Last Friday, Treasury Secretary Timothy Geithner charged in a Wall Street Journal op-ed that those who oppose the Obama Administration’s regulatory regime for the financial services industry “seem to be suffering from amnesia about how close America came to complete financial collapse under the outdated regulatory system we had before Wall Street reform.” Au contraire, Secretary Geithner, it is you who choose to ignore and misrepresent the lessons of the financial crisis by perpetuating the myth that the source of the crisis was a lack of regulation.
First, your essay glosses over the central role the federal government played in creating the crisis. In particular, the government through Fannie Mae and Freddie Mac directed $5.2 trillion (that is trillion with a “t”) of capital to increase the supply of mortgages. In addition, it passed a law that required banks to make billions of dollars in loans to individuals that were unlikely to pay off the loans, in the end with 0% down.
In 1998, Fannie Mae announced it would purchase mortgages with only 3% down. And, in 2001, it offered a program that required no down payment at all. Between 2001 and 2004, subprime mortgages grew from $160 billion to $540 billion. And between 2005 and 2007, Fannie Mae’s acquisition of mortgages with less than 10% down almost tripled. These loans are now known as “subprime” and “alt A” loans. At the time they were made, Fannie Mae and Freddie Mac encouraged their issuance by lowering their standards and buying them up from the now vilified mortgage brokers, S&Ls, banks and Wall Street investment banks.
This activity was not due to a lack of regulation or oversight as you claim. Both companies are under the direct supervision of a federal regulator and Congress. At the time these loans were being purchased by these two Government Sponsored Enterprises, their actions were defended by many in Congress who, led by Senator Chris Dodd and Congressman Barney Frank, saw such reckless lending as a successful government initiative.
At the same time, the easy money policies of the Federal Open Market Committee, of which you were a voting member, were feeding an asset bubble in residential real estate, providing what proved to be an irresistible lure not only for speculators, but also for American families trying desperately to buy a house before inflation robbed them of their chance for home ownership.
Yes, mortgage brokers and banks encouraged reckless borrowing, though many who borrowed, with a little honest reflection, could have known that they would be unable to meet the financial obligation of paying the mortgage that they were using to buy a house that they could not afford. Nor does any of this excuse the poor judgment of those on Wall Street who levered their firms’ balance sheets so that even a 4% loss on their investments would leave them either bankrupt or in need of a bailout.
But, the culpability of those in the private sector should not be used to cover up or excuse the irresponsible behavior of those in the federal government. The self-regulatory check normally provided by markets on activities that are likely to lose money — lenders backing away — was simply blocked by the government’s intervention in the capital markets. As you must know, six top executives of Fannie Mae and Freddie Mac have been charged by the Securities and Exchange Commission with securities fraud for hiding the size of the purchases of low quality mortgages from the market.
In addition, the normal check on excessive leverage provided by unwilling lenders was overwhelmed by the perception, now validated, that Fannie Mae and Freddie Mac debt were backed by the full faith and credit of the federal government. This created a willing buyer backed by the federal government with unlimited access to credit markets and a trillion dollar budget. No wonder S&Ls and Wall Street found ways to satisfy the demand. Blaming a lack of regulation for the subsequent losses is political spin meant to cover up the greed and corruption on Pennsylvania Avenue that led to the crisis.
Second, your claim that increased regulatory oversight would have prevented the crisis requires a credulous belief in the wisdom and courage of those in power. Regulators with all of the necessary powers have failed in their most basic task of preventing fraud including Bernie Maddoff’s Ponzi scheme, and now the still unexplained disappearance of $1.6 billion of customer money at MF Global. Yet, you ask us to believe tens of thousands of pages of new regulations will somehow empower you and other elite public servants to prevent another financial crisis?
As we know now, you and the other members of the Federal Open Market Committee in 2006 did not grasp the implications of the then faltering housing market for the general economy or the health of the banking system. As a consequence, you and your colleagues did not use the powers you had to head off the financial crisis when there was still plenty of time to act. As former Prime Minister Tony Blair writes in his memoir, A Journey of My Political Life, an important contributor to the financial crisis was a failure “of understanding. We didn’t spot it…it wasn’t that we were powerless to prevent it even if we had seen it coming; it wasn’t a failure of regulation in the sense that we lacked the power to intervene. Had regulators said to the leaders that a huge crisis was about to break, we wouldn’t have said: There’s nothing we can do about it until we get more regulation through. We would have acted. But they didn’t say that.”
Third, the new regulatory regime for the financial industry created by the Dodd-Frank bill — ironically named after two of the perpetrators of the financial crisis — omits any reform of Fannie Mae and Freddie Mac. Yet, unlike the commercial and investment banks who have repaid the government bailout money, these two state sponsored financial giants have cost taxpayers more than $140 billion and are seeking billions more in bailout funds. At the same time, HUD is moving forward on issuing new rules that would support racial quotas for bank mortgages, which no doubt will again force banks to make loans to individuals who cannot afford them.
In light of this evidence and your own experience, your promise that a new, expansive regulatory regime reduces the risk of financial crisis is not credible. The regulatory maze created by Dodd-Frank not only robs the private sector of real resources that otherwise would be committed to allocating capital to credit worthy borrowers, it also undermines market skepticism essential to preventing systemic risk. In addition, it puts even more power in the hands of a few individuals who, like you, are fallible, rather than dispersing power among market participants.
You conclude your essay by writing: “We cannot afford to forget the lessons of the crisis and the damage it caused to millions of Americans. Amnesia is what causes financial crises.”
With all due respect Mr. Secretary, federal government policies, not amnesia, were at the heart of the financial crisis. The arrogance of power revealed by your selective memory and political spin, and the expansive regulatory regime you support are now the primary source of systemic risk to the US financial system and the economic security of the American people.
Charles Kadlec,for The Daily Reckoning
Mr. Kadlec is a member of the Economic Advisory Board of the American Principles Project, an author and founder of the Community of Liberty.
Ahh… Dodd/Frank. My coffee came through my nose thinking of that one. It’s sort of like letting Al Capone draft anti-gambling, anti-prostitution and anti-liquor laws.
You’ve said it all. We all know the emperor has no clothes, but even after pointing it out, nothing changes.
I’m always reminded of some of the oratory of my brilliant Jewish lecturer in corporations law:
“You cannot legislate people to be good!”
But you can legislate to enable revenue from fines and decline to prosecute those who you don’t want to or may have an interest in or connection with: your fellow lawmakers, etc
Back to gold standard that may handle most of the hanky panky merry go around.
so, the gvmnt forces banks to make loans which the banks do not want to make. They pay a salary plus bonuses and get bailed out for doing it anyway, and i still do not know what the cost per house was. Not to the bums/buyers but to the banks/gvmnt.
Seems simple add up number of houses sold divide by amount lost/earned. A plus minus ratio if you will.
“Nor does any of this excuse the poor judgment of those on Wall Street who levered their firms’ balance sheets so that even a 4% loss on their investments would leave them either bankrupt or in need of a bailout.”
Not “poor judgement” Mr. Kadlec, fraud, say it with me now, legally fraudulent behavior.
In fact, in the last three years the leading Wall Street institutions have been the defendant in over 27 major actions in civil court or before governmental regulatory bodies (and that’s literally just the major ones) charging them with fraud.
In not even ONE case have they been willing to contest the charge in court. In every case they have settled the claims involving tens of billions of dollars. Now of course these deals are the legal equivalent of “I didn’t steal the money, but I’ll give it back anyway”.
However, no one is fooled, except apparently Mr. Kadlec!
I am reading a great book, called “Unintended Consequences” by John Ross.
It seems that everything “all” government officials do have unintended consequences.
Or are they unintended?
And that is the sad point in all of this. We either don’t trust or don’t know whether to trust our elected officials anymore.
Well, the government selling debt and federal reserve buying it…Is this official corruption as well?
Geithner should walk around with a big advertising balloon tied to him bearing the message “WEASEL”
The ones that are contesting their cases are the Fannie and Freddie execs–their legal fees are being paid for by the American Taxpayers. Their lawyers have already billed us over $150 million dollars in legal fees and the delays to the proceedings just keep on coming…
Timmy did you pay your taxes. Letting Washington do anything honest makes me laugh. Hopfully a nuke will clean the vermin from Washington
Hey, banned, you conveniently overlook the harsh reality that the Fedeeral Government was the root cause of this economic disaster. It wasallto do with the Community Reinvestment Act..a Democratic Party boondoggle. But, the, no “leftie” could ever admit that the beloved government was at fault, even when the facts are out there for all, except the so called “progressives”, to see. It just the same old corrupt thinking all over again, and again. I suggest that you wake up, and smell the coffee, Banned!
Hey “banned”, get your head out of your arse and learn a thing or two!
While there was (and is) plenty of greed on Wall Street, this mess began in the halls of Congress, where the likes of waitress-sandwich scum like Chris Dodd and male prostitute-ring suck-up Barney Frank not only encouraged such behavior, they demanded it! And even after the dust has begun to settle more than 4 years later, we learn that such policies are not just continuing, they are flourishing thanks to the Tax-Cheat Treasurer of the United States!
So it seems to me, that other than Little Timmy, you’re the only one here that just does not get “it” at all!
No one told private banks and mortgage firms to cold call migrant workers. They did it for the commission checks.
But the real problem was the derivaties and packaged mortgages.Again,not freddie or fannie there either.
Senator Dudd and Rep Barney Google, two comic characters responsible for overseeing the housing and financial agencies. Except it was not a very comical situation when the allowed trillions of our tax dollars go into the pockets of friends, and the housing and financial agencies crying for bailout. It has been a shame and a disgrace, that companies were bailed out, yet still held the mortgages on the property, and the people trying to purchase the property lost everything. Tell me, is that the sort of country we have become? Why didn’t the government use the money spent on the bailout to take over the mortgages, and allow the mortagees a system of payments whereby they could keep their homes. That way, we would get our tax money back from the people buying the property, and the housing industry would be in much better shape than it is now.
surely geithner depends on the stupidity of the public to say these things.
In his defense, the nutless cowards on the right lack the eloquence to set the record straight. So, they deserved the blame for the clueless citizenry.
This is a very well written article and goes un-noticed by the general public because of the blamers-in-charge want to put the problem on wall street!! Some of the people think it was greed…..you know that home ownership was all pushed and promoted by the people in the government. I remember watching a congressional hearing where bwanny fwank told the Republicans to leave fannie mae and freddie mac alone and quit head hunting……..get this……they were all right and not a problem there….we see where that has ended up!!! The sad reality is, not everybody can own a house.
(an American Dream I know but some dreams are just that.!)
got to vote these thugs out of the White house this coming Nov election.Hey,they have sent this country to the bottom of the abyss
Some correct me if I am wrong, but did President George W. Bush saw the impeding financial crisis and tried to work with Congress to stem it off before it blew up but the Democrat Congress did not believe him or did not want to stop the crisis at all?
The article and the people in the comments section totally miss the cause of the crisis. The things pointed out are probably true but the cause of the crisis is the separation of the risk from the mortgages by the use of Swaps. Wall Street was packaging risk and selling it for a high yield. That meant that there was no risk (they thought) in a risky mortgage, therefore you didn’t need to worry about subprime or any of the things in the article. Also, since it was unregulated, no one knew that that risk on the same pool was re-packaged and re-sold many times increasing the leverage and thereby multiplying the risk. Since no one was keeping track of this, there were trillions of dollas of risk floating around on a much smaller amount of mortgages. It was called Casino Investing and it was, in effect, a Ponzi Scheme. Frontline did a very understandable progam on it.
The President at the time (George Bush), all his financial advisors including Paulson, the Democratic Leaders, the presidential cantidate, Obama, all the Democratic financial advisors and the Fed all agreed that the effect of having Lehman fail signaled that if others, which were about to fail, failed, then we had a very good chance of creating another world wide Great Depression. So the now hated TARP was necessary to stop that from happening and it did stop it. Now politicians are trying to re-write history for their own political purpose. If they really believe what they are saying, then it would be dangerous to have them in office.
for more on this criminal see tdarkcabalblogspot.com-he is in hot water.
Timmy Timmy Timmy – what a maroon
still waiting for Dodd to produce the hard copies of his country wide mortgage, promised by him.
Also, I still waiting for the (freddie and fannie are sound” videos of Barney Frank & company to be used in this presidential campaign. It was the missed election strategy that would have John McCain in the White House today.
Like U.S. isn’t bankrupt? Does Tim G. think Americans don’t remember the Senate saying last year ago that “We’re broke!?”
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