2008 Nov 02 - Sun

Governmental Capitalism

The article "Why The Mortgage Crisis Happened" goes into some detail regarding the political background of the current financial situation originating in the US and spreading through out the world.

Some might say it was capitalism running rampant. But it looks more like the government trying to do the socialist thing and trying to get home ownership into the hands of those who can't/couldn't afford it. Isn't that what credit reports are for? In the words of Scott Francis: "The Community Reinvestment Act is a freaking joke. Why should a minority have a different set of rules and credit requirements than someone who has good credit?"

It is interesting that John McCain is painted in a positve light as knowing about the situation and attempted to do something about it. Obama, on the other hand, is painted in a bad light as being a perpetrator of the whole situation, and even accepted money to perpetuate the whole fiasco. And guess who it looks like the US will have as it's next president? Unless the undecided's all vote for McCain. Which shows my bias. But, perhaps in some version of the future, the US may field a third political strong enough to bite the hands of both the consumer and big business and make the decisions necessary to reduce the size of government, the debt, and everything else. Yeah, right. Too many self-interested groups.

According the article, business institutions needed to bury the good with the bad. However, it seems that the bad started to infect the good in a larger degree than was thought possible. Then (over-)leverage opened the whole festering wound. Please note that my remark regarding over-leveraged Wall Street places a good chunk of follow on blame on the rocket scientists who attempted to help monetize the government's problem. A commenter named Terry writes that the article fails to "fully examine the role of the conversion of mortgages into mortgage backed securities that were improperly rated by corrupted rating agencies and then sold into the marketplace. This, in combination with the looming problem with credit default swaps, is a much more significant pathogen in this disease process. " Terry indicates that this is an issue of deregulation, something of which the 'conservative commentator' doesn't cover.

According to Foreclosure Myths: Can the Media Handle the Truth?, the media is suggesting that the crisis was started through "Americans overwhelmed by circumstances beyond their control, from job losses to health problems to personal crises like divorce which ultimately cost them their homes." "the foreclosure problems began in mid-2006 when the nation.s unemployment rate was holding steady at a mere 4.6 percent. What triggered the crisis were not layoffs but an end of the rise in home prices." "Starting in mid-2006, foreclosures jumped sharply for both prime and subprime ARMs, but not for fixed-rate mortgages of any kind, including subprime ones." "ARMs draw a different kind of buyer, one who is often intent on selling or refinancing before rates re-set." "... buyers ... made speculative loans or were intent on flipping their homes, and they instead walked away from their mortgages at the first sign of home depreciation." "... purchases of homes for investment purposes that the buyer didn't intend to live in, amounted to a whopping 28 percent of all deals, and 22 percent in 2006."

According to the chart Real Estate Melt Down, making it easier to obtain sub-prime mortgages lead to an increase housing pricing relative to the average family income. Speculation as well as the laws of supply and demand would easily justify such a scenario.

What we end up with is a situation in which the home owners who got in early, have nice properties to their credit. Those in late couldn't ride the gravy train and got tossed overboard. This affects/affected builders, mortgage companies, bankers, and ultimately the general public due to the fact that whole statue of gold was attempting to be supported through feat of clay.

The stock market suffered as a result. Long term investors have felt this most tellingly. However, for those who know how to play the market in both up and down modes, are making huge sums of money through the market volatility. I've done some manual trades on both sides and have seen some appreciation, but I wish I was much better at seeing the possibilities.

Anyway, as a summary to the article regarding risk gone bad, in 2003 the government already knew about the issue, but due to partisan interests across the board, was unable to do anything:

History teaches that even the best minds in financial management cannot entirely eliminate 
risk. This was shown quite clearly by the severe difficulties encountered by Long-Term 
Capital Management several years ago. Nor do the GSE shareholders have the incentive to call 
for eliminating risk. The perception of a government bailout if things go wrong surely 
enhances any firm's willingness to take on risk and enjoy the associated increase in return. 
The savings and loan crisis of the 1980s illustrates the adverse incentive effects that can 
arise as a result of government guarantees. 

In an A Letter to Senator Obama by Tony Batman, he makes a very enlightening remark:

In other words, whatever you tax, you get less of; whatever you subsidize, you get more of.

The implication of this remark is that we need to somehow remove subsidies and come up with more creative mechansims for balancing the perceived inequalities in the market place.

Later in the same article, one possible solution is mentioned:

Increased taxes on the so-called 'rich' high income earners - and their businesses will affect the incomes 
of those who strive to move up from lower and middle classes to become high income earners!

In follow up to my mention of subsidy elimination a few paragraphs ago, another article mentiones that We Need Reagan + Friedman + Keynes. In summary, "during periods of crisis, sometimes you have to be a supply-sider (tax rates), sometimes a monetarist (Fed money supply), and sometimes a Keynesian (federal deficits).", ie, "Choose the best policies as put forth by the great economic philosophers without being too rigid."