The Financial Crisis

The four Republicans on the panel investigating the financial collapse of 2008 are issuing their own interim "primer" prior to the final report in January.  Keith Hennessey, one of the four dissidents, is hosting the primer at his blog.

Heidi Moore of the NY Times Deal Book tries to summarize the controversy and the report:

Here’s the problem: The Democrats on the commission blame Wall Street risk-taking for causing the crisis. A cadre of Republicans on the panel — the vice chairman, Bill Thomas, and three commissioners, Keith Hennessey, Douglas Holtz-Eakin and Peter J. Wallison – don’t want to blame Wall Street for packaging subprime mortgages, as the Democrats on the commission do. In a 13-page document to be released on Wednesday, the Republicans want to lay the fault at the feet of Fannie Mae and Freddie Mac, the Democratic darlings that underwrote subprime mortgages.

...

Of course, there’s a middle path where both parties are right – and both parties are wrong.

It’s true that lenders with loose standards – including Fannie Mae and Freddie Mac – underwrote millions of bad mortgages with little documentation and less regard for risk.

But what really propelled the crisis to bailout proportions was not the housing crisis alone or the government-sponsored enterprises alone. As the authors point out, it was a group effort.

Ms. Moore eventually lapses into incoherence:

The government-sponsored enterprises fueled bad lending but it was the investment banks’ packaging of the same bad mortgages over and over again into toxic collateralized debt obligation bundles that created billions of dollars in losses. If every mortgage could only be securitized once, the losses would have been bad but not horrible. But because fancy Wall Street chicanery reproduced those mortgages and mirrored them in bundles of increasing size, the investment banks took far bigger losses than they would have otherwise. As those losses grew, the banks struggled to find enough cash to stay well capitalized. Investors grew scared that the banks would not be able to, and the government had to step in to bolster the banks’ capital with the Troubled Asset Relief Program and other bailout programs.

Huh?  If she means that there were, for example, derivatives equal to twice times a home's value tied to the value of a specific home, then she needs to account for the winners as well as the losers.  When the house falls in value by, for example, $100,000 the mortgage holder and two derivative holders each lose $100,000, for total losses of $300,000.  But two other derivative holders (on the other side of the trades) make $100,000 each, for gains of $200,000.  The net effect of the side-bet derivatives is zero (other than never-to-be-overlooked fees and bid/offer margins).  The net loss to all participants is $100,000, which is the value lost in the real asset, the house.

Now I'll grant that if the market moves were sufficiently large and surprising then some losing market players could be driven into bankruptcy while the winners would be ruling the world.  But I don't have the impression that there was some group of out-sized winners.  I think the direct losses on the underlying mortgages were large enough to explain the financial debacle.  As I have noted before, AIG lost almost as much in direct investments in mortgage-backed securities through its boring securities lending activity as it did through its exotic use of derivatives.  Yes, people lost money the old-fashioned way, too.

ALL THAT SAID:  The Fed's easy money policy does not get belabored, or even mentioned, in this report.  Nor is the spectre of a global savings glut driving down yields given any shrift.

BACK IN THE DAY: I blamed Greenspan's easy money and the moral hazard reinforced by the 1998 rescue of Long Term Capital for the eventual debacle:

By demonstrating that a "never heard of 'em" hedge fund was too big to fail, Greenspan strongly reinforced the notion that banks and investment banks could count on a Fed lifeline.  Lightly regulated and heavily supported - where was that going to lead?

Yeah, I'm an ex post savant.

INVINCIBLE IRRELEVANCE:  Paul Krugman doesn't need to read the report to know its stupid, but I especially like this:

Yep. It was all Fannie and Freddie, which somehow managed to cause housing bubbles in Ireland, Iceland, Latvia, and Spain as well as the United States; and the repo market had nothing to do with it.

Update: Barry Ritholtz has a chart of the global housing bubble.

I am not the best guy to take the other side since I think Fed easy money played an obvious role.  I also happen to think that a workable definition of "bank" would be "a financial intermediary designed to take deposits and over-lend to real estate speculators and developers."  I mean, we had the REIT debacle of the 70's, the S&L debacle of the 80's, and - imagine! - the housing debacle of the 00's.  (We caught a break in the 90's due to the tech bubble - go figure.) 

So now Krugman thinks that Henessey et al are nowhere unless they can explain the housing boom in Ireland and Latvia.  For heaven's sake - without looking it up, I will say that relative to the US market, the Irish housing market is somewhere between tiny and miniscule, and the Latvian market is smaller.  And having looked it up, I see that the Irish housing stock is estimated to be worth about 412 billion Euros.  By way of contrast, the Fed values the US housing stock at $16 trillion, backing $10 trillion in mortgage debt.  I will score that ratio of roughly 30-1 as "tiny", which suggests Latvia is miniscule.

However, an explanation of the Irish boom is here, and it seems to overlook both FNMA and the Fed:

The summary is this: the country is in the aftermath of its greatest economic boom since the first hollowed out log arrived in-country about 12 millennia ago. House prices rose accordingly. An annual immigration of up to 70,000 mostly affluent immigrants to Ireland boosted prices, as did two income families. Dublin sprawled outward and anyplace within an hour's drive experienced significant inflation. The rest of nation followed the upward path.

Since 1995, house prices trebled or even quintupled. In Dublin, many rose by even greater multiples.

I would guess the adoption of the Euro and migration from Eastern Europe were more important that FNMA in tiny Ireland.  So what?  Fannie and Freddie were the dominant players in far and away the largest mortgage market in the world and almost certainly distorted that market.

Could we have had a housing bubble in the US if Fannie and Freddie had run amuck but the Fed had raised interest rates and been more diligent about loan standards?  Probably not.  Or, could we have avoided a bubble if the Fed had done what they did bit Fannie and Freddie were not running amuck?  Well, probably.

A fire requires oxygen, fuel and heat.  Assigning responsibility to just one of those three misses the point.  As noted, Hennessey at al don't highlight the Fed's role in the housing debacle, but that doesn't mean that Fannie and Freddie played no role at all.

ON THE TOPIC OF HOUSING AND KRUGMAN'S CREDIBILITY:  In several of his columns on the housing market Krugman put forth a conceptual error that would not be tolerated in a freshman economics course.

His gist: we are a big country and in some places, a surge in demand for housing simply calls forth new supply.  Fair enough.  His howler is this:

In the rest of the country — what I once dubbed Flatland — permissive zoning and abundant land make it easy to increase the housing supply, a situation that prevented big price increases and therefore prevented a serious bubble.

Since Krugman's model recognized price bubbles but not supply bubbles, he was left grasping for explanations as to the problem in Atlanta (where a lot of building had occurred in the good times and now prices had collapsed in the bad times). 

In a simpler view, the supply curve for hosuing is always kinked; a surge in demand will call forth new supply, but a reduction in demand does not prompt people to bulldoze homes.  Consequently, a "bubble" in an area where building is easy will show lots of construction during the good times without much increase in prices.  When the boom ends and demand unexpectedly recedes, unsold homes will cause words like "glut" to be employed to explan the crash in prices.

Simple and obvious, but too complicated for a sometime-economist, full-time polemicist.

SNARK ASIDE FOR A MOMENT:  Normally Krugman apologists are like streetcars - there will be another one along in a minute.  But can anyone actally defend his "Flatland/Zoned Zone" argument and his complete blindness to supply bubbles followed by price collapses?

Comments

[Chubby]

The difference being that when an AIG loses big they get bailed out by taxpayers, (so they can get paid massive bonueses), while Joe Investor just loses his shirt.

[PaulY]

Blame Game vs Avoiding Blame Game

[Ralph L]

I think she conflated the chopping up of mortgages wrt time (so each bad one can be in multiple securities) and the CDOs. Any discussion of mark-to-market? That has to bear much of the blame for the crash, though a descent was inevitable from teh bubble bursting.

[NK]

TM-- wait, that link to "Heidi Moore" is an actual NY Times article? that's not an onion-type satire? Wow, The NY Times has jumped the shark by any definition. Wow.

[Pofarmer]

No mention of MERS?

[Pofarmer]

Correct me if I'm wrong. But, weren't Fannie and Freddie the ones who started the whole securitization thing?

[jimmyk]

I think that's right, Po, but not the carving up into "tranches" with AAA, AA, A, B, etc. ratings.

I think the forced sales of assets (such as when GS demanded more collateral from AIG) magnified the problem. TM's right that the derivatives are a zero sum game, but when the loser can't pay and has to liquidate assets or go bankrupt, that creates a mess.

[Ignatz]

--I think the direct losses on the underlying mortgages were large enough to explain the financial debacle.--

I predict a long convoluted thread that waltzes around the above fundamental truth.

[Melinda Romanoff]

Po-

No.

Go read the late Tanta's work, and be patient, there's a lot.

Trusting the NYT to get this one right, barring Sorkin, is like asking the Soprano's to represent you in a distressed business sale.

I have to got to the M-i-L's B-day dinner tonight, otherwise I'd be tempted to wade in.

[Melinda Romanoff]

jimmyk-

I wonder if TM has the full grasp of exchange-based versus OTC derivatives. The net-nets would be different and less interconnected (systemic) for the former over the latter. It was the margin call on the OTC derivs that sucked Bear, Lehman, and, finally, AIG, under (And JP and GS were the callers, hunting for cash that everyone knew wasn't there).

But that's inside baseball.

[Melinda Romanoff]

Ig-

I'm gone in five minutes. Is that OK?

[Neo]

... and here I thought the whole thing was about something called "Toxic Assets"

Perhaps a definition of "Toxic Assets" could clear up the matter.

[Rick Ballard]

Pofarmer,

GNMA initiated plain vanilla MBS in '68. I read "mirrored them in bundles of increasing size" as refering to CDOs and SIVs rather than AIG underwritten CDS.

I believe the tranche warfare aspect to which jimmyk refers may be a Manhattan concoction (along with the CDO, SIV and CDS brands of financial poison).

She (Heidi) isn't particularly clear about the F/Fs' requirements that very large numbers of loans be made to the unqualified purchasers by banks wishing to obtain "good" ratings. She might have used a few more pixels on that subject.

[Neo]

Some how this whole matter reminds me of a story about a biologist.

The biologist had a spider. If he yelled at the spider, the spider would jump.

The biologist removed one of the spider's legs and yelled and the spider jumped. Notes this in his lab log book.
The biologist removed another of the spider's legs and yelled and the spider jumped. Notes this in his lab log book.
The biologist repeated this till there was one leg remaining on the spider.

The biologist then removed the last of the spider's legs and yelled and the spider remained motionless. The biologist writes in his lab log book, when all legs are removed from spider, the spider becomes deaf.

[bunkerbuster]

Jimmy: no tranches, no securitization. Tranches and bankruptcy-remote status are the defining elements of asset-backed securities as we know them.
From wikipedia:
FNMA created the first market for MBS but the trade was tiny and inconsequential. Reagan and Clinton-era dereg opened the floodgates, again the key being "bankruptcy-remote" status offered by "special purpose vehicles."
The Tax Reform Act of 1986 allowed the creation of the tax-free Real Estate Mortgage Investment Conduit (REMIC) special purpose vehicle for the express purpose of issuing passthroughs.[11] The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA) dramatically changed the savings and loan industry and its federal regulation, encouraging loan origination.[12] The Small Business Job Protection Act of 1996 introduced the Financial Asset Securitization Investment Trust (FASIT) that is similar to the REMIC but is able to securitize a wider array of assets.''

[Pagar]

"No mention of MERS?"

MERS is just one corrupt part of the overall corruption.
IMO, a major shift in bank risk taking after Barack Obama and other filed their lawsuit against Citibank for supposedly

[Jack is Back!]

Sitting outside in 38F in Florida reading "War", by Sebastian Junger. the preface to "Restrepo", the documentary. Go to JOM for a humor break and get this damn depressing thread. Lighten up tribe it's only trillions. We are only a 2nd term away from Quadrillions:)

[narciso]

The admittedly dark humor lies in laughing at Ms. Moore, for her total incomprehension of the subject matter, in the 'that word you're using, doesn't mean what you think it does'

[Pagar]

MERS is only one corrupt part of the corruption. Rick Ballard's point that large amounts of loans to unqualified buyers is well put.

"UPDATED: Obama Sued Citibank Under CRA to Force it to Make Bad Loans" LUN

Was responsible for a large part of those bad loans to unqualified buyers.

[Jack is Back!]

Obama: [Law] license to kill [the economy].

[Pofarmer]

Bubu needs a leeson on who in congress might have been writing and passing and enforciang the legislation it is citing.

[bunkerbuster]

The whole point of securitization is to create a AAA tranche because that makes it eligible for institutional investment. To get that rating, a separate company has to hold the securities, taking the risk off the actual owner's balance sheet. The original owner's credit risk level, or changes in it, don't apply to the separate company or "special purpose vehicle,'' and vice versa, thus the term "bankruptcy remote."
Risk is transferred from the upper tranches to the lower ones, which, in most cases, are held by the bank that created the security. These risk or ``equity'' tranches can themselves be ``securitized'' to create a AAA tranche and still risker equity slices.
Most of these investments can be "insured" via the purchase of CDS contracts. Those contracts can, in turn, be securitized, creating "synthetic" CDOs.
Actual securitization structures can be complicated, but the concept itself is very simple. The widespread confusion on these and the ubiquitous assertion that they are difficult to understand is unwarranted.

[glasater]

I will always wonder what would have happened to AIG if Herb Greenberg had not been booted by Spitzer.

[MarkO]

"Of course, there’s a middle path where both parties are right – and both parties are wrong."

I'm going to use this to obfuscate, along with "It is what it is," and the scripturally inaccurate, "Split the baby."

You know what I mean?

[Danube of Thought]

Bubu has been bent over his Wikipedia, studying hard with squinted eye...

[squaredance]

If you think that that bunch of idiots in congress could ever get to the root of this mess then I have some MBS's secured by a bridge over the East River that I should like to interest you in.

Seriously they lack the knowledge and the imagination to deal with it, not to mention their moral and intellectual deficits.

The Left's narrative is, of course, deregulation and evil capitalist are the "root causes". This is always their narrative. The GOP rarely stands up to them and calls them out for it.

They must at all cost avoid the truth getting out: That is was regulation (and corrupt regulatory agencies) and their equaly corrupt dem insider partners on Wall St. that were at the root of it. (And if you do not believe that, have a look at how involved the managements of GS or Citi have been with the Demcrats over the years.)

But it does not really matter, because the NYC money center banks and their other coastal brethren (like BofA) are really just the commercial arm of the Establishment Left. They hardly can be called "the private sector". In fact, strictly speaking they cannot even be called "capitalist" at all, whatever their "capacity for "evil" may be.

It is a false dichotomy. It is neither one nor the other. It is not government vs industry. It is the corrupt criminal gang know as the Democrat Party that is at fault here. This is why the Dems push regulation: to steal money and grab power.

Seeing this fact, it is amuses to see the GOP out there defending the Dem insiders on Wall St., a favor that surely would not be reciprocated.

Oh and BB, don't quit that day job just yet (oh and don't believe Wikipedia). It is just the height of narcissistic denial to blame this whole mess on Reagan or unrelated reforms from the '80's. It is patently absurd. You are in denial. You should just listen to yourself. You are just rabidly casting about for someone or something to project the guilt and the guile of the Left on. It is squarely at the foot of the GSE's and the whole corrupt agenda of the Left. Whatever do you think they are creating those tranches for? Well, i will tell you why: to avoid risk and to pull money out of thin air because the 1) the laws forced them to do it to cover the new mandates, and 2) the Dem politicians winked across the table and told them that the party would go on forever, even if they were caught, and, sure enough, they were right.

I swaer BB, I have horses with higher IQs than you have--more common sense too.

Back to our GOP congress critters: It would never occur to them that this all was done on purpose would it? No, they are that obtuse.

It would take a whole other wave like this last election, with all the GOP insiders primaried out, and someone like Palin in the WH (and someone like Giuliani at the FBI) to really go after the causes and bring down the culprits.

Bet it never happens. Bet that the dems and the Media keep it up to the point that capitalism is no longer possible.

That is what they are really after: not Wall St. but Main St.

It may take decade to roll this back, and that assumes that the Democrats are successfully kept from power throughout the period.

The GOP needs to drop the Beltway-speak and tell it like it is.

[squaredance]

glaster: You might be wiser to wonder why Spitzer booted him.

[Jack is Back!]

Spitzer's Dad, right?

[Chubby]

((The whole point of securitization is to create a AAA tranche because that makes it eligible for institutional investment))

not hard to do when the ratings agencies are on the take

[Rex]

As I recall, CMO's (collateralized mortgage obligations) were started by Solomon Brothers in the mid-80's. They had developed sophisticated mathematical models that would take the underlying pools of mortgages, and using the entire pool, determine what could be paid out in various tranches based on what the models said would be the incoming stream of cash.

There were three types of pools used: Ginnies, Fannies, and Freddies. Each GNMA certificate represented a pool of mortgages that expired on a given date, and GNMA kept track of what payments had been made within each pool, including which individual mortages had been paid off and which had defaulted. What Solomon Bros did was to gather anywhere from hundreds to thousands of pools (certificates) and use them as the collateral for the CMO's which were then sold to buyers.

The corporate trustee for these CMO's was Texas Commerce Bank, and the collateral was held in New York by Texas Commerce Trust Company of New York. Fannies and Freddies were in electronic form and transferred via Fed Wire, while Ginnies were still in paper form. At one point, Texas Commerce Trust held more Ginnies in their vault than were on deposit in the Depository Trust Company (DTC).

There was always a little bit of cash flow left over after designing the tranches, and this left over bit was known as the "Residual." The Residual was kept by the issuer (e.g., Solomon, Merrill Lynch, Drexel Burnham, Goldman Sachs, etc.) because it could not be packaged separately. Until the lawyers came up with a way to package it as a 20-page bond. Then it was sold primarily to S&L's who were required by law to invest in real estate, and CMO's were real estate. Strange thing, though, the banks that bought the Residuals had names like Silverado Savings and Loan, Colombia Savings and Loan, etc. They were getting pretty by then, what with the value of commercial real estate tanking in the late 80's, along with a lot of residential real estate. (While most mortgage loans were still being paid off even though underwater, the market value of the collateral forced the regulators to declare a bunch of S&L's insolvant, when waiting for 5-10 years would have cleared everything right up as the markets slowly came back. A lot of people made a ton of money buying up performing assets at bargain prices.)

[Chubby]

((MERS is only one corrupt part of the corruption. Rick Ballard's point that large amounts of loans to unqualified buyers is well put.))

The whole frikking thing was fraud from a to z, phoney loans, phoney expectations, phoney derivatives, phoney ratings, phoney MERS. The one thing that was real were the bailouts and bonuses.

[Chubby]

make that 2 things that were real

[Chubby]

((Perhaps a definition of "Toxic Assets" could clear up the matter.))

Worthless securities that were rated as investment grade AAA, that if tallied up at at current market value, would bankrupt the holders thereof?

[Pagar]

"Financial Crisis"

Wait till the whistleblowing kicks in. Then you'll see real crisis. There won't be enough lawyers.

LUN

[Chubby]

I hope everyone read the WSJ's 2008 Anna Schwartz interview. She explained the toxic security situation better than anyone has before or since imo. LUN

[Stephanie]

No one has yet mentioned the debacle known as Basel I or Basel II. The relaxing of the fed requirements re the tranches that were required to jump on the bandwagon of global banking initiatives (aren't we all just one big banking family???) really bolloxed up the works.

Banks (TBTFs) gleefully spent months salivating over the prospect of retranching their assets to the new global regulations (which required many of the assets to be moved from tranch to tranch which just so happened to require less reserves and really screwed with the fundamentals and the underlying securitizations). IIRC (and I do) Citi was the first US bank to voluntarily do so (Brer Rabbit - Brier Patch) and after Basel II the fed jumped the shark and moved from recommended to requiring that the largest banks in the US adopt those standards followed by the regionals a few years later. Most regionals had not converted to the new requirements, but all of the TBTFs pretty much had when the 08 blowup occurred.

IMO, if Basel adoption by the Feds had never happened, the retranching and repackaging would have never gotten out of hand, but Citi and the TBTFs used the retranching as cover to move their "problems" onto other companies and countries balance sheets never realizing that "everyone was doing it." What resulted was "Boom" on a global scale thanks to Citi's desire to stick it to BNP and BNPs desire to nail Ireland etc.

Just my two cents, but I spent months developing the software to move these assets around in a TBTF and saw the inherent risk in these moves and management's salivary glands in action at the prospect of playing hot potato. It's too bad that the whole potato-sack was hot and everyone was swearing to the next guy that they were just lukewarm.

[Buck Smith]

Main Street, in the form of real estate agents and mortgage brokers, had as big a part in the debacle as Wall Street. My brother runs a business where the labor force is made up of immigrants. Back in 2007 he had mortgage brokers asking him to falsify income reports to help his employees get a little piece of the American Dream. But the root cause wans't Main Street or Wall Street it was DC - Fannie Mae, Freddie Mac and Barney Frank.

[Janet]

"UPDATED: Obama Sued Citibank Under CRA to Force it to Make Bad Loans" LUN

Was responsible for a large part of those bad loans to unqualified buyers.

Yeah, & don't forget Barney Frank's old boyfriend Herb Moses went to work for Fannie Mae & was in charge of "creative" rural loans.
I think Jesse Jackson's Rainbow Coalition was all about suing to ease lending qualifications too. Crying racism all the time rather than looking to see if the loan applicants met the regular standards.

[Stephanie]

And as a side note, I might add that to a man, every one of these turds thought they had come up with this super smart scheme that no one else had the smarts to think of... is it any wonder that we named the server "Icarus?"

[Janet]

From the article - "The two lived together in a Washington home until they broke up in 1998, a few months after Moses ended his seven-year tenure at Fannie Mae, where he was the assistant director of product initiatives. According to National Mortgage News, Moses "helped develop many of Fannie Mae’s affordable housing and home improvement lending programs."

[Janet]

That Dodd-Frank whistle blowing article at Pagar's 9:22 post is something. What is it with libs & their love of the STASI? Remember the "report fishy comments" email tip line to the White House? [email protected]! I think ol' ex-journalist Linda Douglas thought THAT was a good idea.
These people are communists.

[Frau Nebenan]

When they came for the yodelers, I did nothing.
LUN

[jimmyk]

--I think the direct losses on the underlying mortgages were large enough to explain the financial debacle.--

I predict a long convoluted thread that waltzes around the above fundamental truth.

Ignatz, I am very sympathetic to that view, but the fact is that the total decline in real estate values has been about 25%, or roughly $6 Trillion. Sounds like a lot, but that's a garden variety bear market decline in the stock market, which we've had every six to 10 years, but usually without a major crisis. And declines in house prices actually benefit some people. So I think the story is more complicated.

[narciso]

What I find curious and somewhat relevant, is that property values are back to the point where the price spike started, so how can prices drop precipitously further, even with
the foreclosure issue, isn't there a certain
floor on property values

[Danube of Thought]

The market won't become stable and rational until it clears. And most of what Obama and congress have done in the past two years has kept it from clearing.

[jimmyk]

isn't there a certain floor on property values

Not a "floor" really. A relation to income or GDP. But it can fall below that if there's a big oversupply. Eventually population and income catch up and property values get back to normal. But DoT's right, the more you prevent the adjustment from happening (like by artificially stimulating demand or postponing foreclosures), the longer it takes for prices to get back to normal.

[bevilacqua]

...She'll go through that all within a day, even though I do or say nothing that would change her mind so drastically. What does this girl want?
Zetaclear

[Stephanie]

What's a Turporducken?

LUN

LOL

[BR]

Tku for all the informative comments. What a mess.

From the Moore quote: "...packaging of the same bad mortgages over and over again into toxic collateralized debt obligation bundles...."

Would that have been through MERS assignments? Counting the same mtg more than once, just because it had been assigned multiple times?

[BR]

...assigned multiple times (to different lenders, of course).

[BR]

The magnitude of this financial criminality is mind blowing.

[Stephanie]

BR

...and packaged and rebundled into tranches multiple times, and sliced and diced to keep the bank's capital requirements at a minimum. After 4 or 5 slices you could end up with a mortgage at 75-125% of the original note value in 3 - 6 different tranches and differing tiers and securitized at 9 different values based on the IRB that the bank assigned to each slice. Is the note not performing to tranch requirements? No problem - reassess the type of instrument it is and redivide it and re-rate it back into performing status. Remember, Basel II relies on IRB (internal rating based risk analysis) leaving the bank to determine the asset's initial rating and tranch and, consequently and conveniently, capital requirements and the reevaluations of the asset in the hands of the bank itself subject to the definitions in the Accord which are clear as mud.

Why did banks want and need to keep their capital requirements undervalued? Lack of liquidity to cover actual risk, maybe?

The merry go round resulting from this led to banks re-assessing and reclassifying assets (and in some cases the collateral and the customer) to keep them in performing status thereby keeping capital requirements minimized.

One of the weirdest classifications I ever saw involved an instrument with prominent DC names (Ds, of course) that had never had a payment posted to the instrument (the very definition of non-performing - IRB rating a minimum 100%), was 405 days past due and had the most favorable methodologies applied. It was listed as "performing - preferred status and it's resulting IRB rating was 10%." You should have seen the contortions the computer code looked like to result in that classification.

IMO Basel is a backdoor to zero regulations on capitalization. Under the accord, banks are actually penalized should they decide to used standard risk ratings which rely on outside parties assigning the ratings for instruments on a much stricter criteria than IRB allows. Needless to say, all banks following Basel have (to my knowledge) elected to go the IRB route.

Wouldn't you like to tell the bank when you apply for a loan that you have a house worth X and have assigned yourself a rating of "Awesome Goddess of Credit Worthiness" and therefore they should base their decisions on that? That is what Basel allows the banks to do to its stockholders, creditors and regulators. Just which of those dopes is going to demand to see the actual collateral anyways?

That is the atmosphere in which all securitized assets (not just mortgages) were being moved and played. Any wonder they can't unwind what they did? And is it any wonder that they all began hoarding cash?

As far as I could tell, each bank had it's very own "Super Smart" credentialed morons making these decisions and each "Super Smart" moron was convinced all the other "Not Quite as Super Smart" morons at the other banks and their creditors and the regulators and the stockholders were suckers to be played. They never realized that maybe some of those other guys were doing to them what they were doing to others - after all they were Credentialed and Super Smart Kings of the World - they could never be outplayed!!

Dopes.

And don't even get me started on inventories and their valuations at telecoms and IT manufacturers, and the shenanigans I saw to disguise that shit circa 1997-2001.

And people wonder why bubbles deflate so fast...

[BR]

Wow.

End goal: serfdom.

OODA loop it.

Rearrange their flight pattern:
Turn it upside down and under
with an Aussie style boomerang

Those who brought it about, suffer
Intended targets flourish and prosper!

[DVD tools]

Low interest rates, while helping some, are hurting many others. Seniors, especially, who depend on interest income on savings to supplement Social Security payments are finding their spendable income has fallen sharply. Savers, such as those saving for a home downpayment are seeing their savings earn very little interest. This not only hurts the individuals, it hurts retailers who depend on people with money to spend. Most of all, it hurts those who are unemployed.

[Janet]

Clarice posted on the "Just hire the genius..." thread -

"Today's Post reports (in connection with his marital separation) a little about the holdings of $7 m per year salary plus God knows what benefits of former FM CEO
Jim Johnson--a couple of multi million $$ homes in Palm Springs,a $5 (million) penthouse at the Ritz in DC and a spread in Montana. In between this accounting we are told of what a big door he was to the Dem party.

Just like Gorelick and Raines.

What a coincidence."

Jim Johnson former CEO at Fannie. Where is the ol' "at some point you've earned enough" sentiment with these people? Just sickening...

I gotta find out where to sign up for yodeling lessons.

[AL]

Only few of 20 developed nations developed severe housing bubble: US, GB, Ireland, Spain, Portugal, Italy. And only few were dumb enough to play into MBS scum: US, GB, Ireland, Swiss, and partially German and French banks. Italian, Canadian, Japan, Australian, etc. banks did not participate in the gamble. Moreover, when Canadian banks were told by Liberal government to track US idiocy of subprime mortgage loanding standards, they loudly send government regulators to pound sand. US banks? You know the answer.

[Pagar]

"Bob Feller 1918-2010"

"We lost a great American last night. Mr. Feller was a person that loved his country and the fact he was an Iowan. When asked what was the greatest win in his career he would remark without hesitation "World War II","

One of baseball's Greatest .

[Captain Hate]

I knew a couple of weeks ago the end was near for Rapid Robert. RIP

[Janet]

Did Harvard Help Manufacture Alleged LGBT Hate Crime?

From the comments - "Wouldn't urine-soaked books qualify as fine art?"

[Cecil Turner]

Here's a couple of interesting blasts from the past. Franklin Raines's 2001 testimony (and SEC response) on how FNMA makes the whole financial market more stable, and a 2005 AEI article on the taxpayers' risk:

If Congress cannot take this essential step, however, no amount of additional authority--given to a purported "world class regulator"--will significantly change the course of events. Fannie and Freddie will continue to grow, and one day--as Alan Greenspan has predicted--there will be a massive default with huge losses to the taxpayers and systemic effects on the economy.

Not too hard to pick the winner after the fact.

[narciso]

Wallison, who is one of the dissenters, had the whole thing down, back 5 years ago, makes me want to scream, you know.

[Clarice]

Well, Cecil, Franklin got his multi multi millions out of it -- what does he care?

[bunkerbuster]

I keep reading here that U.S. regulators, or Democrats or treacherous do-gooders somehow forced banks to make sub-prime loans and somehow compelled Frannie to buy them. Yet there appears to be no evidence for either claim: zero, zip, zilch, nada!
Perhaps the leap into fantasy comes from the assumption that lending to poor people is the same thing as making sub-prime loans. It isn't and it never was.
Sub-prime is reference to poor creditworthiness, not income level. You can have a high income and terrible creditworthiness: in fact, very many Americans are in exactly that situation, as I have shown in previous comments. Likewise, you can be low-income and have excellent creditworthiness.
The sub-prime lending binge was fueled by:
1. The belief of institutional investors that their mathematical models could very accurately predict default risk nationwide, since housing values should not fall simultaneously across the country.
2. The elimination of paperwork and reporting requirements that would have made high-volume securitizations too inefficient for most players.
3. The elimination of leverage limits, ie capital requirements, which made even the small spreads that AAA CDOs offered over truly risk-free debt attractive.
4. The lack of reporting requirements that would have prevented fly-by-night mortgage origination companies from writing subprime, alt-a and "ninja" loans knowing they'd be long gone with fees in hand long before there was any chance of default.
4. The desperation of banks and institutions to find risk-free, read AAA, returns in a long-term low interest rate environment.
5. A generalized belief that capitalism is a kind of magical force, rather than an imperfect principle for organizing an economy.
6. The demand among media consumers for financial news that pretended capitalism is a magical force and that oversimplified everything into uplifting infotainment and that was fast and cheap -- like McD's burgers -- but not even close to truthful about the risks involved with securitization.
Take away any single one of those, and you get no perfect storm -- you may well have gotten a burst real estate bubble and even a pretty bad recession, but nothing on the order of the financial collapse we're still not fully recovered from....

[Janet]

A local news story from the Arlington Sun Gazette about Jim Webb.
Speaking at a Chamber of Commerce meeting. This killed me - "* He criticized Democratic leaders of the U.S. Senate for failing to focus on economic matters before tackling other issues. “It is no easier to understand it from the inside than it is from the outside,” he said of the Byzantine workings of congressional leadership."

When asked why he voted for all the crap, Jim just shook his big ol' head & said...'dunno, hey did you know I own a gun?'

[narciso]

Crime does pay, apparently, then again back during the Depression, they didn't have the
VP at Morgan, writing the Glass Steagall bill,
thick as thieves they are

[narciso]

No one asked him that question, Janet, which would have been the first one off my the tip of my tongue.

[Cecil Turner]

Also from Wallison (link above):

To place this in some perspective, all Treasury debt held by the public totals $4.4 trillion, and all corporate bonds outstanding total $2.9 trillion. Fannie's and Freddie's liabilities--including both their MBS guarantees and their borrowings--come in right in the middle, at $3.7 trillion. Thus, only two companies--both of which are GSEs and implicitly backed by the U.S. government--account for more default risk than all other U.S. corporations combined. [emphasis added]

Nothing to see here. Move along.

[Janet]

This is funny - Save on your electricity bill during the holidays

[Cecil Turner]

Well, Cecil, Franklin got his multi multi millions out of it -- what does he care?

Not much, apparently. And folks like Dodd, Kerry, Obama and Clinton got their "taste," so they're all good with it, too.

[Janet]

Wow Cecil, the corruption is overwhelming. I forget who suggested it, but perhaps we need to run Congress like a jury pool. Randomly selected American citizens are chosen to serve as Senators & Reps.. Fire all staffers. If it is too complicated for the Congress to understand, then it is just too complicated. If they stuck to only their Constitutionally assigned tasks, it wouldn't be too much for them.

[Pagar]

"Fire all staffers. "

The first step in restoring sanity to American politics.

[narciso]

Ah Spencer Bachus, on that list, who blocked notable, subprime reforms. along with Kit Bond, who took a sideswipe at Sarah, the
other day, in some stupid piece at RCP, wait a moment, there's a certain commonality in that. Rogers is going to head Intelligence, that's a good sign

[Extraneus]

Ha. Good one, Janet.

[NK]

Great comments about the EVENT that we will all live with for years to come-- the real estate securitization bubble and default. While I worked on the end product of securized loans, I personally didn't particpate as an investor or home mortgage refi. My take is this-- all of you are right to point to individidual crimes and villains -- even you BuBu. They all and others were culpable. My take everyone got the greed bug and addiction to debt, politicians, mortgage brokers, rating agencies, bankers, lawyers home buyers takina 100% no doc loan everyone. But what ultimately greased the wheels? Low and falling long-term rates-- and who did that? Paging Dr. Greenspan, Dr. Bernanke Dr. Rubin-- Dr Greenspan Dr Bernanke Dr Rubin. And then who took all of the risk --apparent risk at least-- out of the game and stuck the taxpayers with the bill? paging Dr. fannie Dr freddie Dr GSE. Those were the 2 mega actors, Fannie and the Fed kept piling the gun powder into the smoldering shed, until the resulting boom. My only question is why aren't Jim Johnson, Frank raines and Jame Gorenick in prison? Because of the oversupply of housing that this bogus bubble caused is soaked up or demolished, we are all in the "new normal".

[Extraneus]

McCain could have explained this whole "financial crisis" in simple terms during the election. At the time, few people even knew what "sub prime" meant, and probably not many more do today. He could have explained the CRA, the corruption of Raines, Obama's legal career suing banks to get loans for unqualified minority borrowers, etc., and incidentally wouldn't have lost any black votes, since he didn't get any. But nooo. He preferred the high road to defeat by a dangerous leftist ideologue, whose middle name McCain even went out of his way to protect.

This whole thing could have been pinned on Obama and the Democrats by a smart, effective and clear-speaking presidential candidate. Unfortunately, we didn't have one of those.

[Pofarmer]

"What I find curious and somewhat relevant, is that property values are back to the point where the price spike started, "

Link, hadn't thought we'd dropped that far yet.

[Extraneus]

Speaking of which, has Steele done anything about the open primary situation? Not that I can see. Last time, Democrats and their MSM allies got their preferred Republican candidate. If Obama runs unopposed in 2012, there will be millions of Democrat activists itching to vote in Republican primaries. I wonder who they'll pick.

[Pofarmer]

"I keep reading here that U.S. regulators, or Democrats or treacherous do-gooders somehow forced banks to make sub-prime loans and somehow compelled Frannie to buy them"

Exactly fuckin backwards.

Numbnuts.

The sky really is a different color in liberalville.

[Danube of Thought]

I never understood why Raines wasn't prosecuted. As I recall, the SEC required him to pay several million in restitution following civil proceedings, but no criminal charges were brought. Ditto Gorelick.

[Clarice]

I think Raines and Johnson and Gorelick largely financed the Dems until Soros and Bing and a few others came along to add to the pot.

[Captain Hate]

When asked why he voted for all the crap, Jim just shook his big ol' head & said...'dunno, hey did you know I own a gun?'

[WaPo]But, but, but he doesn't say macaca[/WaPo]

[Captain Hate]

When asked why he voted for all the crap, Jim just shook his big ol' head & said...'dunno, hey did you know I own a gun?'

[WaPo]But, but, but he doesn't say macaca[/WaPo]

[NK]

Po-- who made the quote your rightly smacked down? That is exactly backwards. the STOOPIT securitization floodgates swung open in 2004-2005, when Fannie started buying all home mortgages with certain ratings. guess what every securitization tranche thereafter made that rating. originating banks were falling over themselves to get the loans out the door packaged and sold to Fannie and tey collected origination fees with no risk to themselves-- at least apparent risk.The WSJ, AEI and Repubs and Congress and even Bush (who loved 4.5% unemployment from home building) blew the whistle on this in 2005 --2005, before the bubble burst Barney Frank protested and the Senate dems including Barry O. filibustered. The rest is ugly history.

[NK]

Clarice-- is it that simple, Jim Johnson Frank raines and Jamie Gorelnick just bought a filibuster from the Senate Dems? BTW- in almost 30 years of meeting real estate and finance guys, frank raines was the slimiest operator I was ever in a room with.

[Clarice]

I think it's that simple. FM/FM was a super ka ching for the Dems--they used it to back up the improvident loans their confederates in the activist crowds forced on banks and CMA compelled ' FM/FM lied about their solvency and the dem-appointed officials skimmed of many millions, tens or hundreds of thousands of that were returned in campaign contributions.

Sweet ticket.

And the place also served as a hiring hall for their friends, like Barney's old boyfriend.

[Cecil Turner]

McCain could have explained this whole "financial crisis" in simple terms during the election.

It's funny. I sent his campaign an e-mail in Sep 08 telling them exactly that: Schumer and the Dems were pinning it all on the GOP, and nothing else mattered . . . either come up with a competing version or get creamed at the polls. (Got no response.)

[Pofarmer]

" Ditto Gorelick"

Still gals me gorelick sat on the 911 commision.

NK, the quote was from bubu. I know I shouldn't have responded, but it's early, I'm still on my first cup of coffee, and I have to read that stupidity. i know, not a good defense........

[Janet]

McCain could have explained this whole "financial crisis" in simple terms during the election.

I love this point by Extraneus. Because of the MFM bias, conservatives rarely get their side to the public. The Presidential election is the one time when we have an open, mostly unfiltered platform. What a waste McCain was.

[Ignatz]

--Sounds like a lot, but that's a garden variety bear market decline in the stock market, which we've had every six to 10 years, but usually without a major crisis. And declines in house prices actually benefit some people. So I think the story is more complicated.--

I agree it's more complicated jimmy, however the one essential element was the credit bubble which produced the asset inflation and subsequent deflation. Toss in the voracity of Fannie/Freddie for any type of loan, which could not have existed without their implicit guarantee (and which gave the originators and banks a taxpayer backed dumpster to toss their worthless paper into) and you have all you need to create a financial panic.
The credit bubble of the quasi-governmental Fed was enough to create a fine mess just as it had in the late 90s. The enabling of irresponsible behvior and immunity to market disciplne of the quasi-governmental GSEs was enough to turn a fine mess into a disaster.
The CDOs and MBSs and CDSs and all the rest that accreted around the perimeter made a bad situtation worse, but despite bubu's idiocies the perfect storm was created by the first two participants.

And a garden variety bear market in stocks differs in kind not just degree from a real estate crash.

[Threadkiller]

"McCain could have explained this whole "financial crisis" in simple terms during the election."

The only “name” McCain named was ">http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a5ZRYnyf1osQ"> Chris Cox and then he lost his spine.

What is Cox doing now?

He is testifying.

">http://www.fcic.gov/hearings/pdfs/2010-0505-Cox.pdf"> Testimony of Christopher Cox Former Chairman, U.S. Securities and Exchange Commission before the Financial Crisis Inquiry Commission

By far the largest institutions in the shadow banking system are Fannie Mae and Freddie Mac. The combined business of Fannie Mae and Freddie Mac represents approximately $5.5 trillion. They stimulated the creation of the high risk products that were at the epicenter of the mortgage market meltdown, by encouraging mortgage lenders no longer to worry about the future losses on the loans: instead, lenders could cash out through securitization or direct sales to Fannie Mae and Freddie Mac. Increasingly, lenders focused on underwriting to the standards of Fannie Mae or Freddie Mac, which established the template for the entire securitization market. In this way, lenders could be assured of selling the mortgages they originated. The meltdown of the mortgage market and the conservatorships of Fannie Mae and Freddie Mac highlighted the fact that not only did these shadow banking institutions effectively establish the underwriting standards for the mortgage market through the standards they set for lenders who wanted to sell them mortgages, they also established the pricing which failed to meaningfully discern between the high risk products and the mortgages identified in their congressional charter. By statute, Fannie Mae and Freddie Mac were intended to purchase “mortgages which are deemed by the corporation to be of such quality, type, and class as to meet, generally, the purchase standards imposed by private institutional mortgage investors.” But it was their activities and pricing in high risk mortgage products, for which they did not have any historical experience, which substantially fueled the market, and the resulting bubble, for these high risk mortgages. As we now know, Fannie Mae and Freddie Mac, which got affordable housing credit for buying subprime securitized loans, became a magnet for the creation of enormous volumes of increasingly complex securities that repackaged these mortgages. The market that they created was typified by conduits and structured investment vehicles that borrowed in the commercial paper market and bought longer-term asset-backed securities; investment banks and other institutions that financed overnight in the so-called repo market; and hedge funds.

[squaredance]

Goodness, BB, can you be more obtuse?

What do you do for a living, work as a towel boy?

[Captain Hate]

What a waste McCain was.

And still is; his blubbering over "his good friend Russ" mercifully leaving the Senate creates a hat-trick of Repuke weepers with Boehner and McConnell making maudlin fools out of themselves. Man up and represent your constituents, tools.

[NK]

BuBu-- you were quoting wiki so well and getting a few things right, and then you 'ef it all up by getting Fannie/Freddie's conduct in this backward. I always wondered watching these deals originate in 2004-2005 why Congress didn't step in and stop the Fanne/Freddie stupidity. Clarice has answered that for us, the filibuster was bought and paid for by the tapayers' own money-- because the Fannie/Freddie tab acording to the most recent TARP audit, will be between $200B-$1TRILLION dollars. Remember BuBu ultimately the taxpayers MADE money from the TARPed bankers, the taxpayers may even break even on the AIG mess, the taxpayers were robbed by BarryO and the Dems in bailing out the UAW, the deadbeat borrower bail out, and the BIG ONE, bailing out Fannie/Freddie which were frikkin' GOVERNMENT SPONSORED ENTITIES. I say it again, Johnson, Raines and Gorelnick should be in prison.

[cathyf]

Another issue in making the mortgages "toxic" assets was simple uncertainty. A weird perverse incentive of Fan/Fred's mandate to make large number of loans to people below the median income is that the servicers would use the no-doc loans to hide the fact that they were making lots of loans to people with excellent credit, and more than adequate income to make the payments. They were "liars' loans" for sure, but the lies could be in either direction. Which meant that all of the "sophisticated" modeling of which loans were low risk and high risk was starting out without accurate information about the creditworthiness of the borrowers. So some of those securities were going to way overperform their ratings, while others were going to way underperform -- and nobody had the slightest clue which was which. So people just got out.

As lots of people have pointed out, a big part of the whole QE process is to drive down mortgage rates and thus lure out all of those folks with just fine credit, and have them go through a legitimate underwriting process, get all of the documentation there and in order, and fold up the original MBS's and replace them with new securities which have ratings based on something other than lies.

[NK]

Cathy f-- you are being too polite. QE and QEII are simply Fed efforts to artificially bludgeon down rates, in order to partially reinflate housing and stock market bubbles so the 90% of employed people "feel" better and spend more. That's it. I think it's a bad idea because it debases the dollar drives up commodity prices through carry trade speculation so gas and heating oil prices go up-- which they have. how does $3+ gas at the pump make people "feel" better? I think Bernanke has screwed the pooch here.

[NK]

Threadkiller-- thanks for the Chris Cox quote-- that quote is a simple clear recitation of the fuel for the secuitiztion fire. The oxygen of course was Dr Greenspan Dr Bernanke and Dr Rubin's low interest rates. The detonator? Housing prices dropped -- BOOM. And now we saps are on the hook for between $200B-$1 TRILLION in the fannie/Freddie bail out.

[motionview]

The idea of Obama, of complete progressive governance, initiated the recession. With Dems already in control of the House and Senate, by Fall 2007 it is pretty abundantly clear that Dems would win big in 2008, with a fat majority in the House, maybe 60 in the Senate, and Hillary Clinton or Barack Obama in the White House. As an investor in late 2007, you ask yourself “What will Democrats, Progressive Democrats, do when they control everything?”. Even as you phrase the question you stop lending and begin to limit your American exposure. Because the answer is exactly what the Democrats have done: spend, borrow, tax, regulate, promote unions, demonize business, introduce massive amounts of fear, uncertainty, and doubt into the market. Not an environment in which you want to lend money, and the credit markets began their deterioration. Nothing to do with lax regulation, Bush tax cuts, Darth Cheney, evil Republican greed unicorns, whatever. This is a “correct” market anticipation of and response to Democrat governance; a crisis of confidence in our ability to tax our descendents to pay all of our debts, in order to redistribute wealth now from America at large to Democrat interest groups – unions.

[Tom Maguire]

...the fact is that the total decline in real estate values has been about 25%, or roughly $6 Trillion. Sounds like a lot, but that's a garden variety bear market decline in the stock market, which we've had every six to 10 years, but usually without a major crisis.

Banks and investment firms don't usually hold huge leveraged positions in corporate equity.

[Ignatz]

--QE and QEII are simply Fed efforts to artificially bludgeon down rates, in order to partially reinflate housing and stock market bubbles so the 90% of employed people "feel" better and spend more.--

Well, if so, QEII isn't quite cutting the mustard on interest rates as the 10 year yield, which most mortgages are based on, has backed up from 2.5% to 3.5% since it started.

[Melinda Romanoff]

TM-

"Banks and investment firms don't usually hold huge leveraged positions in corporate equity."

Through the loans they make to HFT and hedge funds they certainly do.

jimmyk's point centers on credit destruction, a big difference.