One of the two important things I learned in law school was that "if you torture statistics, they will tell you anything." Over the last week, a pile of stats have been reported on the complexity of the creation of the housing bubble creation. This is a classic tactic of lawyers and politicians: when you are losing the argument, change or complicate the discussion.
The question is how much blame should each involved party receive for the bubble, and what should the punishment be; if it is the government's fault, get rid of programs and elect non-meddling politicians; or, if it is finance's fault hire a new bureaucracy and pass new laws to try to prevent recurrence.
Here is a reminder of the largely ignored facts: Congress encouraged ALL mortgage lenders to loan money to non-creditworthy people to buy homes with threats of downgraded ratings. The purpose was to get poor and lower middle class people to build wealth. (HUD tried to do this with poor people twenty years earlier, and, hilariously, the poor people simply mortgaged off their equity and, on average, wound up even poorer than before.) AIG sold insurance in the form of derivatives to mortgage lenders; homes sales increased enough to inflate prices, encouraging irrational investment by investors and builders; the inflated prices caused existing home-owners to take second mortgages, and increase consumption; that resulted in inflation, which the Fed could not respond to because cap-ex was basically flat and unemployment was rising.
This also led to much higher profits for banks that were selling CRA loans to Fannie Mae/Freddie Mac, so other banks were economically encouraged to do so as well. When this housing inflation bubble burst, there were three directly related problems:
- 1.4m too many homes had been built;
- homeowners were overleveraged like never before, thus they slowed consumption and halted durable goods purchases; and
- there were so many deadbeat under-water home-owners that AIG did not have enough cash to cover the insurance-- i.e., AIG had under-priced the insurance; a complicated domino effect swept through the finance industry, and I will leave explaining those relationships to financial experts.
So now the tactics appear: throw piles of documents (real actual stat facts) about political responses to argue about which politicians caused the bubble-- who created which program (like the CRA), who did not act when warnings were issued; articles about the ratings agencies, why they did not start downgrading companies with exposure earlier; articles about Goldman Sachs' (GS) interaction with AIG and whether they killed AIG on purpose; articles about AIG's obscene profits and how they should have known, should have increased their cash; articles about the Feds failure to raise rates; and, articles about what percentage of loans were connected to Fannie Mae/Freddie Mac and/or the CRA.
Here is a simple sobering fact for you if you believe this bubble could have been avoided by any of the above: GS would have lost billions if the government had not bailed out AIG; therefore, GS screwed up their due diligence as bad as everyone else. Now seriously, do you think any of these companies, or you, knows finance better than GS? Now, that is a childish thought.
The hilarious thing about these theories is that none of them rationally chooses a time or dollar amount for when the bubble should have been shut down by AIG/Moody's/GS/the Fed/small banks. The fact is, everyone rationally assumed AIG backed insurance until the moment that they didn't. If any of these should-a-happened had happened, then the bubble would have have been slightly smaller or burst earlier, but they would not have prevented the bubble nor the financial collapse. Another argument is that the Fed should have raised rates, even though cap-ex was down and unemployment was rising, a flat out ridiculous argument.
There is plenty of room for discussion about mistakes that were made in order to avoid repeating. The financial collapse is complicated but the cause is not. The bubble was created because Congress forced the massive expansion of the subprime industry and AIG underpriced insurance and no one - NO ONE - caught it.