I’ve been railing on Obama’s and Bush’s responses to the economic crisis. Thanks to recent events, there are a few stories out there that I felt were eye raising. The links are on the side bar dated 4/13. They reminded me that I had been meaning to do a piece on who is responsible for the current crisis and who is benefiting.
I felt like doing a little finger pointing today. I used to have a job assigning blame so here are the winners, losers, the innocent and the guilty in the housing bubble.
1) Loan originators – Despite everyone’s hatred for the evil big banks and their predatory lending, most of these predatory loans were originated by someone else. Most loans these days originate with a group of companies who specialize in originating loans (think Quicken Loans), then sell them off to banks. When I worked with Citimortgage, almost all loans originated through these origination specialists. Guilty! They had no trouble lending to whomever because they were not the one receiving payments for the loans, just the origination fees paid at closing. Winner! They made a ton of money and no one seems to be concerned with how they made it.
2) Big Banks – They are one of the few that are innocent, guilty, winners, and losers all in one. Innocent Was greed involved? Yes! Are they getting bailed out? Yes! Are they mostly responsible? Yes and No. A Little Guilty! They bought these toxic assets from loan originators and bought up a lot of other banks loans that were toxic as well. The motivation was to make the company a behemoth instead of making smart business decisions. Citibank, Chase, and Wells Fargo were in a giant race to see who could hold more mortgages. The bit about predatory lending is ridiculous here (that falls on the loan originators). No, these banks were just stupid. Loser! Like hot potato, they were stuck holding the potato when the music stopped. They deserved it of course. They were acquiring loans to build their kingdoms, not to make money for their shareholders. Winner! Thanks to Bush and Obama, one does not need to live with poor decision making, they can get a bailout.
3) Borrowers with Unconventional Mortgages - Guilty! There are all kinds of interesting stories on these people. There was the heart sobbing story of the women with an $80k conventional mortgage who was tricked into a $400k refinance that she couldn’t afford. Now she’s being threatened with foreclosure. Why is no one asking where the $320k she received from the refinance went? There is an article on the side bar on how street gangs were making profits on these. Even those who are now underwater got a taste of the high life if only for a while, living in a house they could not afford. Winners! They got the house they wanted and the attention of President Obama, who is going to help them pay those evil mortgages. They are able to live in their house payment free twice as long as usual. I believe they should also be bigger winners too, because banks should be writing down the principle due on these mortgages. This may not make sense to you, but being in accounting I believe in having balance sheets reflecting what the value of an asset is. This means writing down the mortgage principles in my opinion. However, these mortgage holders should not get government help or special treatment. If they still can’t make the payments they should be kicked out.
4) People in foreclosure because they lost their jobs - Innocent They did everything right. Had the money needed and had a job. They made their payments and were responsible with their loans. Losers There’s nothing in the Obama plan for these people because they are probably not underwater. Surprisingly, it is these folks most likely to be in foreclosure according to AP (see the article on the side bar).
5) The Presidents Bush and Obama - Guilty! They have horribly assessed the situation above and made sinners and saints out of the wrong people. Obama continues to miss what needs to be done to make serious changes to avoid this occurring again. Winners! They both got to enjoy new executive power all without any of the trappings of the crisis. They even managed to reach out and rescue the wrong parties without scrutiny from the media. It’s not likely they will lose their homes or suffer in any way from the harm of this crisis. It’s nice when a President says they feel the pain of the people. It would be another thing if they actually did feel the pain of the people. Politicians 2 – Citizens 0 in this crisis.
6) The American Tax Payer - Innocent The average person played by the rules and did not get caught up in the bubble. Losers We’ve paid for all the stupidity and then some. Our retirements were hit hard and our national debt is going sky high.
Do you still feel like Obama is doing a great job here? Common sense says that when there is a problem you try and fix it. That usually includes not punishing the innocent and fixing the problem. When you make it all about the greed of the banks, you miss the big picture.
Showing posts with label banks. Show all posts
Showing posts with label banks. Show all posts
Too Big to Fail - 2 of 3 on the new bank bail out
Sunday, March 29, 2009
Too big to fail is more than just a media word being thrown around in the news lately, but a term that has been studied in great detail over the last 30 years in the academia of money and banking. However, many are probably not too familiar with the concept.
Most are already familiar with the first part of the too big to fail scenario. The largest financial institutions are too interconnected to the economy to be allowed to fail when they become distressed. Therefore, the government must come in and bailout the institution. However, there are consequences to the bailout. Many probably are not aware that bailouts promote risky behavior in the financial sector.
Bailouts are nothing new to the Fed and government. Over the past 30 years there have been a consistent number of bailouts including Continent Illinois and the Savings and Loan crisis at the end of the 80’s. The successes of these bailouts have only bolstered the idea that a bailout is a certainty. Most people outraged by the collapse of Fanny and Freddie Mac were people confident that the government would insure the bank's losses. It is important to note that Lehman was the first financial institution that failed to receive a bailout since bailouts began. In fact, it is likely that today’s mortgage crisis is a result of the too big to fail concept playing itself out over the years.
With the confidence of government assistance, where is the threat of failure which forces prudence and good decision making? Going back to Lehman, the company was so sure of a bailout, they had not made strides towards an alternative when they found out they were not going to get assistance. I used to work in the mortgage industry and I worked closely with Citimortgage (the 3rd largest mortgage company with over 3.5 million mortgages). Citimortgage gives us a clue of management’s mentality regarding their risk taking. Prior to the economic meltdown, Citimortgage was working hard building their kingdom of mortgages in their race to be the largest mortgage company in the US. They acquired company after company. All the while, not reviewing loan origination standards nor assessing the risk they were taking by acquiring these loans. In fact, few loans were ever originated by Citimortgage themselves, but were bought up second hand. The focus was clearly on the size of the portfolio and not the substance. Now that they are bailed out, what lesson will they learn and what incentive do they have to change?
Another aspect is that by mitigating the losses of an ailing financial institution, the government allows the poor business practices of the past and often the present to continue without redress. When companies are bailed out, we are not guaranteeing a change in management behavior. The purpose of TARP was to provide money to financial institutions so that they could relieve themselves of their burdened assets. Just as the state stimulus money was to be used for infrastructure, but in actuality many states are using the money for budget gaps. TARP funds were not used to relieve the assets as intended but used as an influx of cash to go into their various operations and protect the company’s earnings. Bailout does not promote change! While AIG may have needed to keep people on the payroll using retention bonuses to do so, how hard were they negotiating when the tax payers were subsidizing the payroll? How much time was spent looking into alternative options? I can only speculate.
Most would rather chalk the recent problem to deregulation, but that is only a piece of the puzzle. Despite deregulation, there are still regulations and regulators, but regulators rarely catch on until it’s too late and no amount of regulation will change that fact. This is because regulation violations are rarely evident until there is a problem. If you walked through the halls of AIG 2 years ago, I'm sure anyone would have been convinced of their stability. Even if there was proper regulation, that does not mean that banks cannot exploit holes in the regulation system. AIG’s troubles were related not to deregulation, but taking advantage of regulation holes. Like computer viruses, no regulation written can be perfect and cover all possibilities. Most regulation issues are not from a lack of regulation, but a gray area in regulation. By the time a regulator has figured it out, the damage is already done.
We are now looking at a new bailout bill, complete with new regulations looking to gain new bailout power (please stay tuned for the next post on why the new regulations are bad). Yet, how will this bailout and these regulations fix the underlying problem above? It will not end the problem of too big to fail, but promote it. It will not deal with the trouble of regulation loopholes; it will create more of them. It will not promote good management in the bailed out companies; it will grant amnesty to them. Finally, it will not end the fact that these bad mortgages have borrowers who cannot pay; it will only forestall the reality until bank bailout number three is needed.
We don’t need new bailouts and we don’t need new regulations. We need the old regulations that helped limit the size of these financial institutions from the time of FDR. This may tighten up the easy credit this country has enjoyed, but in limiting size it should promote competition and keep the cost of credit low. Finally, I believe we need to break up these large companies so that the healthy segments can continue while the troubled ones are allowed to fail.
Most are already familiar with the first part of the too big to fail scenario. The largest financial institutions are too interconnected to the economy to be allowed to fail when they become distressed. Therefore, the government must come in and bailout the institution. However, there are consequences to the bailout. Many probably are not aware that bailouts promote risky behavior in the financial sector.
Bailouts are nothing new to the Fed and government. Over the past 30 years there have been a consistent number of bailouts including Continent Illinois and the Savings and Loan crisis at the end of the 80’s. The successes of these bailouts have only bolstered the idea that a bailout is a certainty. Most people outraged by the collapse of Fanny and Freddie Mac were people confident that the government would insure the bank's losses. It is important to note that Lehman was the first financial institution that failed to receive a bailout since bailouts began. In fact, it is likely that today’s mortgage crisis is a result of the too big to fail concept playing itself out over the years.
With the confidence of government assistance, where is the threat of failure which forces prudence and good decision making? Going back to Lehman, the company was so sure of a bailout, they had not made strides towards an alternative when they found out they were not going to get assistance. I used to work in the mortgage industry and I worked closely with Citimortgage (the 3rd largest mortgage company with over 3.5 million mortgages). Citimortgage gives us a clue of management’s mentality regarding their risk taking. Prior to the economic meltdown, Citimortgage was working hard building their kingdom of mortgages in their race to be the largest mortgage company in the US. They acquired company after company. All the while, not reviewing loan origination standards nor assessing the risk they were taking by acquiring these loans. In fact, few loans were ever originated by Citimortgage themselves, but were bought up second hand. The focus was clearly on the size of the portfolio and not the substance. Now that they are bailed out, what lesson will they learn and what incentive do they have to change?
Another aspect is that by mitigating the losses of an ailing financial institution, the government allows the poor business practices of the past and often the present to continue without redress. When companies are bailed out, we are not guaranteeing a change in management behavior. The purpose of TARP was to provide money to financial institutions so that they could relieve themselves of their burdened assets. Just as the state stimulus money was to be used for infrastructure, but in actuality many states are using the money for budget gaps. TARP funds were not used to relieve the assets as intended but used as an influx of cash to go into their various operations and protect the company’s earnings. Bailout does not promote change! While AIG may have needed to keep people on the payroll using retention bonuses to do so, how hard were they negotiating when the tax payers were subsidizing the payroll? How much time was spent looking into alternative options? I can only speculate.
Most would rather chalk the recent problem to deregulation, but that is only a piece of the puzzle. Despite deregulation, there are still regulations and regulators, but regulators rarely catch on until it’s too late and no amount of regulation will change that fact. This is because regulation violations are rarely evident until there is a problem. If you walked through the halls of AIG 2 years ago, I'm sure anyone would have been convinced of their stability. Even if there was proper regulation, that does not mean that banks cannot exploit holes in the regulation system. AIG’s troubles were related not to deregulation, but taking advantage of regulation holes. Like computer viruses, no regulation written can be perfect and cover all possibilities. Most regulation issues are not from a lack of regulation, but a gray area in regulation. By the time a regulator has figured it out, the damage is already done.
We are now looking at a new bailout bill, complete with new regulations looking to gain new bailout power (please stay tuned for the next post on why the new regulations are bad). Yet, how will this bailout and these regulations fix the underlying problem above? It will not end the problem of too big to fail, but promote it. It will not deal with the trouble of regulation loopholes; it will create more of them. It will not promote good management in the bailed out companies; it will grant amnesty to them. Finally, it will not end the fact that these bad mortgages have borrowers who cannot pay; it will only forestall the reality until bank bailout number three is needed.
We don’t need new bailouts and we don’t need new regulations. We need the old regulations that helped limit the size of these financial institutions from the time of FDR. This may tighten up the easy credit this country has enjoyed, but in limiting size it should promote competition and keep the cost of credit low. Finally, I believe we need to break up these large companies so that the healthy segments can continue while the troubled ones are allowed to fail.
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