Wednesday, February 18, 2009

Upside Down Economics

From television specials to newspaper editorials, the media are pushing the idea that current economic problems were caused by the market and that only the government can rescue us.
What was lacking in the housing market, they say, was government regulation of the market's "greed." That makes great moral melodrama, but it turns the facts upside down.

It was precisely government intervention which turned a thriving industry into a basket case. An economist specializing in financial markets gave a glimpse of the history of housing markets when he said: "Lending money to American homebuyers had been one of the least risky and most profitable businesses a bank could engage in for nearly a century."

That was what the market was like before the government intervened. Like many government interventions, it began small and later grew.

~Thomas Sowell

9 Comments:

At 2/18/2009 8:44 AM, Anonymous Machiavelli999 said...

The idea that government regulation got us into this mess has got to be the biggest lie conservatives tell themselves so that they can sleep better at night.

How does Thomas Sowell reconcile all of the housing bubbles around the world the grew and popped in a remarkably similar time line as our own. In fact, a country like Britain not only doesn't have a CRA, or Fannie or Freddie, but you can't even write off mortgage interest off your taxes. If anything home ownership is discouraged in Britain. And yet, it too had a housing bubble.

Spain's housing bubble as compared to the size of its economy was bigger than ours. Needless to say, it too didn't have any home subsidization programs.

Or how does Thomas Sowell explain Daniel Sadek? Who is Daniel Sadek? Well, he is a kid who immigrated to this country from Lebanon. Didn't even have a high school diploma, but started a lending company called Quick Loans in Southern California. He became a millionaire originating mortgages and selling them on to Wall Street. (In fact he was so rich, that he financed his own Hollywood movie, "Redline", whose tagline was "hot cars and hotter babes") Wall Street didn't care about the quality of these mortgages and any mortgage he originated found a home at some investment bank.

Needless to say, a huge portion of the mortgages he originated defaulted. He was sued by many parties for predatory lending. Now, I can GUARANTEE YOU this kid had no clue what the hell the CRA even was. He was an unlicensed mortgage originator who had no supervision from any federal or state agency. The results speak for themselves.

He maybe the most famous case, but there are many like him. The vast majority of subprime loans were originated by independent lenders like him. None of these lenders were subject to any regulation, let alone the CRA. And nowhere in the CRA does it direct Wall Street invesment banks to buy mortgages from kids like this and then package them into CDOs, get them rated by fraudulent rating agencies and sell them on to duped investors.

It is an utter joke to even suggest government regulation had anything to do with this housing bubble when investment bankers themselves (who have all incentive in the world to blame the government for what happened), say they never received a call from ANY government agency during their tenure as they presided over the growth of this housing bubble. No regulation tells banks to buy mortgages from unlicensed dealers. They did it because greed and also because they didn't actually care about the quality of the mortgages either because they sold them on to other parties in the end anyway.

 
At 2/18/2009 12:00 PM, Blogger @sethstorm said...

Well, Wall Street wanted to evade regulation, now they pay for their attempt.

Mr. Sowell is just a Wall Street apologist.

 
At 2/18/2009 12:36 PM, Anonymous Mika said...

Machiavelli999, Sethstorm, and I have never agreed more nor have they ever been more spot on.

We've had liassez faire government for eight years and look at where we're at. It takes a lot of unmitigated gall to try to make a any case against government regulation. Even still more gall, to try to blame the mess on regulation! Ha! Fortunately, the majority sees - and you don't need to study economics to see it - that such arguments are absolutely hilarious.

 
At 2/18/2009 1:06 PM, Blogger Donald said...

The fact that England and Spain also had housing bubbles demonstrates the interconnectedness of credit markets. It does not show that free markets caused a bubble and a bust. It cannot be truthfully said that Europe has a more liberal regulation regime than the US. It does not then follow that lack of regulatory restraint on the market is at fault.

Immoral greed is not universal and does not characterize a free market. Every good business wants to maximize profits, but it does not want to victimize anyone, especially not their customers whose continued good will they need. Every transaction needs a willing seller and a willing buyer or it doesn't happen.

In most states mortgage brokers must be licensed. Unlicensed brokers are regularly sent to prison. A mortgage broker can only originate a loan if he can find a lender to lake it. In that case the broker must satisfy the lender's requirements. Unless the broker routinely practices fraud there should be no problem.

The example of Daniel Sadek demonstrates why anecdote is not evidence. There are fraudulent brokers. sometimes the system is slow to route them out. But they are a very small minority. As much pain as they cause to some home owners they are too small in number to create a bubble on their own. The poster is attempting to create guilt by association. It does not follow that though some brokers are unscrupulous that all or even most are.

It is quite easy to get information about loan origination. All lenders are required by the Home Mortgage Disclosure Act (HDMA) to provide data to HUD. You can download it for free. From this data it is easy to see that only a small percentage of loans are subprime and that most subprime loans are actually in areas with above median income. Certainly there are predators, but the data does not support the argument that it is a wide spread problem.

To say that Wall Street and the investment banks did not care about the quality of the loans is to ignore the evidence of their actions. Those that packaged Mortgage Backed Securities also retained them. Wall Street and the world credit market bought them. They all thought these were good investments with limited risk. It's hard to argue that these investors didn't care who was hurt when they themselves had much to lose.

 
At 2/18/2009 1:49 PM, Blogger Donald said...

Mika,

While we can agree on many lapses in oversight and some apparent incompetence, it's hard to call the government of the last eight years "laissez-faire" on the economy.

It is hardly "laissez-faire" when the government, and two branches are culpable, runs a huge deficit while prodding the Fed to keep rates low, and rides a housing boom (almost the only sector growing GDP) while ignoring scandal and a need for reform at Freddie Mac and Fannie Mae.

If the market really was free than an increase in demand for credit would result in an increase in the price of credit (rising rates), all things being equal. Rising rates should have moderated the housing market. But rates didn't rise because of government intervention. We could also discuss how Ginnie Mae started the MBS market and how Freddie Mac and Fannie Mae were involved in expanding it and implicitly implying government guarantees and how that might lead investors to miscalculate risk.

One shouldn't need to study economics to see all that, but it wouldn't hurt if one did.

 
At 2/18/2009 5:34 PM, Blogger 1 said...

Lines like the following: "The idea that government regulation got us into this mess has got to be the biggest lie conservatives tell themselves so that they can sleep better at night" is a pathetic attempt to rationlize big government that libtards use all the time...

Apparently the history of continuous failure that resulted in government intrusion into the market makes no impact with this sad, sorry person...

Who really is 'Daniel Sadek'?

Why consider the following: Blame O.C. for the world meltdown?

So mach must watch CNBC... LOL!

"Now, I can GUARANTEE YOU this kid had no clue what the hell the CRA even was"...

You can't guarantee that at all...

You have no idea even if you watched House Of Cards...

"It is an utter joke to even suggest government regulation had anything to do with this housing bubble when investment bankers themselves (who have all incentive in the world to blame the government for what happened), say they never received a call from ANY government agency during their tenure as they presided over the growth of this housing bubble"...

No the joke is on you... You refuse to understand what part GSEs played in all this...

"We've had liassez faire government for eight years and look at where we're at. It takes a lot of unmitigated gall to try to make a any case against government regulation"...

ROFLMAO! Obviously mika and mach went to the same liberal madrassa where economics and the Constitution was NOT taught...

 
At 2/18/2009 7:10 PM, Anonymous Anonymous said...

The idea that government regulation got us into this mess has got to be the biggest lie conservatives tell themselves so that they can sleep better at night.

It would be one thing to make this assertion if conservatives were merely offering it as an explanation post collapse, but in fact, they were screaming it loud and clear as the Clinton administration was busy ramming subprime paper down the throats of banks.

From a City Journal article in 2000:

But for advocacy groups that were in the complaint business, the Clinton administration regulations offered a formal invitation.

The Clinton administration’s get-tough regulatory regime mattered so crucially because bank deregulation had set off a wave of mega-mergers, including the acquisition of the Bank of America by NationsBank, BankBoston by Fleet Financial, and Bankers Trust by Deutsche Bank. Regulatory approval of such mergers depended, in part, on positive CRA ratings. “To avoid the possibility of a denied or delayed application,” advises the NCRC in its deadpan tone, “lending institutions have an incentive to make formal agreements with community organizations.”

The vast majority of subprime loans were originated by independent lenders like him.

Billions of dollars of loans were made by left-wing advocacy groups with money that they had extorted from banks using the threat of the CRA. Billions more, in the form of mortgages, were extorted out of banks to evade complaints to regulators.

Continuing from the City Journal:

By intervening—even just threatening to intervene—in the CRA review process, left-wing nonprofit groups have been able to gain control over eye-popping pools of bank capital, which they in turn parcel out to individual low-income mortgage seekers. A radical group called ACORN Housing has a $760 million commitment from the Bank of New York; the Boston-based Neighborhood Assistance Corporation of America has a $3-billion agreement with the Bank of America; a coalition of groups headed by New Jersey Citizen Action has a five-year, $13-billion agreement with First Union Corporation. Similar deals operate in almost every major U.S. city. Observes Tom Callahan, executive director of the Massachusetts Affordable Housing Alliance, which has $220 million in bank mortgage money to parcel out, “CRA is the backbone of everything we do.”

This program got the whole ball rolling. There were many people who warned of the malignant potential of this kind of social engineering including the liberal New York Times.

A recent study of subprime mortgage applications found that as many as 70 percent of recent early payment defaults had fraudulent misrepresentations on their original loan applications, ...". These people cannot credibly be called victims of "unlicensed mortgage brokers", "predatory lenders" or anyone else. What they wanted was a one way bet. If the property appreciated in value they kept the profit. If the property value declined they would lose nothing. They simply walk away leaving the lender with a loss. Of course, it wasn't just borrowers who were committing fraud, there were the lawyers who gamed the system and the agents and brokers. All of this was pushed downstream to the financial firms who securitized this crap and then to the bond funds, insurance companies, trusts and banks who purchased it. When the crisis came European and American banks saw their assets plummet in value and stopped writing new mortgages resulting in a collapse of demand and a fall in home prices.

It's true that Europe had it's own "bubble" fueled by too much liquidity and the "magic" of securitization, which came to them courtesy of the U.S. subprime market. But that does not mean that Clinton's policies regarding the CRA are not responsible for the mess we are in. In fact, those policies inspired banks and financial firms to push the envelope in terms of risk in an effort to reconcile government demands and the need to make a profit.

 
At 2/19/2009 3:06 PM, Blogger spencer said...

Maybe Thomas Sowell should ask some of the Savings & Loan executives about all that less risky and most profitable businesses they had when the S&L industry destroyed itself in the 1980s after it was deregulated.

 
At 2/19/2009 10:56 PM, Blogger Rick said...

I wish guys like Spencer would actually spend the time to understand the history. The S&L's were not deregulated. Prior to that time the S&L's were allowed to pay a bit more interest than the commercial banks. But, they were only allowed to lend for homeowner mortgages. So, when the commercial banks complained because they were at a competitive disadvantage to the S&L's, the S&L's held put for the ability to make commercial loans. So, Spencer, they were not deregulated. They simply changed the regulations.

Rick

 

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