The Republican Roots of the Subprime Crisis...

Pure free-market advocates typically describe the complexity Brian speaks of as examples of the "creative genius" or "problem solving" capabilities of unfettered markets.  This rests on the notion that anything should be saleable as an instrument, and that there is a market for every possible instrument given the right price.  Brian, I think you're saying that the more exotic the instrument, the closer it gets to gambling on the investment-gambling scale, in which case I think I agree.

BTW, the current price of US Congress to approve a government bailout of banks on/before 31 Oct 2008 contracts is about 85.4.

#$(*&! #$#% stupid #_)#(@(#* new comment editor. Try #2: US Congress to approve a government bailout of banks on/before 31 Oct 2008 contracts.

1) Why does the government push homeownership?

it is the underlying symbol of the american dream and also a barometer of the economy. "new home sales" which in turn wins votes.. which is the real point.

2) Why are Fannie and Freddie necessary at all?

basically because trickle down doesn't work and the income of ordinary American hasnt kept up with the wealth of the nation. Wealthy areas are expensive to live in.. the cost of living is high, well all of american has become a more wealthy area to live in(do to actually wealth America has accrued, which mostly still sits on top waiting for that eventual trickle down) and hence housing is high and cost of living is high. So I still say the problem isnt a housing bubble, it is a wage crater. rannie and freedy were more bandaids on the symptums but not he problem.

3) Why are banks allowed to securitize mortgages?

greed..lobbyists.. free market mantra BS (if we can sell it we should be allowed to)

Excellent article. See also "The 9/22/08 Economic Crisis" at exponentialimprovement.com.

Re: Why does the government push homeownership?

Primarily because of real estate developer and home builder pressure. They make enormous profits because they can externalize much of the costs of growth onto the public. See the Growth Facts of Life at The profits gives them the ability to donate heavily to pro-growth city council candidates. They are generally Republicans and control most local governments ... which is why the Republicans tout "local control."

Chicken and egg Bob :)  Real estate developers didn't used to be a powerful rich lobby.  I am sure that now that they are they intend to stay that way, and use their funds for all the bribes/campaign contributions that are necessary, but government has a long history of pushing home ownership in this country.  Real estate developers as we understand the term didn't really take off until after the VA Home Loan program after WWII, which largely drove the start of suburbia.  Fannie Mae was created in the 30s to increase liquidity in the mortgage market, leading to more mortgages.  It just seems to be a fundamental assumption by government that it is a worthy goal unto itself, and I can't see why.  For many people renting makes more sense.

it's a bit more complex that that.. you have high preasure sales with peopel providing misleading info and offering you a free car to sign today.. the lower income you go with.. the worst credit you have the les incentive a person has to reject the banks offer. Because the worst that can happen is their credit get worse.. and when your credit is already crappy thats not a huge concern or negative.

so you get that? the exact people whom bush encouraged the banks to loan too,.the ones most likely to be foreclosed on. have the least incentive to say no.. and have the most incentive to get the apr and pray like hell rates stay low. It was low risk high reward. And anyone would and should do things like that.. is is fiscally sound advice.. you could win a house you shouldnt have been able to afford or lose a couple points on a credit score that was already crappy... hmmmm

and yeah that screwed america but you cant blame them.. they will do it every time.. as they should.(well except the apr thing that was just stupid with rates at record lows, unless you can easily refinance to fixed but most peopel with no money and crappy credit haven't been highly educated.. so still i say they have the least blame of anyone)

Low risk, high reward = no brainer.. it should have never been offered to them.

and before you scream.. low risk? the country is screwed.. I'm talkign from an individuals view point. Who's not thinking he may be participating int he destruction of Americans economy.

It looks like Peter Wallison agrees with you, Bill.

The repeal of portions of the Glass-Steagall Act in 1999--often cited by people who know nothing about that law--has no relevance whatsoever to the financial crisis, with one major exception: it permitted banks to be affiliated with firms that underwrite securities, and thus allowed Bank of America Corp. to acquire Merrill Lynch & Co. and JPMorgan Chase & Co. to buy Bear Stearns Cos. Both transactions saved the government the costs of a rescue and spared the market substantial additional turmoil.

None of the investment banks that got into financial trouble, specifically Bear Stearns, Merrill Lynch, Lehman Brothers Holdings Inc., Morgan Stanley and Goldman Sachs Group Inc., were affiliated with commercial banks, and none were affected in any way by the repeal of Glass-Steagall.

 Link

There appears to be at least one viner who seems to think the deregulation that permitted the creation of innovative debt instruments/securities is to blame, but if the underlying bad loans hadn't been made it wouldn't have mattered in the least.

I just got this video of a hearing in Congress in 2004 with a representative from Fannie Mae/Freddie Mac:

Bill,

I find your response to be very informative as I am not in your particular business. Given what you have written, it appears that there is plenty of blame to go around. Thank you.

Aye, plenty of blame indeed. It would seem to me that this whole setup was done intentionally. First you deregulate the financial sector to the point that there is no rules about what you can sell and to whom, then you pump this system full of loans in which there is a 90% probability that half or more will go bad, then watch the whole thing collapse and divvy up the losers. Pretty smooth.

Well the million dollar question is what do we do if the "bailout" doesn't work as intended to unfreeze the credit markets? Interbank lending and commercial paper financing is at a near standstill or at rates that aren't economically sound for the borrower. Without this lending the global economy grinds to a slow screeching halt and then lurches into recession if not something worse.

     I am curious as to what Bill thinks about the fact that the Bush Administration policies pushed for more subprime loans than ever in our history and that Bush threatened Fannie and Freddie into making more subprime loans?  What do you also think about the fact that it was the Bush Administration that forced HUD and Fannie and Freddie to offer Zero-downpayment and 3, 5, and 7 year adjustible arm products to the riskiest buyers.  Who pushed these risky things -- not Franklin Raines, but Bush.

     Bush aggressively pushed the private lending industry to make over 1.1 trillion in low income and minority lows and to "create more creative" loan products to do it. He pushed them to "loosen credit standards" and pushed them to make the most risky loan products available to the riskiest buyers. Then, he turned to Fannie Mae and Freddie Mac and threatened to rewrite their regulatory charters if they did not make more low income and minority loans.

The government-sponsored corporations created to increase the liquidity of mortgage markets, so more capital would be available for mortgage loans, are supposed to lead the market in reaching underserved populations. While these corporations have increased their commitments to these efforts, they lag behind private lenders in this regard, according to government studies. The Administration will revisit the regulatory goals for these corporations’ purchases of affordable housing loans, which are set to expire in 2003. The federal government should demand more and should hold such publicly-chartered corporations accountable for better performance.

(From Bush’s Press Release entitled “A Home of Your Own EXPANDING OPPORTUNITIES FOR ALL AMERICANS, PRESIDENT GEORGE W. BUSH JUNE 2002” regarding his “America’s Homeownership Challenge).

     The Bush Administration issued the following press release hailing its successes in pushing the private lending industry and Fannie Mae and Freddie Mac into making more low income and minority loans:

     Under President Bush's leadership, overall U.S. homeownership in the second quarter of 2004 reached an all-time high of 69.2 percent. Single-family housing affordability is at its highest level in 30 years, and minority homeownership set a new record-high of 51 percent in the second quarter.

     The President has called on Congress to work with him on additional steps to promote homeownership in America. He has set bold goals for homeownership, including his challenge to the Nation to create 5.5 million new minority homeowners by the end of the decade - and he has now set an additional goal of 7 million new affordable homes.

(White House Press Release – “Increasing Affordable Housing & Expanding Homeownership).

      Through the Republican Congress in 2003 and the Bush Administration's work through HUD and the FHA, the Bush Administration forced Fannie Mae and Freddie Mac to, for the first time, make available riskier loan products to minority and low income buyers.

The Federal Housing Administration Mortgage Program. In 2002, the President issued America’s Homeownership Challenge to increase first-time minority homeowners by 5.5 million through 2010. The Federal Housing Administration (FHA) mortgage program is an important tool for reaching that goal. In 2006, 31 percent of those using FHA mortgages were minorities purchasing their first home. The 2008 Budget continues Administration efforts to modernize FHA by improving its ability to reach traditionally underserved homebuyers (aka those who do not normally qualify for loans), such as low- and moderate-income families, individuals with blemished credit, and families who have little savings for a down payment.

(From Bush Administration’s White House Press Release entitled, “Focusing on the Nation’s Priorities – Meeting America’s Housing Needs”). 

     The Bush Administration through HUD, also required Fannie and Freddie to give a higher percentage of their loans to loan-income and minorities that otherwise would not qualify for the loans.

That's why I've challenged the industry leaders all across the country to get after it for this goal, to stay focused, to make sure that we achieve a more secure America, by achieving the goal of 5.5 million new minority home owners. I call it America's home ownership challenge.

And let me talk about some of the progress which we have made to date, as an example for others to follow. First of all, government sponsored corporations that help create our mortgage system -- I introduced two of the leaders here today -- they call those people Fannie May and Freddie Mac, as well as the federal home loan banks, will increase their commitment to minority markets by more than $440 billion. (Applause.) I want to thank Leland and Franklin for that commitment. It's a commitment that conforms to their charters, as well, and also conforms to their hearts.

(From White House Speech archives – “President calls for Expanding Opportunities to Homeowners” at St. Paul AME Church in Atlanta, Georgia).

     Franklin Raines, the head of Fannie Mae at the time, also responded to Bush’s “challenge” in a letter, stating:

June 13, 2002

President George W. Bush

The White House

1600 Pennsylvania Avenue NW

Washington, DC 20500

Dear Mr. President:

     As America’s largest source of private capital for affordable housing, Fannie Mae applauds your call for “broader homeownership, especially for minorities.” We accept your challenge to the private sector to join in partnership to address America’s housing needs.  And we are proud to step up to your challenge by launching an even greater commitment of private capital and creative strategies to expand minority homeownership.  * * * (the full letter can be found online).

     Then, the following press release was sent out:

     Fannie Mae Chairman and CEO, Franklin D. Raines today joined President Bush and U.S. Department of Housing and Urban Development (HUD) Secretary Mel Martinez, and other industry leaders and non-profit organizations, for a housing summit to promote the Administration's proposal to expand minority homeownership.

* * *

     Fannie Mae's ten-point plan to help advance the Bush Administration's homeownership proposals was included in the Blueprint for the American Dream document released by HUD today.

     The Blueprint for the American Dream that we unveiled today is the response to the `homeownership challenge' President Bush issued in June to increase minority homeownership," said HUD Secretary Mel Martinez. "Our partners, representing every segment of the affordable housing industry, are committed to working together to achieve the President's goal of adding 5.5 million new minority homeowners by the end of the decade."

     In his February State of the Union address President Bush called for "broader homeownership, especially among minorities." In June, President Bush challenged both the public and private sector to be a partner in his crusade to create 5.5 million new minority homeowners by the end of the decade.

     Fannie Mae responded by committing $700 billion in home financing to 4.6 million minority households through 2009. This increases by 66 percent the specific pledge Fannie Mae made in 2000 to minority families through it's American Dream Commitment plan to provide $420 billion for three million minority families.

(quotes from Fannie Mae and Freddie Mac in Business Wire “President Bush’s Nationwide Effort to Increase Minority Homeownership” – October 15, 2002).

            Fannie Mae responding to Bush’s aggressive push by committing $700 billion for low income and minority loans, a 66 percent increase in its previous pledge made in 2000. 

     In 2003, the following article was on Washington Business Wire:

     WASHINGTON--(BUSINESS WIRE)--March 18, 2003--On the third anniversary of its "American Dream Commitment(R)," Fannie Mae and its lender partners already have fulfilled over half of its ten-year pledge to provide $2 trillion in home financing for 18 million historically underserved families, Fannie Mae Chairman and CEO Franklin D. Raines announced today.

     To date, Fannie Mae has provided more than $1.3 trillion for nearly 12 million targeted families, completing two-thirds of the American Dream Commitment in about 30 percent of the time, and leading the market in serving minorities and the nation's affordable housing needs.

     Joining with representatives from 11 leading mortgage lenders and Fannie Mae partners, Raines applauded the mortgage finance industry for its extraordinary efforts to reach and serve "emerging markets" of historically underserved families and communities, deliver Fannie Mae's $2 trillion in targeted capital, and extend the benefits of the nation's housing boom.

     Lender partners participating in today's announcement include: Bank of America; Bank One Corporation; Charter One Bank; Countrywide Financial Corporation; Doral Financial Corporation; First Horizon Home Loan Corporation; Fleet Boston Bank; Huntington Mortgage Company; Irwin Mortgage; J.P. Morgan Chase & Co.; and Standard Mortgage Corporation.

     "Together, America's top lenders and Fannie Mae have made terrific progress in bringing the nation's housing boom to overlooked Americans and addressing the gaps in housing opportunity," Raines said. "Fannie Mae applauds our lender partners for helping us surpass the halfway mark in our $2 trillion commitment to underserved families so quickly. Together, we lead the market in serving Americans of color and modest means."

The Administration and Republican Congress also passed the “American Dream Downpayment Act of 2003” to allow low income and minorities with blemished credit and no ability to come up with a downpayment to have the government cover their downpayment and closing costs.  The Act gave 161.5 million dollars in taxpayer money to cover the downpayment and closing costs of minorities and low income individuals that would not be able to afford a downpayment and/or had “blemished credit.” 

On December 16, 2003, President Bush signed into law the American Dream Downpayment Act of 2003, which will help approximately 40,000 families a year with their down payment and closing costs, and further strengthen America’s housing market. This legislation complements the President’s aggressive housing agenda announced in 2002 to dismantle the barriers to homeownership.

(From White House Press Release “American Dream Downpayment Act of 2003 – Expanding Homeownership Opportunities for All).

     Bush also pushed and passed a "Zero-down Payment" initiative.

BUSH ADMINISTRATION ANNOUNCES NEW HUD "ZERO DOWN PAYMENT" MORTGAGE Initiative Aimed at Removing Major Barrier to Homeownership

LAS VEGAS - As part of President Bush's ongoing effort to help American families achieve the dream of homeownership, Federal Housing Commissioner John C. Weicher today announced that HUD is proposing to offer a "zero down payment" mortgage, the most significant initiative by the Federal Housing Administration in over a decade. This action would help remove the greatest barrier facing first-time homebuyers - the lack of funds for a down payment on a mortgage.

Speaking at the National Association of Home Builders' annual convention, Commissioner Weicher indicated that the proposal, part of HUD's Fiscal Year 2005 budget request, would eliminate the statutory requirement of a minimum three percent down payment for FHA-insured single-family mortgages for first-time homebuyers.

"Offering FHA mortgages with no down payment will unlock the door to homeownership for hundreds of thousands of American families, particularly minorities," said HUD's Acting Secretary Alphonso Jackson. "President Bush has pledged to create 5.5 million new minority homeowners this decade, and this historic initiative will help meet this goal."

Preliminary projections indicate that the new FHA mortgage product would generate about 150,000 homebuyers in the first year alone.

"This initiative would not only address a major hurdle to homeownership and allow many renters to afford their own home, it would help these families build wealth and become true stakeholders in their communities," said Commissioner Weicher. "In addition, it would help spur the production of new housing in this country.”

     The following is a summary of the initiatives from a White House Press release:

• Downpayment Assistance and Homebuying Education:
  • American Dream Downpayment Initiative. To help low-income families overcome the hurdle of a downpayment, the President proposed the American Dream Downpayment Initiative in June 2002 and signed the American Dream Downpayment Act into law on December 16, 2003. In June 2004, HUD announced $160 million in funding for this initiative to 400 local and state governments across the country to assist low-income families with down payment funds. The President requested $200 million for the American Dream Downpayment Initiative in his FY 2005 budget, which will assist an estimated 40,000 families.

  • Zero-Downpayment Initiative. In his FY 2005 budget, the President proposed the Zero-Downpayment Initiative. Preliminary projections indicate this Initiative would help about 150,000 homebuyers in the first year alone. This proposal would eliminate the statutory requirement of a minimum three percent down payment for FHA-insured single-family mortgages for first-time homebuyers.

(Excerpt from White House Press Release: “Increasing Affordable Housing and Expanding Homeownership”).

     The Administration, through HUD, further forced Fannie Mae and Freddie Mac to offer riskier 3, 5, and 7 year adjustable arm loan products to low income and minorities.

BUSH ADMINISTRATION ANNOUNCES NEW ADJUSTABLE-RATE MORTGAGE PRODUCTS TO ENHANCE HOMEBUYING OPPORTUNITIES

40,000 More Families Expected To Benefit From New Offerings

WASHINGTON – The Department of Housing and Urban Development is proposing to enhance homebuying opportunities by expanding its offerings of adjustable-rate mortgage (ARM) products on FHA-insured mortgages. Potential homebuyers would be able to choose mortgages with periods of three, five, seven or ten years, depending on their needs, during which time the interest rate would be fixed.  “By offering additional types of FHA-insured ARMs tailored to the financial conditions and desires of the borrowers, we are creating more homeownership opportunities,” said HUD Secretary Mel Martinez today in a speech to America’s Community Bankers. “We estimate that as many as 40,000 families a year will choose these new adjustable-rate mortgages as their way of financing their home purchase.”

(HUD Press Release).

     Bush and the Republican Congress forced Fannie Mae and Freddie Mac to make zero-down loans and adjustable rate 3, 5, and 7 year arms available to the riskiest buyers.  Fannie Mae and Freddie Mac were forced to effectively finance 103 percent of the mortgage (including closing costs).

          The Bush Administration often pointed to the huge increase in housing as one of its greatest successes.

[The Administration has] Helped Americans buy homes, expanding the homeownership rate to nearly 70 percent and the minority homeownership rate to over 51 percent nationwide. With approximately three million minorities owning a home for the first time, the Nation now has the highest minority homeownership rate in its history. Furthermore, the Administration is ahead of schedule in achieving the Presidential goal of adding 5.5 million new minority homeowners by 2010.

(From Bush Administration’s press release entitled “Expanding Home Ownership” under section entitled “Accomplishments”).

     It was between 2001-2005 that most of these loans that have gone bad were made. You can find all of the official documents at the White House, HUD, and Fannie Mae and Freddie Mac press release websites. You can also find the head of Fannie Mae's letter (Raines) back to Bush (after Bush threatened to not renew their charter) saying that he would meet his aggressive challenge online.

The basic problem stems from one of over-leverage (from Wall Street to Main Street) and it's kind of an unintended consequence of G-L-B. Bank holding companies are limited in their debt/capital ratios to something a little bit over 10 to 1. You will note that among the old line Wall Street firms that the former J.P. Morgan came out fine as a result of its merger with the old Chase Bank which would have been impossible under Glass-Steagall. The remaining stand alone investment banks, in order to compete for capital, raised their debt/capital ratios to as high as 44 to 1 with Merrill. Now this in and of itself wouldn't necessarily have been a problem had so much of that leverage not been in CMOs. But hindsight today is as 20/20 as it is in so many other fields. For traditionally, investing in mortgage backed debt obligations has been the safest of safe investments because the trader could rely on the originating lender both setting stringent enough underwriting requirements at point of origin and packaging and pricing these mortgages according to risk. All of that flew out the window following the collapse of the dot.com bubble, the resulting deflation in the equities markets (which really cuts into investment banking underwriting fees in connection with new IPOs) and the flight to r.e. occasioned by cheap money from the Fed following the '00-'01 downturn in the economy and the economic fallout from 9/11. A perfect financial storm was brewing on the horizon but everyone concerned from the mortgage lenders (including Fannie/Freddie), to the builders, to the Jane and John Doe seeing their houses appreciate as much as 25% annually was making so much money who's going to be the party pooper in the corner telling everyone they're drunk?

Well I did with some friends who I warned not to invest their equity from sales of their existing houses in overpriced condos in DC expecting the "25%" party to continue but few listened and are now stuck with places that it will take some years to realize any appreciation over the initial investment. What happened is that too many people bought too much house with loan products that they would have trouble with after rate re-set unless they were able to refinance to a more manageable fixed rate. When rates started to rise as a result of inflation fears sparked by the runup in energy costs many found that they couldn't refi because underlying collateral values started to fall back too and they had no equity in the property. All of this still might have been manageable if the runup in prices hadn't occurred in such densely populated areas like southern California and Florida and here in the outer suburbs of DC.

As I mentioned in a comment I made up the thread just before this one, the big question now is what do we do if this bill doesn't unlock the credit markets which are nearly frozen over? I'm in commercial r.e. and almost all of my deals (the few deals there are) going on six months or more now are being financed by insurance companies. Bank lending has virtually dried up. The spread on LIBOR to Fed funds is still close to six percent and normally there's not a hair's width between the two. Banks aren't lending to each other or to business, they're in hunker down and preserve capital mode. If this situation in the commercial paper markets does not ease in the next month we're headed into a worldwide deflation/recession (dare I use the "D" word?) that may take a decade to resolve and in the meantime the effects will be felt by hundreds of millions of people worldwide. This is some scary @!$%#.