The 2007-2010 financial crisis

Discussion in 'Politics, Religion, Social Issues' started by ArrowSmith, Jan 19, 2010.

  1. ArrowSmith macrumors regular

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    #1
    1. Households over-leveraged themselves with credit-card debt and too high mortgage payments(auto, student loans, etc...)

    2. In mid-2007 a large amount of households defaulted thus triggering a cascade failure through the financial system, creating toxic assets at each level to the point that huge firm like Bear Stearns and Merryl Lynch were threatened.

    My take on the whole thing is that financial institutions allowed too many loans to customers based on short-term thinking and not solid fundamentals(ability to pay off the loans). There was a disconnect between mortgage securities and the average loanee. In addition the insurance of these securities was another "innovation" not well thought out because it was not based on the fundamentals of ability to repay the loans. I think in the end too many complex financial instruments were mis-used in the name of short-term profits without regard to the fact they were creating toxic assets, combined with too many layers of indirection between financial instruments and real people on the ground facing financial ruin.

    Anyone in the industry should have been able to easily predict it and speak up at a board meeting. But they didn't. History will remember. :mad:
     
  2. Desertrat macrumors newbie

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    #2
    ArrowSmith, you're correct as far as you go, but there's a lot more to it, and it begins in 1977.

    The Community Reinvestment Act required lenders to make "sub-prime" loans. These were to be made to people who could not meet the old standard practice: 20% down payment, and principal/interest/taxes/insurance (PITI) of no more than some 25% of household income. IOW, a higher than usual percentage of these mortgages would fail. ACORN kept an eagle eye on banks in minority areas to make sure that the percentages were done, and filed suit when they thought a lender was sinning. This of course is a policy doomed to fiscal failure.

    Lenders were open to any method to get out from under this toxic paper, so they were happy to sell it at some discount to Fannie Mae or others when Congress made that possible.

    In the middle 1990s, ACORN and Barney Frank enlisted the help of Sen. Gramm of Texas to change banking laws; a repeal of a law from the 1930s which kept banking activities separated among the various types of banks. Previously, a bank could not invest its funds into the stockmarket, among other things. (I'm blanked on the name of that 1930s law.) The change allowed the ensuing elephantiasis of such as Goldmann Sachs and Lehman Brothers--among others.

    Another thread in this skein goes back to the high consumer price inflation of the 1970s. Volcker raised the Fed rate at the end of 1979 to previously unknown heights; around 14% or 15%. That caused the severe recession of 1980-1983. In turn, the public's reaction to the misery led to a new policy: No more pain and agony, if the Fed could help it. And it could, to some extent, by holding interest rates down. The next several recessionary periods were thus mild. "Soft landings". The big flaw in that ointment was that the necessary market corrections didn't happen; debt wasn't cleared and failures didn't fail. Malinvestment remained.

    We thus had a soft landing at the end of the dot-com bubble via low Fed interest rates.

    The hype then began that "houses always rise in value", which with low interest rates set off the housing bubble and excess construction of commercial buildings. Malls, hotels, etc.

    Many "counter-culture" analysts of economic and monetary matters were predicting the end of the housing bubble two and three years before its peak in mid-2005. Since so much of the GDP depended on construction, it was obvious by 2006 that a serious recession was coming. In late 2006, Soros predicted a recession would begin in the fall of 2007. And sure enough, it did.

    Keynesian ideas led Bush's advisors and the Congress to get into the Hoover game of what in 1930 was called "pump priming" and now we know it as stimulus spending. Obama and his advisors (Many of whom were advisors to Bush) are continuing in the FDR fashion.

    As far as foreclosures, most of the sub-prime mess is behind. The trouble is that the commercial real estate market is in the toilet and is crashing. Add to that the AltA and ARM mortgages which will fail in large numbers during these next two and three years. IOW, "You ain't seen nuthin', yet."

    These gigantic federal deficits, coupled with the loss of tax revenues at all levels of government, have put us in an untenable position. We had too much debt; we're adding to it as though a debt-caused problem can be solved via more debt. That has never worked, anywhere, any time. Never.

    You can expect a further loss of capital value in real estate, and more bankruptcy or near-bankruptcy at the state level. California, Michigan, Illinois and Arizona are in the toilet.

    The bad part is that the increase in the money supply will be followed by a much higher rate of consumer price inflation than what we now have. And what we now have is in actuality at least double the official numbers from the BLS. And at a time when U6 is at nearly 20% of the workforce.

    Best luck...

    'Rat
     
  3. KingYaba macrumors 68040

    KingYaba

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    #3
  4. nbs2 macrumors 68030

    nbs2

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    #4
    That's most of the economy in a nutshell, but you're forgetting the accounting problems that turned paper into gold at the same time as the housing collapse.

    As a result of consumer outrage in the 1970's you had the creation of stock option policies that essentially tied CEO earnings to the company performance in the stock market. As a result, you had executives manipulating their numbers with their fancy new math and increasing the value of their shares in what was essentially a high stakes, legal, pump and dump system. To counter that problem Sarbanes-Oxley required institutional holders (the company that holds your shares for you) to present their portfolios as losing money when the underlying assets lose value, regardless of intent to sell. That is, even though the losses are only on paper (40 yo A's retirement account went from 100k to 50k, so they have to say that they lost 50k of value even though they aren't retiring for another 25 years), they have to be presented as if they were actual losses. That compounded investor fears and helped the meltdown to snowball.

    Between the crashing housing market and the stock market, it appeared that the sky was falling. And rather than stay calm and rational, both administrations and plenty of doomsayers on both sides of the aisle rushed off to rob Peter to give Paul some money.
     
  5. leekohler macrumors G5

    leekohler

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    #5
    I knew it was going to happen, and I'm not in the industry. It's not rocket science.


    'Rat doesn't like to talk about that. He only wants to point the finger at liberals and poor people. I mean- they're the cause of everything that's wrong in the world, don't you know that? ;) It couldn't possibly be that people with money did anything wrong.
     
  6. flopticalcube macrumors G4

    flopticalcube

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    #6
    I agree with your sucinct analysis ArrowSmith. Many people did see it coming but to speak against a profitable venture, even just to point out the risks, in such institutions is very dangerous to your career. Risk Control Officers were told to shut up if they got in the way of short term profit. Many people knew the housing boom and all enterprises built on top of it were doomed.
     
  7. nbs2 macrumors 68030

    nbs2

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    #7
    Those many people may have been shunted out of the way before, but they are finding that they are getting the last laugh.

    While new construction and home prices are down, there is a steady hum below the surface where folks that sat out the housing bubble are cashing in their chips and making buys. There was one short sale outlier, but the foreclosures on my street have been getting scooped up pretty quickly. It helps that folks are paying close to half the original purchase price, but the street is turning from investment homes into family homes.

    At work, the folks that would squeeze every penny before spending money are getting attention while the "you have to spend to make" personalities have moved to the back row.
     
  8. Rodimus Prime macrumors G4

    Rodimus Prime

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    #8
    I think another huge problem that came about is our savings ratio in the US was and still is crap. Instead as a people we are debt ridden and I am not talking about longer term debt like mortgages. Those have been that way for a long long time but just other debt.

    The American people have been under 5% savings for a very long time to quite often at 1% to even negative savings. Now what makes this scarier is when you learn how those numbers are figured and you can see another ticking time bomb that will be going off.

    Saving rate is calculated based on the precent of money after taxes that some one brings in that is not spent.. That means retirement accounts like 401k are included in that savings ratio. To me that tells me no one is saving for retirement and when I was working my personal savings rate was over I think over 30% based on how the government calculates it at one time. Over 20% of my gross went into savings.

    That to me is waht really scares me is learning how that number if figured. People are living pay check to pay check with nothing to fall back on so when something bad happens personally it snowballs out of control very quickly.
     
  9. Desertrat macrumors newbie

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    #9
    "'Rat doesn't like to talk about that. He only wants to point the finger at liberals and poor people."

    Bat guano. My finger-pointing is and has been directed toward extremely foolish monetary policy. If the fools happen to have been liberals, using the CRA as the example, sobeit. What I will point out insofar as "poor people": Who was it who induced them to take on debt they could not repay? It darned sure wasn't a bunch of right-wing reactionaries, unless I'm misreading such as ACORN.

    As far as pay being tied to profits, it's the usual two-fold problem. Good, in that it provides an incentive to improve the company; bad, in that it's an incentive for pump and dump in order to increase the share price. But that all had little to do with creating this present mess. I'd bet that since last March, there's been more pumping and dumping among the investment banks than ever before, and anybody who's been gambling in this present market has been able to do quite well. But P&D was not causative of the sub-prime meltdown.
     
  10. leekohler macrumors G5

    leekohler

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    #10
    I stand by my post. That's still all you can talk about, one apsect of what happened. CRA was a very small part of it, as has been pointed out to you before. Stop acting like it was the main cause. It wasn't. Either have a fact-based debate or continue to be irrelevant.

    http://www.thedeal.com/dealscape/2009/02/fed_report_cra_not_cause_of_ho.php
     
  11. fivepoint macrumors 65816

    fivepoint

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    #11

    Great post, Rat. If more of the citizenry read up on the issue as much as you do, we'd be in a whole lot better shape. The bottom line in my mind here is that greed certainly played it's part... but greed is not the outlier here... greed exists everywhere and is actually an important part of the free market system. The outlier here, the thing that stands out as unique and caused this crisis, is government's attempt to manipulate the free market and leaned on banks (along with race-baiting organizations like ACORN) to create loans they knew were risky with the promise of being able to sell them immediately to government backed organizations (another no-no) Freddie and Fannie, and THEN when the banks collapsed anyway under the weight of the worthless mortgages they did own... the government BAILED THEM OUT (three strikes and you're out) when it should have let them die on the vine so that the lesson would be learned and new management could bring the company and our country back into reasoned borrowing and solvency.

    Without government intervention, the majority of banks would only make loans to individuals they knew could pay it back. The few that were irresponsibly risky and went bankrupt because of it would lose out and get sold to someone more capable of making quality long-term decisions for the organization.

    It's sad to see liberals point at anyone who attempts to speak the truth, and calls them 'racists' or suggests that they hate poor people. How ludicrous. I guess in their eyes selling a poor person a house they can't afford and virtually ensuring they have to lose that house eventually and go bankrupt is better than letting them know ahead of time to make a better decision for themselves and their families. To buy a cheaper house, or rent for a while until you have enough saved or have enough revenue to pay for what you want. Thank goodness there are still people out there who care for poor people BUT ALSO understand that hand-outs, freebies, and housing programs aren't usually the best way to help them.
     
  12. leekohler macrumors G5

    leekohler

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    #12
    It's sad that both you and 'rat continue to lie and point to CRA as the cause of the bubble bursting. That's what's truly sad. It wasn't. It's been pointed out to you guys several times, but you continue to turn a blind eye.

    Dig hole in sand, insert head.

    Another link:

    http://blogs.wsj.com/economics/2008/12/03/feds-kroszner-defends-community-reinvestment-act/
     
  13. nbs2 macrumors 68030

    nbs2

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    #13
    The timing doesn't work to argue that it did. SOX tried to kill the model for the major players, but in doing so created another beast that they weren't ready to handle.

    However, I would go further and state that the stock market's collapse had almost nothing to do with the sub-prime meltdown. It was the other way around. As the sub-prime market collapsed, the stock market took hits that it should have recovered from. Instead, it was 1929 all over again and we had a run on the NYSE.

    Just to be fair and antagonize everybody (it's what I do), I'm going to disagree with you as well. The CRA wasn't a direct cause, but like the Enron/WorldCom stock options fiascoes, it led to the sub-prime mess. What the CRA did was force lenders into situations that they might not have felt uncomfortable in. Because of that discomfort, they were loathe to let go of lending standards throughout the 80s and into the 90s. However, eventually they noticed that by cutting a corner here and there, they could increase profits without getting burned. Eventually, even on the most risky customers, banks could play fast and loose and still make enough to cover any losses. When the bubble finally burst, it was a host of folks that had been placed into untenable situations (both prime and subprime folks) that couldn't make payments and saw massive losses.

    So, while the CRA didn't cause the collapse, it played a significant role in making lenders comfortable with the idea of making risky loans. Without the CRA, I'm willing to bet that a lot of good homeowners wouldn't own homes, but banks wouldn't have make so many risky loans either.

    Last thought - while for a long time I would have given the Fed Board a lot of leeway, the last several years has pulled the mask off of their political neutrality. I don't doubt Ms. Duke's expertise, but I have a hard time thinking she is doing anything other than try to pin some of the blame her group shares with with her former employers fully on their shoulders.
     
  14. mactastic macrumors 68040

    mactastic

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    #14
    Don't listen to this drivel about the CRA being responsible for this disaster. The CRA played only a small part in this. Only one of the seven largest bank failures was even subject to the CRA. And even if all the subprime mortgages were aggregated, whether they ever entered default or not, is still only a fraction of the "money" that evaporated nearly overnight.

    The real issues that lie behind this mess are the crazy pay structures at banks that reward short-term profits, coupled with the deregulation of the banking industry by corporatists and their allies in Congress. The most notable of these deregulatory victories was the repeal of the Depression-era law prohibiting investment banking companies from owning other financial institutions. That had the effect of kicking this speculative bubble into high gear, and allowed most of it to happen out of sight and unregulated.

    And of course, none of that would have been possible had the bond rating agencies not been complicit in the whole thing. Why would they risk that? Because people decided it would be best if the companies seeking the good ratings were the ones to pay the bond companies. "Surely no bond company would risk it's good name by inflating bond ratings for money" was the argument, but sure enough they were willing to. Without some serious ratings agency reform, we'll just go down this road again and again. You'd think the free market would produce an alternative that could provide some guarantee of objectivity, but I don't see any such company forthcoming...
     
  15. leekohler macrumors G5

    leekohler

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    #15
    Oh please. They would have found a way to do this on their own. Don't tell me they didn't know what they were doing. That's a load of horse s***. This was greed, plain and simple. You cannot blame CRA loans for this, especially when they had a much lower foreclosure rate than the rest.
     
  16. mactastic macrumors 68040

    mactastic

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    #16
    Bankers are not usually liberals. In fact, the ones pushing the loans hardest on poor people were economic conservatives, who I generally consider to be corporatists.
     
  17. mcrain macrumors 68000

    mcrain

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    #17
    As much as I'm enjoying the discussion, there is a key piece of the puzzle that hasn't been discussed.

    There is a preference for debt in this country over other forms of financing.

    An entity can borrow money, and then deduct the interest. That deduction creates a financial incentive to finance through debt rather than through equity.

    Just a thought to ponder.

    Oh, and by the way, the fact that people obtained loans that were probably too large for their financial means wasn't what caused the bubble to pop.

    These people had jobs, were paying their debts, and the loans were being serviced.

    What changed? Banks started going belly up! They stopped lending! Corporations had to cut back, and in order to do so, they fired people.

    Those people who got fired... stopped paying their debts. The banks and the assets that were bundled, sold, and re-sold, started to lose their value, and guess what, even more of a lending crisis.

    More businesses went under or fired employees. Vicious circle.

    More thoughts to ponder.
     
  18. nbs2 macrumors 68030

    nbs2

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    #18
    I didn't say they wouldn't have. Nor do I deny that greed was the motive that led to the mess. Nor do I doubt that historically, CRA loans have had lower foreclosure rates - my time at Grameen taught me that microloans normally have a higher repayment rate than traditional loans. All I was saying was that the CRA opened bankers eyes to the idea that non-prime loans can be made and be successful. What was done with that knowledge is no fault of the CRA. You can teach someone how to be an effective radio personality. Whether that speaker turns out to be Rush Limbaugh or Tom Magliozzi is up to them - the banking industry just turned out to have a lot more Rushes than Toms.
     
  19. hulugu macrumors 68000

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    #19
    I don't buy this argument. First of all because the failure rate for CRA loans continues to be significantly lower than other "sub-prime" loans—even if you account for banks fiddling with classifications—and secondly, if banks were so concerned about this toxic paper with CRAs, why did they also get involved in billions of dollars in similar toxic paper that wasn't covered the the CRA program.
    At best, the CRA program created a wading pool, and the banks went and turned it into an ocean. Then they jumped in it and begged for rescue.

    The repeal of the Glass-Steagall Act was passed by a Republican majority in both the House and Senate, and was signed by Clinton in 1999. It's simply incorrect right to hang this albatross around Frank, when there were 90 other Senators and 362 Representatives who voted for the Act's repeal.

    As I've stated before, the creation of the 2007-2010 financial crisis was driven by many interests, including ACORN, but also dozens of small and large mortgage companies and individual borrowers. You cannot reasonably drop this carcass at the feet of ACORN without acknowledging those who made billions trading these loans, and thousands more completely unconnected to ACORN or the CRA on the market and occluded their value to the detriment of everyone.
     
  20. mactastic macrumors 68040

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    #20
    Well, it makes sense from the POV that the government has an interest in promoting high rates of owner-occupied housing. Most people don't have the equity available to purchase a house, so the mortgage interest deduction encourages people to have a financial stake in their neighborhood.

    Where it gets hazy for me is how that somehow got extended to investment properties, which seems like it encourages the opposite -- high rates of renter-occupied housing.

    I've got no issue with providing a tax-based incentive to people to buy their first, or even a second, home. But IMHO, once you get beyond that the tax break should vanish.
     
  21. StruckANerve macrumors 6502

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    #21
    The CRA caused a lending trend that is what led to the collapse. It doesn't matter that only a small percentage of loans were given under the CRA. Other lenders saw the profit that these loans were generating and jumped on the boat along with the CRA lenders. And then the GSE's bought up all these risky debts regardless of who was underwriting them.

    But even still that's only half the problem. The other half comes from the credit default swaps and the process of issuing debt backed securities. That in itself is very high risk. The Governemnt should have just let the banks collapse. It would have been hell but other banks would have moved in to pick up the pieces. Now we are stuck under a crushing amount of debt that we have no hope of ever paying back.
     
  22. leekohler macrumors G5

    leekohler

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    #22
    It does matter. No one's arm was twisted into making those loans outside the CRA. They did that all by themselves and they alone need to take the blame for that. The CRA did not force any independent lender into making loans they didn't want to make.

    Would you also follow your friends off a cliff? Why is it that conservatives never shout "personal responsibility" in these cases? Those lenders knew exactly what they were doing. This was about greed, nothing else.
     
  23. mactastic macrumors 68040

    mactastic

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    #23
    So you're saying that the lenders had no personal responsibility here?

    Haven't the banks paid almost all of that money back? Where is this mountain of debt that you refer to coming from?
     
  24. StruckANerve macrumors 6502

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    #24
    Greed was what made the lenders take the risk. The CRA helped set the precedent for giving loans to people that couldn't afford them. ARM's are downright stupid and it's unfortunate that people would jump into them without knowing what they were getting into.
     
  25. rdowns macrumors Penryn

    rdowns

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    #25
    Credit default swaps were and continue to remain the problem. If these don't exist, the risky loans never get made.

    Which banks were solvent enough to move in and pick up the pieces?
     

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