYbasgO36ND_Bw&usg=AFQjCNH-eZ2vbpkxcb3XSRRD2zwjLkvO_w&sig2=oaKpd1nJ2Ph3lOZSqQ1nHw

    In 2005
    http://www.google.com/url?sa=t&source=web&ct=res&cd=2&ved=0CAsQFjAB&url=http%3A%2F%2Fthinkprogress.org%2F2008%2F10%2F23%2Fmica-waxman%2F&ei=bVpOS_KsC476sQPfldHSBw&usg=AFQjCNGd_e2FZWy82RX9AfhhNJpgDmvxoQ&sig2=zaLLF-ArysGKhEiwapJGpQ

    In 2002
    http://www.google.com/url?sa=t&source=web&ct=res&cd=3&ved=0CA8QFjAC&url=http%3A%2F%2Fchicagoagainstobama.wordpress.com%2F2008%2F09%2F25%2Ffannie-mae-and-freddie-mac-republicans-asked-for-more-regulation-democrats-denied-their-was-a-problemsenator-obama-never-said-a-word%2F&ei=nFpOS9vdFYimsgO3ofHIBw&usg=AFQjCNEYPBIdCTAAq-02Olaq9187AOJ_5w&sig2=ykKSMerKtAEjU4dZAbhQvQ

    Do a search for Freddie and Fannie and add any year you want to.

  • Dan

    Splish Splash, you’ll note that the phrase I used was “failure to regulate properly“, not failure to regulate enough. I’d agree with you that Democrats failed to properly regulate Fannie & Freddie. But there is a world of difference between failing to regulate banking operations and forcing banks to make bad loans. Because the government failed to properly regulate, the free market incentivized a deadly practice– the reckless issuance of mortgage loans to anyone with a pulse.

    If it seems like I’m making a murky point, consider that many right wing nutjobs adamantly believe that the free market, left to act alone, will never go wrong. When confronted with our current mess, the only way to reconcile their views with reality is to insist that the government literally forced the free market to act improperly. The point that I am making is that the free market, though it is the most efficient economic system known to man, is not perfect. It needs regulation. In this case, it needed better regulation. Ultimately, greed was the cause of the meltdown. We need to refine our financial system so that a small amount of greedy individuals cannot bring the whole thing down.

  • Dan

    Splish Splash, you seem to think I’m arguing that the democrats didn’t do anything wrong. That’s not the case. There is no doubt that they are culpable in this mess. Honestly, President Clinton & Bush both promoted policies that may have contributed to the mortgage mess. But as the first commenter pointed out, most of the damage was done by mortgage brokers that were not even covered by these policies in the first place. This crisis was caused by greed. It could have been averted with better regulation.

  • Splish Splash

    Dan,

    My my-big-fat-wedding-mistake. I intended on going back and changing that to read REGULATE PROPERLY. You help me make my point. Even the most well intended effort often falls short of its goal. To REGULATE PROPERLY may be more difficult than are Ego’s will allow us to admit. But don’t ask a leftwing loon to demonstrate tolerance for opinions that differs from his closed mind.

    As pointed out in the article I just referenced, although called DEREGULATION, it in fact is more regulation. These new rules are blamed for the Credit market collapse. My point is making rules doesn’t solve everything. As a parent, I found too many rules created depression.

    I agree there are greedy people. I also believe there are people who have figured out they can milk others for their sustenance. I believe those in the second category far outnumber those in the first. But this has been a cultural change over the past 50 years.

  • Splish Splash

    Tom Hartman would agree with you.

    Every game has to have rules. But who makes them up? Liberals believe they have all the right answers. Conservatives are damn sure they do.

  • Splish Splash

    What we are sure is better regulation may or may not be. We have so-called experts arguing every day about the numbers. It is weekly that the so-called experts release headlines with “Larger/Smaller numbers of unemployed than EXPECTED” “Stock Market gains/losses more than EXPECTED”

  • Dan

    Splish, I respect your point of view because you aren’t making the inane claims that some partisans do. As I said, this article is directed at them.

    The real substance of this debate should be the seeming contradiction you just mentioned– how do you regulate enough without over reaching? I’m very willing to concede that too much regulation is just as fatal as too little. The problem is that much of the national dialogue is the extreme ends of the spectrum shouting back and forth. The bottom line is this: It’s insane to say that anybody FORCED the banks to make these bad loans. They did it on their own, because there was tremendous profit to be made.

  • Splish Splash

    Dan,

    I’ll give you that, there was tremendous profits to made. There is in various ventures.
    And thank you for the kind words. Will you grant me that “we are the stuff” of our forefathers; those who came here for fortune, land and freedom. Those who struggled to get to California for “The Gold Rush”. Those who crossed the state lines in Oklahoma “Sooner” than they suppose to? Those who reached the Moon before the Russians?

    We are an industrious lot! We are rule breakers! We laugh at Regulations!

    There are far too many people involved in the Looting of America. I believe that our government is responsible for making it this way.

    We have the right as individuals to give away as much of our own money as we please in charity; but as members of Congress we have no right to appropriate a dollar of the public money.
    Davy Crockett

    And it started before Davy Crockett went to Washington.

  • Splish Splash

    Dan,

    I have to call it a night. Thanks for your banter and thoughtful responses.
    Maybe we can solve the worlds problems tomorrow.

  • Dan

    I’ll grant you that we need more that are the stuff of our forefathers, Splish. I don’t doubt that you are one of them.

    We agree that things went wrong– I think greed and human nature are largely the cause, and you obviously believe the government is more to blame. It’s fair to say that we’re both at least partially correct. And this website is not ambitious enough to determine the exact mix.

    As Rod Dreher put it in his Crunchy Con Manifesto, “Big business deserves as much skepticism as big government.”

  • Splish Splash

    Dan,

    It is FAIR. And there are a lot of culprits. We must be aware of the manipulation coming at us from all directions. I intended to become a Commercial Artist out of High School. When it dawned on me, that the job wasn’t as much about Art as Manipulation, I switched to Engineering.

    Political commentator Henry Louis Mencken (1880-1956) warned that “The whole aim of practical politics is to keep the populace alarmed — and hence clamorous to be led to safety — by menacing it with an endless series of hobgoblins, all of them imaginary.”

    Our politicians realize Class Warfare has grown a little thin (although Dems still often play in that sandbox), so they have done their darnedest (Both Sides) to encourage us to fight one another to the extent of distraction. Like a Magicians left hand occupying our attention, while the right hand is doing all the work. Arguing issues has always been to the benefit of America. Considering Half the country, as the Enemy of the country, will speed its downfall.

    Have a blessed day, stay engaged.

  • Splish Splash

    Dan,

    I printed this yesterday but didn’t get around to reading it till this morning. Stossel makes an interesting distinction I think you might find intriguing.

    http://townhall.com/columnists/JohnStossel/2010/01/13/lets_take_the_crony_out_of_crony_capitalism

  • Dan

    That’s an interesting read, Splish Splash, and while I agree that the “Crony Capitalism” he talks about is very real and very bad for the country, I disagree that it’s what led to this crisis. The root of this crisis was the sub-prime mortgage debacle. Housing bubbles come and go, just like any other asset bubbles. The difference was that so many financial institutions around the world were dependent on these mortgages paying as written. How did we get to that point? Not because of any cronyism or government action, but because mortgage lenders could make lots of money pushing loans on people. And then they sold them to somebody else, who packaged them and sold them on. It was like a game of hot potato, and as long as you didn’t have the potato, you made huge money. Of course in the end there were too many hot potatos and the system couldn’t handle it. But the innovations that led to the game were purely free-market ideas. Pushing loans and securitizing them required no government cronyism– it just required the financial big shots not thinking too hard about what they were doing.

    I’ve heard it argued that the big institutions wouldn’t have behaved as they did if they weren’t sure that they’d be bailed out if it went bad, but that’s a bunch of crap if you ask me. Look at the salaries and the bonuses that the executives of the big banks and investment houses raked in during the 2000’s. They were willing to take these risks because they were getting paid handsomely– and if it went bad it was no skin off their backs! They sailed off into the sunset, and would have whether the government bailed out their former companies or not.

  • Splish Splash

    Truly a well stated description of the story line we have been fed by some in the media.

    What is the motivation behind those who would have us believe there are ghosts? What is the motivation of those who would have us believe HALF of American Citizens are the most evil and vile creatures to ever inhabit the planet? Why are we told one week “eggs” will lead to an early grave; then the next we’re told there’s nothing wrong with eggs?

    I agree one-hundred percent, that there were some individuals in the Mortgage industry that took advantage of the system. I will state unequivocally there are people involved in every line of work that profit, lose, maintain, love, hate, are enthusiastic, are bored, are at their wits end, can’t stand, or believe their lives would end if they couldn’t do what they do.

    What I find offensive is the notion that a subset of the individuals involved in the collapse are made to be the most vile of all involved. Juggling the hot potatoes for twenty-six years worked out great for a lot of people. Untold numbers of individuals got into home ownership (in houses well beyond anything I would dare buy), for quite some time, thanks to Adjusted Rate Mortgages (ARM’s). When someone manipulated the Stock Market in September the potatoes hit the floor. I think that guy should be hung. (I exposed my Liberal Side by finding something to vilify.) ((I exposed my Conservative Side by suggesting punishment be immediately dispatched.))

    The fact that Institutions held worthless paper, regarding these loans, was a source of concern since the early nineties. The Institution that held the lion share of this paper had the backing of Freddie and Fannie (a publicly owned, taxpayer backed group) who had assurances from some in OUR Government that WE THE PEOPLE supported any and everything they did to get individuals, with no proof of a job, a home. Just keep pushing those ARM’s on people who believed in the benevolence of OUR Government to never steer them wrong. Surely OUR Government would never allow a bad policy to be enacted and they would be there to make it right if anything did go wrong. That’s why we had people a year ago asking Obama when HE was going to get the a home, with complete sincerity.

    Dan, I am thankful for the time you have devoted to a complete stranger. I am thankful that you have taken the time to engage me with your perspective. I don’t know if I’ve worn out my welcome on this subject; that’s up to you. I haven’t taken the time to look at anything else you have written about on your site. I found a link to this article on reddit.com. I usually just troll the sight. As a bred and raised Democrat/Catholic, that crushed his parents hearts after converting to Conservative/Presbyterian in the late seventies; I find Left Wing site quite humorous. I get it, so to speak. Sadly, I often find them very disturbing when I consider how much we have changed as a nation since I was a child.

    Anyway, I will take a look at your other postings. I have to get back to work. I hope to catch up with you soon.

    Richard Brown

  • Mike

    From the sidelines, it seems like Dan is driving the point home while Splish Splash is trying to affirm his faith in the free market.

  • Splish Splash

    Thanks for the input Mike. As I stated before,”First all talking points are ridiculous by nature, regardless of who makes them. It might make me FEEL better to ridicule them but it doesn’t help me understand an issue any deeper.”. I could easily refute the virtuous nature of Liberal sanctimony, having been one. Here is a list for you to peruse.

    http://rightwingnews.com/2010/01/the-last-decade-of-liberalism-in-40-quotes/

    Do these quotes reflect the Liberal believe system? If so, than I stand corrected. I don’t know of a single Conservative that believes the Democrats/Liberals are Wholly responsible for the Collapse. But it sure FEELS good to point the finger of blame. The plethora of gotcha “catch phrases” are destroying this nations ability to “PROGRESS”.

    And no shame here… MORE POWER TO THE FREE MARKET… Condense the regulations to the size of a term paper.
    We have Professionals involved; I’m sure easily exceeding 100,000 combined years of experience. We Can’t Produce Clear Legislation/Rules of the Market Place? We all know, that the more complex the rules, the less likely the rules will be followed. We all know, the larger the forest, the easier it is to hide in it. By all means “REGULATE PROPERLY”. We have a tendency to reaction… not thought!

    I will also give you that Dan was quite clean and articulate. I believe him to be a sincere individual about his understanding of the House Bubble Collapse. A better read and thoughtful individual of the issues. He would not have wasted his creating a website of this nature without having conviction.

    Sometimes our sojourns are based on false premises.

  • Splish Splash

    Thomas Jefferson picked the location of Washington D.C. intentionally in swamp land. His idea was to reduce the amount of time people would spend arguing and writing Legislation. The mosquito infested lands would limit time in Washington. Now we have Marathon congressional meetings. Sometimes Progress creates more harm than good.

    The irony is, what better place to hide illegal activities/bodies than a swamp.

  • Dan

    Richard, I too enjoyed our conversation. Not to sound corny, but if more people who disagreed could have civil discussion about said disagreements, our country would be better off for it. You certainly have not worn out your welcome– I wouldn’t have launched this site if I wasn’t looking for conversation.

    I do think you’re slightly misconstruing my comments, however. I’m not attempting to vilify the free market! I agree that it is simply the best economic system of all time, at least in terms of productivity. I’m specifically rejecting the notion that the free market is perfect. No doubt you agree with me– the free market provides incentive for all sorts of illicit behavior which we don’t tolerate (prostitution, child pornography, etc). That is just reality– people are selfish by nature and will often exploit others when given the opportunity. That is where government regulation is needed– when the market provides an incentive for a behavior that is HARMFUL to society. That was exactly the case during this mortgage crisis– incentive was provided for brokers & institutions to issue as many loans as they could… and we are now seeing the consequences affecting us all. When destructive behavior is incentivized by the market, the government must step in.

  • Splish Splash

    Dan,

    Thank you for this remarkably clear statement. I agree 98 percent with everything you stated;
    the free market is NOT perfect, incentives are plentiful, human nature is a component within the free market system, some people are predisposed to self indulgence, and some are willing to profit at the expense of others.

    Where our difference lies is in the culprit. I believe that the INCENTIVES were provided by the mechanization’s of the rule makers, who themselves were rewarded handsomely for tweaking the rule-book for the mortgage lobbyists. The opportunity for the mortgage industry was not there a few years back (35 years). The incentive’s were a direct result of Jimmy Carter’s well meaning legislation and populist policy to get more American’s in their own homes. So far so good. Then the Democrats (with Republican help) who took over the Congress in ’83, because Reagan hadn’t fixed the economy by then, generated and passed legislation for Adjustable Rate Mortgage (ARM’s) in an attempt to improve on the populist notion of American Home Ownership for all those who wanted one. This helped reduce the interest rates from the late ’70s. Once that happened ARM’s looked pretty attractive to a lot of unsuspecting and ill-informed individuals of there inherent downside.

    Mortgage companies didn’t like this new program. Very few ARM’s were issued during and through the ’80s. Some people didn’t see Home Ownership growing at the pace they believed it should. “Everyone should be a home owner.” “It must be the Evil Banker’s not lending to minorities.”
    So in the ’90s ACORN moves into bank lobbies and threaten to shut down all business until the banks stop “Red-lining”. Politicians seized the movement and wrote more policies to reduce the Banks Loss Exposure by guaranteeing to cover the banks losses, “If there ever were any”.

    “Low and Behold”, “Hallelujah”, “Sally bring home the bacon”, Bankers and Mortgage Houses were given a free pass to do nothing but make money. Who wouldn’t jump at an opportunity like that?

    I don’t see the Mortgage Industry as the villain but an opportunist. I see the corruption coming from the highest levels in this land. I see the politicians (rule makers) as the villains for having sold their constituencies out for gold in their own pockets. You think these guys will ever except responsibility for their part in it?

    The greatest place in this country for getting away with a crime is in the government. A small percentage of criminal acts are prosecuted at this level of public actions. We know attorneys cover for one-n-other, policemen do it, and most organizations tend to look out for their own. With the potential gain in prestige, power, and wealth; there is greater incentive toward illicit behavior in our government than in the private sector.

    The creation of Regulation, irrespective of its well meaning, created the conditions for the collapse. The Greed of Man took advantage of it. You can’t regulate morality, you can only legislate the consequences. Most often the free market does that on its own by punishing a business or organization with the loss of funds or participants. This nature tends to keep on the straight and narrow.

  • Splish Splash

    Dan,

    This is pretty heady stuff. Printed 7 pages. Professor Deepak walks us through the Financial Structures, Policy Errors, considers remedies and the new world financial order, while concluding with the Geopolitical Consequences of the Crash.

    The Great Crash of 2008: Are governments or markets to blame? Print E-mail
    Written by Professor Deepak Lal (June 2009)

    Introduction

    In the early 1980’s I was working as the Research Administrator at the World Bank, whilst the Third World was engulfed by a debt crisis. The current global financial crisis has eerie similarities, but different outcomes. Why?

    First, both the crises arose because there was a surplus of savings in a number of countries- the oil producers in the 1970s, the Asian economies and commodity exporters today-which was recycled through the international banking system. Second, highly liquid banks imprudently funneled cheap credit to un- creditworthy borrowers: the fiscally challenged and inflation prone countries of Latin America and Africa in the 1970s, the ninja (those with no income, no jobs, no assets) sub prime mortgagees of the current crisis. Third, there was a rise in commodity prices and a worsening of the terms of trade of the OECD, posing the stagflation dilemma for their central banks, having aided and abetted the earlier asset boom. Fourth, the imprudent banks sought bailouts from taxpayers, claiming their demise would fatally damage the world’s financial system.

    But, the outcomes have been different. The 1980’s crisis was finally solved after a prolonged cat and mouse game when the banks accepted substantial write downs of their Third World debt, sacked their imprudent mangers and shareholders suffered large losses. But no systemic threat to the world’s financial system (or the global economy) emerged. By contrast, today the Western financial system seems to be dissolving before our eyes, and with the US Fed’s ever expanding balance sheet, bailouts are no longer the exception but the norm. Many now foretell a deep and perhaps prolonged recession, with deflation, rising unemployment, and Keynes’ famed liquidity trap about to engulf the world’s major economies.

    http://www.adamsmith.org/think-piece/economy/the-great-crash-of-2008:-are-governments-or-markets-to-blame?–200906203842/

    From I Changing Financial Structures
    .
    The present crisis emerged in a radically different financial structure: the rise of universal banks from the UK’s Big Bang financial liberalization in the 1980s, and the Clinton era abolition of the Glass-Steagall Act, which had kept a firewall between the commercial and investment banking parts of the financial system since the 1930s. The former had implicit deposit insurance and access to the central banks’ lender of last resort facilities. The latter did not. It is worth explaining why this matters.
    .

    II Policy Errors
    .
    Given these public shortcomings the near universal calls for greater regulation and state intervention is astounding. Public agents, not private ones- who reacted rationally to the implicit or explicit ‘rules of the game’ promoted- are to blame for the crisis. It would be foolish to blame the puppets for the failings of the puppeteer.

    III Remedies
    .
    .It is Irving Fisher (“The Debt-Deflation Theory of Great Depressions”, Econometrica, 1933) who provides the correct diagnosis of the nature and cures for the current crisis. Fisher saw a ‘balance sheet recession’ as an essential element in the Great Depression. He argued that, whilst there were many cyclical factors behind trade cycles, for Great Depressions the two dominant factors are “over-indebtedness to start with and deflation following soon after (p.341).
    .

    IV A New Financial Oligarchy?
    Finally, I want to consider who are the winners from this on- going global financial crisis? The answer is: China, India and Goldman Sachs!
    .

    V Geopolitical Consequences
    .
    This irresponsibility has increased manifold with the current crisis. The 2007 report noted that, it was primarily the health entitlements which made the US budget unsustainable. This is the entitlement Obama is planning to enlarge.

  • Dan

    I apologize for the delay, Richard. I’ve been quite busy lately. I intend to read the piece that you linked to– it looks interesting.

    But first I want to point out that the devices you’ve mentioned, such as ARM mortgages, may have been permitted by the government but they were certainly invented by the free market! The deregulation of the early 1980’s didn’t invent these tools– they allowed the market to use them. My believe is that in this case, the market needs to be regulated. Specifically, many derivatives and asset-backed securities need to be banned. Subprime mortgages need to be tightly controlled, and loan originators need to hold on to a substantial portion of loans they issue in order to ensure that they are issuing loans responsibly.

    I see the free market as a wild horse. We don’t want to shoot the horse (OK, maybe some extreme leftists do), but we can’t let it run free, either (as some on the right would prefer). We need to tame it– harness the power without destroying it. I’d argue that from the end of the great depression to the early 80’s, we did a good job of this. There were still recessions, of course– but nothing devastating, and no financial meltdowns. In the 80’s we took the reins off the horse and were rewarded with increased profitability– and now we are paying the price. To be clear– I’m all for deregulation when it’s possible. But the financial world is a place we cannot afford to take these chances.

  • Splish Splash

    Dan,

    I wanted to give you some time to read and think about Professor Deepak Lal’s article. The professor also posts articles at the CATO Institute. We find articles from a multitude of experts that support our fundamental grasp of events; and those that invalidate what we understand. We are left with the task of sorting out an understanding for ourselves.

    I have seen this description in many different forms, this one much less offensive than others.

    Economics 101

    An Easily Understandable Explanation of Derivative Markets

    Heidi is the proprietor of a bar in Detroit . She realizes that virtually all of her customers are unemployed alcoholics, as such, can no longer afford to patronize her bar. To solve this problem, she comes up with new marketing plan that allows her customers to drink now, but pay later. She keeps track of the drinks consumed on a ledger (thereby granting the customers loans).

    Word gets around about Heidi’s “drink now, pay later” marketing strategy and, as a result, increasing numbers of customers flood into Heidi’s bar.

    Soon she has the largest sales volume for any bar in Detroit .

    By providing her customers’ freedom from immediate payment demands, Heidi gets no resistance when, at regular intervals, she substantially increases her prices for wine and beer, the most consumed beverages. Consequently, Heidi’s gross sales volume increases massively.

    A young and dynamic vice-president at the local bank recognizes that these customer debts constitute valuable future assets and increases Heidi’s borrowing limit. He sees no reason for any undue concern, since he has the debts of the unemployed alcoholics as collateral.

    At the bank’s corporate headquarters, expert traders transform these customer loans into DRINKBONDS, ALKIBONDS and PUKEBONDS. These securities are then bundled and traded on international security markets. Naive investors don’t really understand that the securities being sold to them as

    AAA secured bonds are really the debts of unemployed alcoholics. Nevertheless, the bond prices continuously climb, and the securities soon become the hottest-selling items for some of the nation’s leading brokerage houses.

    One day, even though the bond prices are still climbing, a risk manager at the original local bank decides that the time has come to demand payment on the debts incurred by the drinkers at Heidi’s bar. He so informs Heidi and then demands payment from her alcoholic patrons, but being unemployed alcoholics they cannot pay back their drinking debts. Since, Heidi cannot fulfill her loan obligations she is forced into bankruptcy. The bar closes and the eleven employees lose their jobs.

    Overnight, DRINKBONDS, ALKIBONDS and PUKEBONDS drop in price by 90%.

    The collapsed bond asset value destroys the banks liquidity and prevents it from issuing new loans, thus freezing credit and economic activity in the community.

    The suppliers of Heidi’s bar had granted her generous payment extensions and had invested their firms’ pension funds in the various BOND securities. They find they are now faced with having to write off her bad debt and with losing over 90% of the presumed value of the bonds. Her wine supplier also claims bankruptcy, closing the doors on a family business that had endured for three generations, her beer supplier is taken over by a competitor, who immediately closes the local plant and lays off 150 workers.

    Fortunately though, the bank, the brokerage houses and their respective executives are saved and bailed out by a multi-billion dollar no-strings attached cash infusion from their cronies in Government. The funds required for this bailout are obtained by new taxes levied on employed, middle-class, non-drinkers who have never been in Heidi’s bar.

    Now, I understand.

  • Splish Splash

    Dan,

    Wanted to introduce some levity. What makes any story good is some semblance of truth. It doesn’t fully explain anything but is rather shallow relative to the depth of the issue.

    I like your wild horse analogy. I want to pursue that line of thinking a little further.
    How many people do you suppose have owned horses? How many of those horse owners understood the dynamics of control of such a beast? How many of those individuals do you suppose had the rapport with their horse as demonstrated by Monty Roberts, “The man who listens to horses”?
    http://www.montyroberts.com/

    I’m sure that a few of the horse owners throughout history intuitively managed their animal every bit as well as the Monty. These individuals probably never thought to articulate their instincts.

    In spite of Monty’s success, I don’t see Monty as, “The One, ‘Horses’ Have Been Waiting For”. I do see him as a very successful and reliable source of information for dealing with Horses. I would not ask and rely on his perspective regarding Economics simply because he proved his ability in a specific area.

    Monty is one in millions of people who have owned and or dealt with horses. How many other horse owners would you imagine have offered advice to other people? I would bet almost all of them. I would also bet there have been a few of those people who had no business owning horses, much less providing stewardship for them. Who’s call is it to determine which individuals may be incompetent and under what authority should we do something about it?

    Our well meaning legislators have determined we should use public money and land in a manner to encourage the existence of wild horses. Much to their consternation we now have to deal with the over-sized herds with regrettable consequences. Should we encourage the increase in wolf and mountain lion populations to keep the size of these herds in check? What we created by fiat we once again find ourselves struggling for another solution to a problem we legislated.

    I find the arrogance to control things more destructive than productive. Reaction to modern day Dragons even less progressive than the solutions in thousand year old stories. I see liberalism, progressivism, socialism, the majority of ism’s creating Dragon’s. I can’t think of a single Dragon that any of them have slain. Their point precisely has never to been to slay an imagined Dragon but to distract us from reality. It’s entertaining but very dangerous.
    Millions of people have been killed because they didn’t fit the contemporary mold or buy into the fantasy.

  • NewJeffCT

    I think what a lot of Republicans, libertarians, conservatives, whatever, are forgetting is that a lot of the banks that received bailout money were NOT ones that participated in the programs designated to help minorities achieve home ownership, and that these special programs were minuscule in the overall picture.

  • Dan,

    Thank you for this remarkably clear statement. I agree 98 percent with everything you stated;
    the free market is NOT perfect, incentives are plentiful, human nature is a component within the free market system, some people are predisposed to self indulgence, and some are willing to profit at the expense of others.

    Where our difference lies is in the culprit. I believe that the INCENTIVES were provided by the mechanization’s of the rule makers, who themselves were rewarded handsomely for tweaking the rule-book for the mortgage lobbyists. The opportunity for the mortgage industry was not there a few years back (35 years). The incentive’s were a direct result of Jimmy Carter’s well meaning legislation and populist policy to get more American’s in their own homes. So far so good. Then the Democrats (with Republican help) who took over the Congress in ’83, because Reagan hadn’t fixed the economy by then, generated and passed legislation for Adjustable Rate Mortgage (ARM’s) in an attempt to improve on the populist notion of American Home Ownership for all those who wanted one. This helped reduce the interest rates from the late ’70s. Once that happened ARM’s looked pretty attractive to a lot of unsuspecting and ill-informed individuals of there inherent downside.

    Mortgage companies didn’t like this new program. Very few ARM’s were issued during and through the ’80s. Some people didn’t see Home Ownership growing at the pace they believed it should. “Everyone should be a home owner.” “It must be the Evil Banker’s not lending to minorities.”
    So in the ’90s ACORN moves into bank lobbies and threaten to shut down all business until the banks stop “Red-lining”. Politicians seized the movement and wrote more policies to reduce the Banks Loss Exposure by guaranteeing to cover the banks losses, “If there ever were any”.

    “Low and Behold”, “Hallelujah”, “Sally bring home the bacon”, Bankers and Mortgage Houses were given a free pass to do nothing but make money. Who wouldn’t jump at an opportunity like that?

    I don’t see the Mortgage Industry as the villain but an opportunist. I see the corruption coming from the highest levels in this land. I see the politicians (rule makers) as the villains for having sold their constituencies out for gold in their own pockets. You think these guys will ever except responsibility for their part in it?

    The greatest place in this country for getting away with a crime is in the government. A small percentage of criminal acts are prosecuted at this level of public actions. We know attorneys cover for one-n-other, policemen do it, and most organizations tend to look out for their own. With the potential gain in prestige, power, and wealth; there is greater incentive toward illicit behavior in our government than in the private sector.

    The creation of Regulation, irrespective of its well meaning, created the conditions for the collapse. The Greed of Man took advantage of it. You can’t regulate morality, you can only legislate the consequences. Most often the free market does that on its own by punishing a business or organization with the loss of funds or participants. This nature tends to keep on the straight and narrow.

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