So who is at fault for our economic crisis?

houtiger · Oct 23, 2008

From Greenspan's testimony today to the House of Rep.:

October 23, 2008

But on Thursday, almost three years after stepping down as chairman of the Federal Reserve, a humbled Mr. Greenspan admitted that he had put too much faith in the self-correcting power of free markets and had failed to anticipate the self-destructive power of wanton mortgage lending.

“Those of us who have looked to the self-interest of lending institutions to protect shareholders’ equity, myself included, are in a state of shocked disbelief,” he told the House Committee on Oversight and Government Reform.

<snip>

Critics, including many economists, now blame the former Fed chairman for the financial crisis that is tipping the economy into a potentially deep recession. Mr. Greenspan’s critics say that he encouraged the bubble in housing prices by keeping interest rates too low for too long and that he failed to rein in the explosive growth of risky and often fraudulent mortgage lending.

“You had the authority to prevent irresponsible lending practices that led to the subprime mortgage crisis. You were advised to do so by many others,” said Representative Henry A. Waxman of California, chairman of the committee. “Do you feel that your ideology pushed you to make decisions that you wish you had not made?”

Mr. Greenspan conceded: “Yes, I’ve found a flaw. I don’t know how significant or permanent it is. But I’ve been very distressed by that fact.”

<snip>

He noted that the immense and largely unregulated business of spreading financial risk widely, through the use of exotic financial instruments called derivatives, had gotten out of control and had added to the havoc of today’s crisis. As far back as 1994, Mr. Greenspan staunchly and successfully opposed tougher regulation on derivatives.

But on Thursday, he agreed that the multitrillion-dollar market for credit default swaps, instruments originally created to insure bond investors against the risk of default, needed to be restrained.

“This modern risk-management paradigm held sway for decades,” he said. “The whole intellectual edifice, however, collapsed in the summer of last year.”

Mr. Waxman noted that the Fed chairman had been one of the nation’s leading voices for deregulation, displaying past statements in which Mr. Greenspan had argued that government regulators were no better than markets at imposing discipline.

“Were you wrong?” Mr. Waxman asked.

“Partially,” the former Fed chairman reluctantly answered, before trying to parse his concession as thinly as possible.

<snip>

But as the Fed slashed interest rates to nearly record lows from 2001 until mid-2004, housing prices climbed far faster than inflation or household income year after year. By 2004, a growing number of economists were warning that a speculative bubble in home prices and home construction was under way, which posed the risk of a housing bust.

Mr. Greenspan brushed aside worries about a potential bubble, arguing that housing prices had never endured a nationwide decline and that a bust was highly unlikely.

Mr. Greenspan, along with most other banking regulators in Washington, also resisted calls for tighter regulation of subprime mortgages and other high-risk exotic mortgages that allowed people to borrow far more than they could afford.

The Federal Reserve had broad authority to prohibit deceptive lending practices under a 1994 law called the Home Owner Equity Protection Act . But it took little action during the long housing boom, and fewer than 1 percent of all mortgages were subjected to restrictions under that law.

This year, the Fed greatly tightened its restrictions. But by that time, the subprime market as well as the market for other kinds of exotic mortgages had already been wiped out.

Mr. Greenspan said that he had publicly warned about the “underpricing of risk” in 2005 but that he had never expected the crisis that began to sweep the entire financial system in 2007.

“This crisis,” he told lawmakers, “has turned out to be much broader than anything I could have imagined. It has morphed from one gripped by liquidity restraints to one in which fears of insolvency are now paramount.”

Many Republican lawmakers on the oversight committee tried to blame the mortgage meltdown on the unchecked growth of Fannie Mae and Freddie Mac, the giant government-sponsored mortgage-finance companies that were placed in a government conservatorship last month. Republicans have argued that Democratic lawmakers blocked measures to reform the companies.

But Mr. Greenspan, who was first appointed by President Ronald Reagan, placed far more blame on the Wall Street companies that bundled subprime mortgages into pools and sold them as mortgage-backed securities. Global demand for the securities was so high, he said, that Wall Street companies pressured lenders to lower their standards and produce more “paper.”

“The evidence strongly suggests that without the excess demand from securitizers, subprime mortgage originations (undeniably the original source of the crisis) would have been far smaller and defaults accordingly far lower,” he said.

Despite his chagrin over the mortgage mess, the former Fed chairman proposed only one specific regulation: that companies selling mortgage-backed securities be required to hold a significant number themselves.
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http://www.nytimes.com/2008/10/24/business/economy/24panel.html?hp

1) Federal Reserve failure to exercise its regulatory power properly.
2) Dropping interest rates too low 2001 - 2004 and holding them down too long, in order to get Bush re-elected.
3)Greed on Wall St.

There you have it.

Bandit88 · Oct 23, 2008

You left out the part where damned near everyone in the country extended themselves like idiots on credit beyond their reasonable ability to pay. Government shares the blame. So do the rest of us. Most of us, anyway.

houtiger · Oct 23, 2008

Bandit88 said: ↑

You left out the part where damned near everyone in the country extended themselves like idiots on credit beyond their reasonable ability to pay. Government shares the blame. So do the rest of us. Most of us, anyway.
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Agreed. One thing my Dad told me about money, "it don't come with instructions on it"!!!

red55 · Oct 24, 2008

Bandit88 said: ↑

You left out the part where damned near everyone in the country extended themselves like idiots on credit beyond their reasonable ability to pay. Government shares the blame. So do the rest of us. Most of us, anyway.
Click to expand...

This is a valid point. I was raised frugally and live frugally. The mortgage is paid, I am virtually debtless at this point and I can think about early retirement if I wish. I have sufficient assets to live comfortably for many decades, should I foul up and live that long. This market plunge has bitten a mighty big plug out of my retirement investments, though. Still, I feel like I've done all the right things and I'm going to be all right regardless. But I've had to be responsible with my money and be thrifty to get here.

But Joe Schmo down the hall who owes $600,000 on a $250,000 house that was too big for him when he got it on a variable mortgage has no savings at all. In fact, he has about $60,000 in unpaid student loans and $150,000 in personal loans. He rolled his huge credit card debt into one of his house refinancings, now he can't even get a credit card. The market plunge hasn't bothered him a bit, because he doesn't have any money in it -- all he has is red ink. But he's licking his chops at the prospect of a government bailout of mortgage defaulters. It's another opportunity to keep sliding just when he thought the house of cards was about to collapse.

I think he did everything wrong, but he's probably not going to lose his ass or his nice big house as a consequence. I get to keep my modest, paid-for cottage and he gets to keep his McMansion. I'll die leaving assets behind and he'll die owing several fools a lot of money.

At least I'll be able to retire and enjoy myself and Schmo will have to work until he has to go into a Medicare gulag nursing home.

People used to work hard and save when they were young, buy a small urban house or condo and upgrade to a bigger house in the suburbs later when the kids arrived. Perhaps, when they are empty-nesters, build a dream house on a lake somewhere to retire and entertain the grandkids.

Now I keep seeing these couples in their 20's standing in front of their $750,000 dream home that they just lost. They bemoan the tragedy of their loss. Well, Excuuuuuuse Me! You have your entire life ahead of you. Buy something you can afford now and upgrade later when you're doing better. No one gets to go from Mommie's house to Dream Home in one step.

Many of these people don't deserve bailouts. It rewards irresponsible behavior and fails to reward responsible behavior.

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So who is at fault for our economic crisis?

houtiger Founding Member

Bandit88 Old Enough to Know Better

houtiger Founding Member

red55 curmudgeon Staff Member

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