 |
Just For The Hale Of It
Wall Street Greed? More Like Washington Folly
We heard a lot during
the election season
about “Wall Street
greed.” With all the
clamor, one could readily conclude
that the market collapse, the credit
crunch and everything else ailing
the republic stemmed from a bunch of Wall Street moguls
seeking riches by stomping on the “little guy.”
We must save Main Street from Wall Street became the cry.
It’s a lie.
It’s true that investors seeking higher yields bought novel securities
comprised of bundled loans made to high risk borrowers.
But was that greed. . . or excessive exuberance over opportunities
triggered by rising housing prices? Between 1997 and 2005 the
average price of a house in the U.S. more than doubled. When
the bubble burst (as bubbles always do), too many borrowers
had negative equity; i.e. their mortgage balances exceeded the
market value of their homes. So the system collapsed.
Instead of laying all the blame on Wall Street, let’s look at
the root cause of this. It all started with the passage of the
Community Reinvestment Act (CRA) in 1977. The idea was to
foster homeownership – help people achieve the American
dream. Banks were required to lend, invest and open branches
in low income areas that had been written off.
Early results were promising. Devastated neighborhoods
like the South Bronx were revitalized, new housing and businesses
were started and essential services such as medical
centers were financed. But like so many well-meaning government
programs, it grew big and cumbersome; riddled
with incompetence and corruption.
Around 1992, Congress began pushing the now disgraced
Fannie Mae and Freddie Mac to increase their purchases of
mortgages going to low and moderate income borrowers. In
1995, CRA was expanded, resulting in an increase of 80% in
the number of high risk bank loans. And in 1996, the Department
of Housing and Urban Development (HUD) ordered
that 42% of Fannie’s and Freddie’s mortgage financing go to
borrowers with incomes below the median in their areas. This
was increased to 50% in 2000 and to 52% in 2005.
So Fannie and Freddie funded hundreds of billions of dollars
worth of loans, many of them subprime and adjustable
rate, made to borrowers with less than 10% down. They also
purchased hundreds of billions of subprime securities for
their own portfolios.
In 1997, with a $384 million offering guaranteed by Freddie
Mac, the late Bear Stearns became the first to securitize
CRA loans and over the next 10 months issued $1.9 billion
of CRA mortgages backed by Fannie or Freddie. From there,
the party just got bigger and bigger, placing the entire U.S.,
and even the world, economy in jeopardy.
Meanwhile, conservative Republicans in Congress began
sounding alarms, warning that Fannie and Freddie were ticking
time bombs. They denounced the outrageous compensation
of Fannie and Freddie executives. When they questioned
the soundness of Fannie and Freddie paper, they were dismissed
as cranks. Some 40 hearings were held and at least
eight bills drafted, to no avail. Nobody was paying attention.
Liberal Democrats like Chuck Schumer, Chris Dodd and Barack
Obama, beneficiaries of generous Fannie and Freddie political
contributions, praised Fannie and Freddie and its corrupt
management to the hilt. Everything’s fine. Fannie and Freddie
are strong and vibrant.
We all know what happened. Without Fannie and Freddie’s
implicit (now real) guarantee of government support, the
mortgage-backed securities market and the subprime part
of it probably would not have expanded the way it did.
Washington, just as much if not more than Wall Street, created
the artificially high housing prices, which contributed in
large measure to the mess we’re in.
FA
Who Are Fannie And Freddie?
The Federal National Mortgage Association (Fannie Mae)
was created in 1938 (during the Great Depression) to guarantee
mortgage loans made by private banks. In 1968, the government
freed Fannie Mae from its control and privatized it
with a “congressional charter.” It became like any other bank
except, rather than make mortgage loans to the public, it
bought up mortgages already made by private banks.
Two years later, 1970, to address increasing home ownership,
the government created a duplicate institution: the
Federal Home Loan Mortgage Corporation (Freddie Mac).
Both Fannie Mae and Freddie Mac have been private
enterprises since then – up until September 7, 2008.
E. Hale Jones
FA Editor & Publisher
Email your comments and questions about the ‘Hale Of It’ to editor@financialadvisorpublications.com
|
