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WHO IS MOST RESPONSIBLE FOR THE CURRENT FINANCIAL CRISIS?

Over the weekend, I decided to clean my desk (see “Thank You Al Gore”) and was, once again, sidetracked by reading the papers I had collected on the current financial crisis. While watching the squirrels play outside on the massive Oak trees, I couldn’t help but wonder about who was really responsible for our current crisis; in essence asking myself who was the greatest single villain in the story.

I had plenty of candidates to choose from.

  • The legislators who pursued social goals which set-aside or modified prudent lending guidelines to achieve a political purpose. This can be seen in legislation aimed at controlling the large Government-Sponsored Enterprises (GSEs), Fannie Mae and Freddie Mac.
  • The Administration’s regulatory agencies which had become hyper-politicized and subject to the revolving door of financial industry types washing through the agencies on their way to positions with those whom they regulated.
  • The State’s regulatory agencies who were attempting to perform their oversight activities against a background of conflicting, confusing, contradictory laws, rules, regulations and guidelines – along with the issues involving multi-state operations and the possibility of preemption by federal law.
  • The Federal Reserve which attempted to recapitalize financial institutions following the dot com bubble burst by holding the yields of previously safe and sound “treasuries” at artificially low rates around one-percent. Thus forcing the global pool of capital to seek higher yields in the next best thing: mortgage backed securities.
  • The Wall Street Wizards who believed their own statistical lie – that they had found a way to hedge real risk in such a manner that known underperforming securities could be compensated for by other types of securities and synthetic insurance. Using this lie to create greater and greater numbers of financial products to fulfill the demand of the global capital pool. And eventually creating securities out of securities when it appeared that the originators of mortgages were running out of even low-quality buyers.
  • The insurers who weren’t really insurers, but gamblers. Making bets based on nothing more than computer models and statistical histories. Whose loan loss reserves were not actuarially determined and who were not subject to the intense scrutiny of state regulatory agencies.
  • The mortgage originators who realized that any risk of poorly underwritten mortgages was transferred to someone else and that all of their “representations and warranties” were not actuarially-backed with enough funds to permit a buy-back of non-performing or under-performing loans.
  • Fair Isaacs Company (FICO) whose ubiquitous credit scoring model was deeply flawed because it was based on historical data and failed to note that the rules had changed. Where historically, continual re-financing of impaired borrowers in a rising real estate market was not prevalent. Where cash-out refinance activities did not boost an impaired borrower’s credit score by simply erasing significant credit card debt (used to pay for living expenses including mortgage payments) at the close of a newly re-financed loan. Or where the proceeds of a HELOC (Home Equity Line of Credit) could actually be used for making the monthly payments on the underlying mortgage itself.
  • The lenders whose combination of adjustable rate mortgages, teaser rates and payment options made payment cash flows uneven? Where lenders decided lending 125% of the underlying collateral value was prudent and sound. Where reduced interest or no principal payments were simply tacked on to the end of the loan in negative amortization products. Anything to generate additional mortgages and re-finance activities to feed Wall Street’s ever-growing and insatiable demand.
  • The large financial institutions who leveraged themselves beyond their ability to resolve their own financial difficulties without becoming insolvent. In one case, a five percent downturn in market valuation wiped out all of the shareholders’ equity – and they kept going in spite of knowing that they were dead men walking. These are the “too big to fail,” politically-connected, institutions that required massive amounts of the taxpayer’s money as they attempted to cover their operational expenses and to recapitalize themselves.
  • The real estate industry where the chief economist for the National Association of Realtors publically declared there was no real estate bubble – as it was bursting around him. Where real estate agents spoke of ever-increasing real estate prices using the old canard; “they aren’t making land anymore.” Believing that real estate was on an upward trajectory, in many cases these agents heavily encouraged speculative real estate purchases for people who were told that there was a big payday soon when they could cash out of the upside-down property pyramid they built.
  • The accounting profession which enabled Enron-like accounting with special purpose entities and structured investment vehicles which allowed financial institutions and others to hide the growing danger in off-balance-sheet accounts; almost invisible to the firm’s executives, auditors, counterparties, regulators and investing public.
  • Individual loan officers and real estate agents who knowingly lied about their products and services or who helped cover-up outright misrepresentation and fraud. Where individuals who had little or no experience could purchase expensive homes and exotic vehicles from their origination bonuses.
  • The borrowers who saw no problem with lying or shading the truth on their applications – as they signed the document under penalty of perjury and knowingly committed bank fraud. The people who bought significantly more house than they could afford because the real estate agent told them the rising prices would allow them to make a large profit and then downsize into a free-and-clear smaller property. And then there were the deadbeats who knowingly entered into a purchase agreement for the cash back or knowing that they could be living large just once in their lifetimes.

To be sure, each and every party listed above played a significant and multiplicative role in the current financial crisis. But I did find one party – more culpable than all of the others – that enabled this charade to continue and to deeply impact our entire economic structure.

It was the ratings agencies – with their inherent conflict of interest; which allowed those who created securities for sale to shop for ratings and purchase those rating which were more favorable to their security products. Hardly an arms-length transaction; especially when set against large fees and the intense competition among only three major players (Standard & Poor’s, Moody’s, Fitch).

It was their AAA (investment grade ratings) that enabled financial institutions, pension funds, mutual funds and others, mandated to purchase investment-grade securities and precluded from investing in lesser junk paper, to invest in what were essentially over-rated and risky financial products. Without this seal of approval, demand would have been significantly curtailed and the expansion of the contagion of poorly underwritten mortgages would have not found its way into the broader economy.

It was the false assumption that the ratings agencies performed adequate due dillegence and that their ratings actually represented reality which led firms like AIG to reduce the amount of reserve capital needed to offset potential losses in derivative securities. The real risk of AIG's "investment grade" portfolio of "so-called" collateral debt obligations (CDO's) was that of junk bonds (BBB's) rather than AAA-investment grade with a substantially smaller risk profile. What looked like a sure-fire profit spinner was actually a ticking time-bomb.

Compounding the problem was that some of the ratings agencies often  needed to rely on their own ratings in order to rate new securities made up out of old securities; thus exponentially increasing the risk profile of the newer securities.

Bottom line …

There were only a few (under 20) people who realized what was happening and took advantage of the situation to place bets against the market. Bets placed with the very same people who were selling these securities in the first place. Making enormous profits and insuring that the financial misery affecting the broader economy would never touch them in their lifetimes.

And with the exception of a few widely-publicized “show trials,” it appears that both the perpetrators and their enablers are going to walk away from the debacle with most of their fortune intact – at least enough to insulate them from the vagaries of the economy and the stress of meeting their living expenses.

Now I fear we are on a repetitive path.

Where the Federal Reserve is, once again, attempting to recapitalize the financial institutions (many of which were technically insolvent) after their massive losses by holding the Federal Funds Rate even lower than the one-percent that sparked the financial crisis. Now offering money between 0% to 0.25% to the banks which are generating large profits with little or no risk.

Where the legislature is allowing large sums of money to be pumped into financial institutions while telling the American public that this money is providing the liquidity to enable commercial and consumer lending. A big, big lie because we can plainly see that the money is still sitting on the Federal Reserve’s computer system and that borrowing, even for well-qualified borrowers, is difficult at best.

Where the legislature and Administration have combined forces to push artificial regulations, known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, as being the panacea which will prevent a similar financial crisis in the future. Another big, big lie. The legislation named after two of the most arguably corrupt people in office.

Former House Financial Services Committee Chairman (now the Ranking Member), Barney Frank (D-MA), who demanded the GSEs reduce their underwriting criteria to accommodate “socially-responsible lending activities.” This is the man who famously said that the GSEs were instruments of public and social policy while touting the safety and soundness of the corrupt Fannie Mae and Freddie Mac almost until the last days when they were taken over by the government and placed in a conservatorship.

Former Chairman of the Senate Banking Committee (now retired), Christopher Dodd (D-CT) who received special loans from Countrywide’s “Friends of Angelo” program while considering legislation affecting the company.

And it can be demonstrated that those legislators and regulators who are claiming that they are managing systemic risk when it comes to “too big to fail” financial institutions are ignoring the fact that these institutions are growing larger each and every day.

We are living in a hyper-political world where the politicians are pandering to the special interests in order to raise funding for the 2012 election cycle. Where much of the offered legislation will never see a full chamber vote and is being used to panic various sectors of the economy into donating huge amounts of money to those who would gain or maintain their political power base. Where well-paid lobbyists are busy gutting existing and proposed  legislation on behalf of their profitable clients. To insure that they have an economic advantage over both the consumer and their competitors. Or, at least, the consumer who pays ALL of the bills.

Enough with the corruption and legislation only lawyers can write and understand. Enough with legislators who can be bought by anybody, both foreign and domestic. And enough with the democrats who have perverted the system to allow their political “social” causes to trump sound financial practices.

Enough is enough – and it is up to you to stop the hemorrhaging of our treasure by electing constitutional conservatives to office in 2012.

-- steve

“The only two things you can not hedge against are: outright fraud and the lack of a willing counterparty to purchase your financial product at an acceptable price.” – steve


“Nullius in verba”-- take nobody's word for it!
"Acta non verba" -- actions not words

“Beware of false knowledge; it is more dangerous than ignorance.”-- George Bernard Shaw

“Progressive, liberal, Socialist, Marxist, Democratic Socialist -- they are all COMMUNISTS.”

“The key to fighting the craziness of the progressives is to hold them responsible for their actions, not their intentions.” – OCS

"The object in life is not to be on the side of the majority, but to escape finding oneself in the ranks of the insane." -- Marcus Aurelius

“A people that elect corrupt politicians, imposters, thieves, and traitors are not victims... but accomplices” -- George Orwell

“Fere libenter homines id quod volunt credunt." (The people gladly believe what they wish to.) ~Julius Caesar

“Describing the problem is quite different from knowing the solution. Except in politics." ~ OCS

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