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Contributory factors to the current crisis


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From an article by Dennis Sewell in The Spectator:-

‘Let us be clear: this is a crisis caused on Wall Street,’ insisted Speaker Nancy Pelosi in her consensus-strangling speech on Monday, shortly before her fellow members of the House of Representatives voted to reject the President’s $700 billion bail-out plan. Out on the campaign trail, Barack Obama ventured that the root cause of the trouble in the markets was that ‘too many people in Washington and Wall Street weren’t minding the store’.

In regard to Pelosi’s speech note this comment from Clive Crook:-

The Republican leadership blamed Nancy Pelosi’s stridently partisan speech recommending the measure for the strength of Republican opposition. On one level, this is a ridiculous complaint: in the end the Republicans are responsible for their own votes. Yet as I listened to Pelsosi’s speech my heart sank. I do think it remarkably disingenuous to say (as Barney Frank, Larry Summers and many other Democrats subsequently did) that it would be outrageous for a Congressman to change his mind on the substance of a bill just because he was embarrassed by a speech. Good heavens, that would be to behave like…like a politician. Don’t tell me a Congressman might sink that low.

Wavering Republicans, like wavering Democrats, needed cover to vote for a bill they did not like and that many of their constituents were objecting to. Pelosi chose to rub the Republicans’ faces in the mess. Twelve votes needed to switch to get the thing done. If Pelosi had struck a bipartisan note, I bet the measure would have passed.

Sewell comments:-

Unless we take advantage of this hiatus between the crashing of financial institutions to take an honest look at the origins of our current predicament, then today’s spin and myth-making will quickly harden into tomorrow’s firm conviction. Let us be clear: this crisis was not caused on Wall Street — it was caused in the White House. The root problem was not financial — it was political, and those truly responsible for this fiasco were not bankers, nor even Bush Republicans; they were Clinton Democrats.

So the contention is that according to Sewll this was not initially a banking issue, but a social one.

For generations, America’s bankers have been firmly refusing credit to those they judged unworthy of it. Yet the mountain of toxic subprime debt that has threatened to overwhelm the entire financial system, and the astonishing number of mortgage foreclosures across the United States, is proof that, at some point in the relatively recent past, bankers radically altered their behaviour and began to shower mortgages on borrowers who had no realistic prospect of keeping up their repayments. What could possibly have induced them to act so recklessly, and so out of character?

Well we have repeatedly read and been told by some commentators – that the answer was greed.

The facile answer to that question is greed, the lure of a fast and easy buck. The correct answer is that banks were bullied, cajoled and coerced into lowering their lending standards by politicians in pursuit of an ideological agenda.

Adam’s suspicion is that greed did play a part human nature being what it is, but that other factors came into play as well.

Sewell notes the arrival in Washington of a Clinton appointee, Roberta Achtenberg as the Assistant Secretary for Fair Housing and Equal Opportunity at the Department of Housing and Urban Development (HUD).

Sewell comments:-

The main thrust of the Clinton housing strategy was to increase home ownership among the poor, and particularly among blacks and Hispanics. White House aides, in familiar West Wing style, could parrot the many social advantages that would accrue: high levels of home ownership correlated with less violent crime, better school performance, a heightened sense of commun-ity. But standing in the way of the realisation of this dream were the conservative lending policies of the banks, which required such inconvenient and old-fashioned things as cash deposits and regular repayments — things the poor and minorities often could not provide. Clinton told the banks to be more creative.

Meanwhile, Ms Achtenberg, a member of the kickass school of public administration, was busy setting up a network of enforcement offices across the country, manned by attorneys and investigators, and primed to spearhead an assault on the mortgage banks, bringing suits against any suspected of practising unlawful discrimination, whether on the basis of race, gender or disability.

So the law was used by the Clinton administration to effectively coerce lenders, Sewell noting:-

However, when little or no overt or deliberate racial discrimination was discovered among the mortgage lenders, HUD’s investigators turned to trying to prove ‘disparate treatment’ of minority groups, a notion similar to that of unintentional ‘institutional racism’. If a bank refused loans to proportionally more black applicants than white ones, for instance, the onus would fall on it to prove it had good grounds for doing so or face settlement penalties running into millions of dollars. A series of highly publicised cases were brought on this basis, starting in 1994.

Delightful. So the following happened:-

These mortgage banks, which have been responsible for issuing about three quarters of the dodgy subprime loans that are proving troublesome today, quickly took the hint. From the mid-1990s they began to abandon their formerly rigorous lending criteria. Mortgages were offered with only 3 per cent deposit requirements, and eventually with no deposit requirement at all. The mortgage banks fell over one another to provide loans to low-income households and especially to minority customers. In the five years from 1994 to 1999, the number of African-American and Latino homeowners increased by two million.

The national banks, responsible for the remaining quarter of the current subprime loans, were put under a different kind of pressure by the Clinton team to boost their low-income and minority lending too. Changes were made to the Community Reinvestment Act to establish a system by which banks were rated according to how much lending they did in low-income neighbourhoods. A good CRA rating was necessary if a bank wanted to get regulators to sign off on mergers, expansions, even new branch openings. A poor rating could be disastrous for a bank’s business plan. It was a different kind of coercion, but just as effective.

Then to compound the situation:-

At the same time, the government pressed Freddie Mac and Fannie Mae, the two giants of the secondary mortgage market, to help expand mortgage loans among low and moderate earners, and introduced new rules allowing the organisations to get involved in the securitisation of subprime loans.

So Sewell argues:-

So, by the end of the 20th century most of the ingredients that would combine to cause today’s subprime crisis were already in place. Nevertheless, the 1990s can seem a long time ago, and to grasp the connection between the situation then and what is happening now, it’s important to realise that only a small proportion of the subprime loans made since George W. Bush became President have gone to new, first-time buyers. A huge number of them have been refinancing loans, replacing mortgages originally taken out perhaps eight, ten or 12 years ago.

He then goes on to suggest that in an attempt to meet commitments or to free up some cash many of these borrowers cashed out some or all of their equity.

It is here that Adam would suggest there is some culpability on the part of brokers and others.

Sewell suggests that to blame Dubbya is not appropriate, Sewell claims that the borrower:-

You will never pay off that loan, it is pure poison to you, just like it’s pure poison to the investment bank that ended up with it on its books. You will just walk away. It’s not your fault. It’s not the bank’s fault. And it certainly isn’t George W. Bush’s fault — every attempt he has made to reform the mortgage market has been blocked by Congressional Democrats.

Sewell sees the major culprit in all this as social engineering by politicians and activists seeking to do good and make housing affordable.

As Sewell concludes:-

So that’s how we get from there to here, from crude attempts at social engineering during the early, heady days of the first Clinton administration to the turmoil on Wall Street today. There may be many technical lessons to be learned about selling and buying mortgages, about the best ways to price and manage risk, and about the regulation of financial markets, but I believe the most important lesson of all is an ethical one: it’s about not behaving ruthlessly when trying to change the world for the better.

Bill Clinton’s team, like so many progressives here in Britain, were not content to wait and see what fruits equal opportunities might bring. They felt compelled to secure their equal outcomes by any means necessary, even if that meant debauching institutions, corrupting professions and trying to skew the operation of markets. That only ever leads to chaos.

Adam takes the view that there were probably other contributory factors, such as the unresolved but effective ‘public’ status of Freddie and Fannie, plus the way in which regulators behaved – but it seems possible that in part some culpability, maybe a major element, attaches to those identified by Sewell.

That of itself does not necessarily account for the global knock on.

  1. 23/11/2008 02:43

    Thank you very much for your post. Absolutely excellent information and very useful for me. Great done and keep posted. Looking forward to reading more from you.


  2. 08/10/2008 19:42

    As least they finally got the bailout passed. However, things still look fairly bad seeing how the stock market is still crashing every day.


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