10 Stupid Moves That Created This Mess

1. Securitized Debt. Call it mortgage backed securities, CDOs, CDOs squared, CDOs cubed, CDOs quadrillionthed or whatever, but the process of those underwriting the risk not keeping the risk led to, well, lots of risk. All was fine and well while housing continued to climb, or at least appeared to be fine and well. You know the rest of the story.

2. Rating Agencies. The rating agencies were being paid to rate the securitized debt, and when you are paid handsomely to do something you do it. Seems the money making aspect of the process was perhaps the driver for some ratings that, at least in retrospect, were foolish at best. I don't care what tranch you are talking about, subprime mortgages, like liar loans and 100% LTV loans, never deserved triple A ratings or anything close.

3. Credit Default Swaps. Credit default swaps are to blame for AIG's demise. Otherwise they have not been the biggest player in creating the mess but may be the biggest player in cleaning it up. It would be nice to be able to let some of these players fold in an orderly fashion and support just those that survive. The problem is that the folding process will undoubtedly trigger some of the CDS contracts, which may result in taking down other entities in the process. With what was once estimated to be $62 trillion in CDS contracts in play, this is no small problem.

4. Commodity Futures Modernization Act. Try saying that five times real fast. While the act, which was enacted in 2000 in the final days of Clinton's presidency with no debate in either the House or the Senate, did various things, the key thing it did was legalize CDSs, which arguably were illegal before then. To the extent someone bought a CDS to protect them on a bond, for example, that was insurance and should have been regulated as such. To the extent the person buying the CDS had no interest to protect, they were simply betting that a company would default, which is gambling. The Commodity Furtures Modernization Act made sure CDSs did not get treated as insurance or gambling.

5. SEC. In 1975 a regulation was passed that limited the leverage certain financial institutions could take on, in relation to capital, to a 12-to-1 ratio. A few years ago the SEC provided an exemption to a handful of institutions, including Lehman Brothers, Bear Stearns, Merrill Lynch (MER) and Goldman Sachs (GS), allowing them to go up to 40-to-1. Oops.

6. Liar loans, 100% LTV loans, option ARMS and the like. Closely tied to the securitization issue was the scope of mortgage products being made available. People could get mortgages with no or minimal documentation, with no money down, with payments that did not even keep up with interest accrual and with poor credit ratings. If you could fog a mirror, you could get a loan. Those taking out these foolish loans, on the expectation that prices would continue to rise, are as much to blame as anyone.

7. The Fed. The Fed, under Greenspan, kept interest rates too low for too long following the dot com bubble burst. It also was a staunch advocate for deregulation and free market principles. Greenspan spoke openly on how CDSs for example, were good for the economy because of the reduced risk. Having $62 trillion in obligations out there waiting for the shoe to drop is not my version of reducing risk, but to each his own.

8. Special Purpose Entities. These are orphan companies set up by a company, such as a bank of financial institution, that keeps certain assets and/or risks off of the sponsoring entity's balance sheet. Financial institutions have been able to hide a great deal of loss this way. Enron is a prime example of how these off-balance sheet entities can be abused.

9. Ben and Henry. They downplayed the problems for far too long and when they did react their plans were poorly conceived and executed. We seem to be following the Japanese play book and everyone can see how well that worked out. Throwing money at the institutions that created the problem is not helping anyone but those institutions. We would be better off to stand in their shoes and lend the money instead of giving it to them and hoping they will lend (which of course they are not doing).

10. The Shadow Banking System. You know who they are. Some of them are gone and some have had to merge. Some have now agreed to change their form and be regulated. These entities went unregulated and self-supervised for way too long and we are all paying the price. Some of the problem here is their compensation scheme that handsomely rewards large profits, even when they are earned at the expense of future stability. These behemoths should be dismantled, but instead we are supporting their attempts to become bigger. Iceland learned what happens when financial institutions get to big to fail and too big to save, but we never learn.

This is by no means a complete list but it is a nice start. Feel free to make suggestions.

Disclosure: None.

Comments

[john s. gordon:]

right on.
> jack

Jan 01 08:16 AM

[NickGulliford:]

The truth about the causes of the financial crisis in the UK is leaking out
slowly. There is still some way to go.

The government said initially:

1. The crisis arose because of sub-prime lending in the US

2. Northern Rock's loan book was fine, but its dependence on
wholesale borrowing was at fault

Subsequently, it has emerged Northern Rock's Together mortgage [1]
was by no means the only bad lending occurring, so that the first
part of [2] was simply not correct.

Speaking at this year’s Council of Mortgage Lender’s annual
conference in London on Tuesday 2nd December, Vince Cable said,
“the admission came after a dinner two years ago from the chief
executive of one of the banks which is now part-nationalised.”

He said: “I had dinner with a chief executive of one of the now
recently part-nationalised banks and we argued for an hour about
his lending practices. Finally he accepted his bank’s lending was
foolish and dangerous, but he would have been sacked by his board
if he didn’t lend these mortgages.”

Cable told delegates that mortgage lenders were not the only ones
to blame for the current financial turmoil.

He said: “It is easy to point fingers, but the political class are
just as responsible for the situation. It has pursued irrational
owner-occupier aspirations with ridiculous religious fervour and
now the dream has burst very painfully.”

What we need to know is in what respect was the lending of the
banks 'foolish and dangerous'?

If the CEO of a large bank was aware of it two years ago, who else
knew?

On Wednesday 26th November 2008, in a debate in the House of Lords,
Lord Myners [Parliamentary Secretary, HM Treasury] said,
"foreclosures are higher in Northern Rock than in other mortgage
lenders because its lending was more irresponsible. It is as simple
as that."

Lord Turner, the FSA Chairman, had previously told the Treasury
Committee of the House of Commons on Monday 3rd November 2008 that, "looking at the average figures at that time, whether it was loan
to value ratios or whether it was the arrears' experience then
being experienced, you would not necessarily have seen Northern
Rock as an outlier in terms of quality of mortgages."

This seems to be the opposite of what Lord Myners is now saying.

Lord Myners is the first member of the government to admit that
there was an inherent weakness in the Northern Rock loan book,
though the description 'irresponsible' does not explain what the
weakness was.

The Council of Mortgage Lenders Housing Finance Issue [November
2005 "Trends in mortgage borrowers' repayment difficulties"]
explains, 'Married households tend to have the lowest incidence of
repayment difficulties, whereas divorce and separation tend to
increase mortgage repayment problems.'

Earlier research has suggested, 'You're more likely to get into
serious debt because your relationship fails than by
overspending........ A survey by Alliance & Leicester [in 2006]
show[ed] that people who are divorced or separated owe twice as
much as married people. A typical couple owes £5,200 on loans and
credit cards between them - an average £2,600 apiece - while
divorcees owe £5,000 each and the separated £6,300......... A [firm
of] insolvency practitioners ..... found that 30 per cent of people
with debt problems blamed divorce or relationship breakdown."

The financial crisis, both here in the UK and in the US, may well
have been triggered by excessive lending to cohabiting couples
whose relationships are significantly less stable than those of
married couples. The easy credit was a contributory factor, but
'irresponsible' lending which was 'foolish and dangerous' to the
increasing number of couples with unstable relationships was
probably the prime cause.

What is becoming clearer is that the crisis is not just a 'sub
prime' problem emanating from the US – as the government claimed at
first - nor is it caused in the UK simply by over dependence by
Northern Rock on the wholesale money market, nor is primarily the
result of the creation of sophisticated but unstable financial
instruments which have increased the availability of credit.

Since the taxpayer owns Northern Rock and the Bradford and Bingley,
and now has a majority holding in RBS, surely it is only reasonable
that these banks should reveal the marital status of those in
arrears with their mortgage payments?

If we are going to understand the real nature of the crisis, the
full facts should be published, not just a misleading subset of
them.

Jan 01 08:29 AM

[Asbytec:]

One more thing I believe you missed. In October (?) 07, Bernanke pleaded with congress to shore up the GSEs. Congress did not act. No one did, well, except Ben. The economic stimulus package was a joke in that it did not address the problems you stated above. But, I did appreciate getting some money.

Jan 01 08:44 AM

[Asbytec:]

Oh, and banks are (or were) forbidden to be in the insurance business. We need to go back to that rule. Then, we need to tackle the insurance industry itself...LOL (Don't hold your breath for the latter.)

Jan 01 08:46 AM

[CautiousInv...:]

What about the congress, HUD and the GSE's. In pursuit of social justice and eager to put more low-income and minority families into their own homes, HUD required that two government-chartered mortgage finance firms purchase far more "affordable" loans made to these borrowers. There were also accounting scandals within the GSE's and shortly before they broke the Office of Federal Housing Enterprise Oversight (OFHEO)--the agency that regulates the GSEs--had pronounced Freddie's internal controls "accurate and reliable."

Jan 01 09:15 AM

[WaltB:]

Mortgage rates are still too high to stem the horrible decline in home prices. Home prices dropping is the root of this recession/depression. The government could make rates 3 percent (for the first 10 years of the loan) next week if they wanted. And they/we pay less than 10 percent for 10- year money at this time. This is a simple no cost way to get a base in on home prices before homes drop another 30 percent.

Jan 01 09:38 AM

[User 143167:]

The only root cause is plain and simple: Most American people don't deserve a life they had in the past a few years. They need to pay it pack.

Jan 01 09:56 AM

[Jim O'Sullivan:]

The most important factor you leftout is the Federal government. Congress (no matter which party controlled it at any particular time) and the White House (ditto) pressured the finance industry to lend to people with no down payment money in order to advance the worthy cause of increasing home ownership, especially minority home ownership. That injected the toxins into the financial system that became the raw material for the CDO's that the CDS's insured. Once again, the road to hell was paved with good intentions.

Jan 01 10:45 AM

[br:]

Seems like a common thread on the folks in front of the bail-out line is they're all of the "too big to fail" class (financials, insurers, auto, etc).
Maybe there should be a limit of how big a company can get and have healthy competition among medium size providers/suppliers.
God help us if Walmart asked for TARP money.

Jan 01 11:15 AM

[mollytjm:]

another wonderful article. thank you! i'd mention drug companies. they also pay for their 'independent' research. let's say they pay a university to do the research. researchers in many university and research settings have to bring in their own grant money. so what do you think the result of the research will be? unsafe drugs end up on the market, the lawsuits are enormous and drug companies lay off workers. the greed and deceit all adds to this mess. politicians aren't clean in this...they take the $ from lobbiests and unsafe drugs get FDA approval.

Jan 01 11:36 AM

[secmaven:]

All ten of these "stupid" moves are the bedrock of the prosperity that the world economy reveled in for the last eight years. Now you call them "stupid". Would you have traded an eight year recession for the "mess" we are in now. Smart investors saw this coming and were well out of or short the market before it crashed. Smart homeowners cashed out their residence and invested in government bonds or an insurance annuity. The "mess" as you call it was a once in a lifetime opportunity to make enormous gains. And those opportunities continue. The next bull market will be in gold and silver as the JPMorgan short selling bluff on the COMEX is called. So take that profit in the government bonds and double and treble it in GLD and SLV.

Jan 01 11:41 AM

[Drew Horn:]

Craig, your analysis is correct but incomplete. The easy part is to list what happened. It is much more important to discuss the euphemism called regulation, why it evolved from a useful system to a useless system of checks.

I await a meaningful analysis of who changed the rules and how to get them out of positions that allow them to screw-up again.

Jan 01 11:48 AM

[notsosmart:]

it all is still,always was ponzi.the sheeples are still fleeced everyday & so will their lambs. this article only explains the "legal" fraud that caused all this.this society is done as it cant exist shuffling AAA rated phony paper.unless we get back to making world class products,its over.legacy fortunes have been created & parked in switzerland by the scammers,scoundrels & crooks & who now are being bailed out.

Jan 01 11:48 AM

[hoover:]

I would only comment that the low-income social justice loans were only a small part of the CATALIST causing the problem. The major problem was (and is) the financial industry built on a house of borrowed, ridiculously leveraged, cards. Basically, it was the grossly irresponsible bankers, insurers, and their enablers in government that took far too much risk. But those that believe in totally unregulated markets, like to blame it all on their favorite red herring -- low income people.

On Jan 01 09:15 AM CautiousInvestor wrote:

> What about the congress, HUD and the GSE's. In pursuit of social
> justice and eager to put more low-income and minority families into
> their own homes, HUD required that two government-chartered mortgage
> finance firms purchase far more "affordable" loans made to these
> borrowers. There were also accounting scandals within the GSE's and
> shortly before they broke the Office of Federal Housing Enterprise
> Oversight (OFHEO)--the agency that regulates the GSEs--had pronounced
> Freddie's internal controls "accurate and reliable."

Jan 01 11:50 AM

[Colleen:]

Frankly, bailing out all these companies doesn't help the problem. The PEOPLE. The ones paying all these companies don't have the money to keep supporting them. Since the Gov't is giving the money to the companies and not the people there's still a HUGE flaw in the bailout plan. Sure GM got enough to sustain for a while, but with 600,000 people unemployed and more everyday. There just isn't enough people buying anymore. They will be back or they will fold because no one has the money to afford to buy right now. Credit is too tight and who has the cash?

Yes we did it to ourselves, they did it to themselves by pricing themselves out of their own markets, the oil "crisis" fueled the flames that have been faning since before my birth. Best way to get out of it? Let the failures fail and rebuild out of the rubble, hopefully wiser and better planned.

Jan 01 11:52 AM

[LoebA:]

I'll add one I think is essential -- removing the uptick rule. when I first found out that the rule had been abandoned my first thought was, "what idiot thought that was a good idea?" Immediately once it took effect you could see the change in market behavior. Stocks I follow became much more volatile as traders followed short sales with more short sales to beat down the price, and with everyone doing it any breakdown became an opportunity to snip off a nice profit in 30 miutes. But then when we had a major break in the market it became an opportunity to drive down prices for weeks. I wouldn't be surprised if short sellers coordinated their efforts behind the scenes. With the stabilizing effect of the uptick rule gone, no one was assured that they could hold a position without getting whacked. It may be that fear and greed drive the market, but the two are not two sides of the same coin -- each has its own properties. When you allow fear to take over (and removing the uptick rule did that), the most profitable strategy is to create panic for your own gain. But this leads to systematic destruction. So who was the idiot? A whole bunch of people who forgot (mostly for ideological reasons) that the responsibility of government is to provide for the stability of markets. Put that on your list.

Jan 01 11:55 AM

[Colleen:]

and the mortgage companies... what good is bailing them out going to do? it's the same problem.... people don't have the money to pay their mortgage, more defaults, more forclosures, less income for the companies....

Economic stimulus was a joke!! Seriously, unless you have 17 children what is $300 going to get you? ($600 if your married)...

Jan 01 11:58 AM

[Aryamehr:]

As a mortgage banker I saw it all. In 1998 I decided to enter the mortgage lending business for a third time. Initially wholesale lending worked its cogs, according to the prevailing market parameters. Securitization as intended brought about the efficiencies purported by those free market advocates of deregulation and the world took heed. As we now know securitization of the mortgage industry was on the 'menu de fare' of almost every member of the OECD countries. During this same period the 'world's central bank,' the Federal Reserve, and I say this with emphasis, took a reckless glide path towards lower interest rates, even when small bubbles began to manifest themselves in the latter part of 2003. The Economist magazine did a perfect job of heralding a brewing bubble, however most of those in the financial community continued to enjoy the party under its host, Mr. Greenspan. Since Mr. Greenspan was given complete latitude under his supervisor, Mr. Bush, a nincompoop of the first order; probably and hopefully the only one in US history. To make matters worse traditional lending standards were compromised: lenders no longer were obligated to hold on to the MBS and the CDO they created, once the loans were originated they were sold off to disparate investors; AIG, GE, Pension Funds, Private Hedge Funds, the GSE’s (FNM & FRE) and many Foreign Investors. The investors hedged their losses by buying credit default swaps (CDS) under the presumption that this instrument insured them against any possible defaults. This all worked well so long as the assets they were securitizing performed, however you would have to be an idiot to believe real estate values would continue to climb at 20% a year while most peoples wages were barely keeping up with the artificial rate of inflation (2-3%). In retrospect the media didn’t take much time to promulgate the underpinnings of an investment community gone wild. The dominos began to fall; Countrywide, Bear Stearns, Lehman Brothers, Indymac, Uncle Freddie and Aunty Fannie, AIG, Washington Mutual, Wachovia et al. To put things in a laconic perspective: what these entities did was create conduits off their balance sheets called structured investment vehicles (SIVs) that allowed them to avoid banking and insurance regulators. The Banking and Insurance industry have rules and regulations that would have barred a lot of the business practices that took place had the regulators done their jobs, however allowing the financial community to do as they please under the pretext of financial innovation is what got us into this mess. Now that the underpinnings of this feeding frenzy have been divulged we know that CDS are not ersatz forms of insurance and ABS absent of traditional governance and regulation are very risking investments. Had it not been for the Tax payer benevolence under the troubled asset relief program (TARP), I would surmise that the entire financial community would have been brought to their knees and the mighty dollar would have been toppled from its vaunted mantel. Nevertheless, the bail out will do its job, given sufficient time but the financial community will need to go through a metamorphosis, from opacity to unequivocal transparency if faith in these surviving entities is to be restored.

Jan 01 12:12 PM

[k45:]

Point 2, the Rating Agencies: They were paid by the issuers to provide ratings. The fox was paid to guard the hen house.

Point 5, the SEC and leverage: The Crash of '29 was caused by allowing 90% margin (10:1 leverage). What did the bureaucrats expect when they allowed 40:1 leverage? "Those who fail to learn from history are destined to repeat it."

We have dishonest people in Washington. Of course, we've always known that.

Jan 01 01:43 PM

[John Lounsbury:]

Just a thought on Credit Default Swaps (CDSs) -

This is widely quoted to total $62 trillion in notional value. These "insurance" instruments have been widely created and traded within the financial industry. Is it possible to set up an industry board that would allow for the negotiation among multiple parties to cancel a network of interrelated CDS to remove them from the system. An example:

A holds CDSs on debt obligations of B and C. B holds CDSs on debt obligations of A and D. C holds CDSs on debt obligations of A, B and D. D holds CDSs on debt obligations of C.

The network of interrelated CDSs will be much larger, but you should get the idea.

The industry board would establish a negotiating table for multiple party trading to cancel out CDSs.

Comments would be welcome on this idea. Does any one know if anything like this has been considered or is actually going on?

It seems to me that many firms would be happy to get rid of an obligation to pay for someones else's default in return for giving up their default protection, payment of which might be problematic.

Jan 01 02:10 PM

[Jack Walker:]

There were many financial engineering participants working together in an effort to perpetuate the basic and flawed assumption that gains in asset prices can be substituted for real income indefinitely. The financial planning strategy of borrowing the gains of house appreciation to bridge the income and expense gap seemed to be the ideal solution. Home equity loans provided tax fee income to continue living above the standard justified by earned income alone. The fatal flaw was the assumption that this could continue. We now see the results created by the financial engineers as house prices will be forced back to levels justified by median family incomes alone. Everyone was involved , Congress, the regulators, the Federal Reserve, the banks and especially the financial organizations involved in the mortgage and lending process that were relying upon commissions and fee income to maintain and increase quarterly results and bonuses.

The driving force was the desire to live beyond ones means. Therefore, the only long run solution is a combination of adjusting life style expectations and increasing real sustainable earned income levels.

Jan 01 02:24 PM

[thecondoguy1:]

WaltB sorry, it's not mortgage rates that are keeping housing prices low, it's to much supply, these NYSE listed builders need to STOP building, housing will be absorbed by families needing housing wheather they rent or own. Low mortgage rates got us into this mess, and then we loaded the builders through their owned lending arms with these bullshit loans, this has got to stop.....................

Jan 01 02:53 PM

[Gtarras:]

I believe all the blame people put on the instruments in the article are similar to blaming a car in a traffic accident.

Drive (use them) with care. We gonna get a lot of new traffic rules (regulation) coming soon. But the cars will not go away.

Jan 01 06:35 PM

[{5U}:]

You forgot Housing Greed

It's nice to go to a party and finally not having people ask why don't I own

This is why I never bought a place. Now everyone knows why.

Jan 01 07:36 PM

[Asbytec:]

John, comments? Yea, you'd need a table full of math PhDs to solve that complex problem. Man, the banks need to be out of the insurance industry, completely. But, insurance is lucrative, so one can see the attraction. But one has to wonder, if CDS are a great money making idea why the insurance industry doesn't take on that risk and provide such a service.

Free markets are great at innovation and it's associated excesses. As someone said above, building debt on debt is just reckless excess, in my view. Its harmful in that it creates capital to fuel bubbles and debases our currency. It's okay to live a little beyond our means, but there has to be a gray line somewhere.

I believe stability and sustainability are key to creating real lasting wealth, versus these "quick buck" bubbles. Insiders tend to make it rich, they know when the thing will take off and when it's will burst. Most everyone else get's in and out too late.

We need regulation not to thwart money making innovations, but to keep them stable and sustainable. Transparency is only a part of the issue, surely one should know what one is buying. But limiting the potential of such instruments in creating voluminous amounts of new debt money is key, too. The enslavement of consumers in fractional banking with lots of easy credit is both boom and bust. And, the period bust hurts too much to validate efficiency or desirability of bubble economies.

Jan 01 07:46 PM

[Aryamehr:]

The purpose of studying the past is to be able to make future decisions that are less apt to contravene with our goals. One tries to understand history in hope that we can avoid future calamities. It is also just as important to understand the forces in play when one makes investment decisions. A wise man with a basic education in macro-economics could have easily seen the deck of cards, ponzi scheme or tsumani in real estate was taking place. A wise man can also see the current forces in play and parlay his winnings from his abstention in real estate by taking advantage of the current stampede. Contrary to popular belief the best investments possible are in the banks and raw materials, especially the four majors; Citi, BoA, JPM Chase and WF. The gov't essentially made them as sound as conceivably possible by explicitly backing them in every way, shape and form. They forced them ALL into borrowing money at extremely favorable rates, lowered their Reserve Requirement to 6% and lowered the Fed Funds rate to almost zero percent. To make their case they even indicated that the zero percent Fed Funds rate is a long term policy. The FDIC limits were raised to $250,000 with possible future increases. In summary the gov'ts actions manifested that under no circumstances would they allow the banks to fail lest the mighty dollar be compromised. Remember, the three pillars of US global hegemony are based on a strong military, cheap and easy access to raw materials and a strong green back. Compromising either one of these pillars will have dire ramifications on our future. Owing to this and its inflationary ramifications what better investments are there? My chips are all in on the Banks and Raw Materials.

Jan 01 08:12 PM

[brokerbila:]

OK dIdin't read the other 693 comments,but what about the central banking cartel as a cause of this catastrophe.


On Jan 01 08:16 AM john s. gordon wrote:

> right on.

Jan 01 09:46 PM

[Mowog:]

@CautiousInvestor
In my hometown, once-nice condo complexes are undergoing change. Repossessed or still-owned, they're increasingly being rented to Section 8 subsidized renters: better a guaranteed monthly payment than infrequent ones or even months of non-payment. Condos and houses are being bought by HUD, about the only buyer in town, which brings professional dole recipients into workers' areas. In all these cases, the crime and decay associated with government housing is metastasizing into previously normal communities. Thanks, Uncle Sam.

Jan 01 10:18 PM

[Jim O'Sullivan:]

Hoover said:
"But those that believe in totally unregulated markets, like to blame it all on their favorite red herring -- low income people."

I'm old enough to remember a time when most people knew that ad homimim attacks were a poor excuses for a reasoned argument. But, since that's the new standard, I might as well get down with everyone else: work on your reading comprehension, Hoover. Neither Cautiousinvestor nor I were "blaming" low income people.We were blaming the politicians for their misguided idea about how to treat low income people. And since you know the exact percentage of the problem that consists of "social justice" (whatever that is) loans, why didn't you share it with us? And how do you know that either of us believes in "totally unregulated markets? Do you think that because we can see where that particular kind of regulation led us that we therefore believe in no regulation at all? I'm surprised that someone as smart as you could make such a fundamental logical error.

Jan 01 11:03 PM

[katec:]

Aryamehr,

We never fail to learn from the past! We need regulations which would alleviate more ownership from the US Government. It is strange how everyone thought that Mr. Greenspan was such a genius!! We all know that George W was never elected to be our President. Let us all hope that we are in for a change but a mess for President-elect Obama to clean up or whoever would have been elected!


On Jan 01 12:12 PM Aryamehr wrote:

> As a mortgage banker I saw it all. In 1998 I decided to enter the
> mortgage lending business for a third time. Initially wholesale lending
> worked its cogs, according to the prevailing market parameters. Securitization
> as intended brought about the efficiencies purported by those free
> market advocates of deregulation and the world took heed. As we now
> know securitization of the mortgage industry was on the 'menu de
> fare' of almost every member of the OECD countries. During this same
> period the 'world's central bank,' the Federal Reserve, and I say
> this with emphasis, took a reckless glide path towards lower interest
> rates, even when small bubbles began to manifest themselves in the
> latter part of 2003. The Economist magazine did a perfect job of
> heralding a brewing bubble, however most of those in the financial
> community continued to enjoy the party under its host, Mr. Greenspan.
> Since Mr. Greenspan was given complete latitude under his supervisor,
> Mr. Bush, a nincompoop of the first order; probably and hopefully
> the only one in US history. To make matters worse traditional lending
> standards were compromised: lenders no longer were obligated to hold
> on to the MBS and the CDO they created, once the loans were originated
> they were sold off to disparate investors; AIG, GE, Pension Funds,
> Private Hedge Funds, the GSE’s (FNM & FRE) and many Foreign Investors.
> The investors hedged their losses by buying credit default swaps
> (CDS) under the presumption that this instrument insured them against
> any possible defaults. This all worked well so long as the assets
> they were securitizing performed, however you would have to be an
> idiot to believe real estate values would continue to climb at 20%
> a year while most peoples wages were barely keeping up with the artificial
> rate of inflation (2-3%). In retrospect the media didn’t take much
> time to promulgate the underpinnings of an investment community gone
> wild. The dominos began to fall; Countrywide, Bear Stearns, Lehman
> Brothers, Indymac, Uncle Freddie and Aunty Fannie, AIG, Washington
> Mutual, Wachovia et al. To put things in a laconic perspective: what
> these entities did was create conduits off their balance sheets called
> structured investment vehicles (SIVs) that allowed them to avoid
> banking and insurance regulators. The Banking and Insurance industry
> have rules and regulations that would have barred a lot of the business
> practices that took place had the regulators done their jobs, however
> allowing the financial community to do as they please under the pretext
> of financial innovation is what got us into this mess. Now that the
> underpinnings of this feeding frenzy have been divulged we know that
> CDS are not ersatz forms of insurance and ABS absent of traditional
> governance and regulation are very risking investments. Had it not
> been for the Tax payer benevolence under the troubled asset relief
> program (TARP), I would surmise that the entire financial community
> would have been brought to their knees and the mighty dollar would
> have been toppled from its vaunted mantel. Nevertheless, the bail
> out will do its job, given sufficient time but the financial community
> will need to go through a metamorphosis, from opacity to unequivocal
> transparency if faith in these surviving entities is to be restored.

Jan 02 01:04 PM

[flow5:]

All this mess was preventable. It was also predictable. Housing prices wouldn't have gone thru roof if the FED actually understood Money & Central Banking.

Nominal GDP is measured by monetary flows (means-of-payment money times it's rate of turnover). The only valid velocity figure (bank debits) was discontinued in 1996. I.e., all transactions cleared thru demand deposits except for Mutual Savings Banks. MSB's are a story in themselves (they are thrifts, not commercial banks).

It is actually mathematically impossible to miss economic forecasts. And the proof that the FED is ignorant stems from their statements that there are variable economic lags. I.e., all economists are stupid.

See William McChensey Martin’s monetary policy during the Korean War, i.e., before deregulation:

Stock market margin requirements were raised from 50% to 70%, Regulation W (housing), The Board used its power to regulate real-estate credit by fixing down payments at from 10 to 50 per cent of the value of the residential property. (The higher the price of the property the larger the proportionate down payment) and setting the maximum maturity at 20 years. Installment credit down payments were set at 10.5% to 33.3% with maximum maturities limited to 15 months. These were restrictions that led this country to a decade of prosperity, growth and low inflation.

Jan 02 04:27 PM

[Greg Pinelli:]

That's just simplistic garbage..Specific people and agencies are to blame, not some amorphous nobody..I read this kind of nonsense all the time...The author of the article has nailed many of the problems..
Liar loans, by the way, are NOT instruments..They were intiated by Congressional pressure on FNMAE to increase home ownership among groups that had NO business buying homes..this was seen as a great opportunity by Real Estate agents to "assist" (help them lie) clients in applications to loan officers who had phony appraisers seal the deal..NO INSTRUMENTS! ALL PEOPLE!


On Jan 01 06:35 PM Gtarras wrote:

> I believe all the blame people put on the instruments in the article
> are similar to blaming a car in a traffic accident.
>
> Drive (use them) with care. We gonna get a lot of new traffic rules
> (regulation) coming soon. But the cars will not go away.

Jan 03 08:14 PM