Saturday, December 22, 2007

Subprime Disaster = Nasty Foolishness

In a small article within today's business section, it was stated: Singapore's state-owned government fund is mulling a $5 billion investment in Merrill Lynch , according to a report Friday, potentially providing the nation's biggest brokerage with badly needed cash amid billions of dollars in credit losses.

More and more chickens are flocking --- coming home to roost, cackling about the combination of extreme greed + recklessness + ideological "faith" --- that has come to be termed the subprime disaster.

Over two million Americans may lose their homes. CitiBank, one of our largest bank found itself in serious trouble. Reverberations have been felt in financial centers through the world. The U.S. government is trying to do something ( or appear to do something) to help the situation. The financial ripple effect culminated in a series of tsunamis.

Caveat Emptor! -- Let the Buyer Beware! Good advice but in the harried lives of many Americans -- especially the financially inept and hampered -- very difficult or impossible to manage.

These were the prey that mortgage brokers and lenders flocked to, then descended in a wild feeding frenzy --- signing uninformed lower income people -- into mortgages that that should not have been offered because they did not meet the qualifications.Actually quite a few could have received a less expensive prime mortgage because they did qualify; however, they were told they did not qualify so they would enter up signing up for a much more expensive subprime mortgage. Great for those delivering the money, but not in the interest of the client. Of course, the rules and regulations indiciate that these mortgage vultures should act responsibly and in the interest of their clients. How could anyone be so naive as to think this would really happen?

These unsavory and unwise loans were purchased by banks, sold and resold -- finally finding their way into the hands of investors---much farther up the food chain.

The problem was all the profits and prospective profits were like the proverbial house built on sand. The original customers who bought their dreamed of homes with many of these mortgages --- realized they could not meet their obligations. El Presidente Bush in a recent short speech made it clear that he did not want the greedy and/or foolish investors in these tainted goods to be damaged. (First things first.) And he certainly did not want home buyers so foolish to buy a home they could not afford to be excused. His plan will be of some help to the "more affluent " home buyers -- who got caught.

The brokers and lenders to the original buyers seemed to be able to ignore that the housing bubble had burst --- that one could no longer count on foreclosing on a house that had appreciated in value. In fact, the reverse was true. I know that in the SouthWest and in CA --- owners who tried to gain profit from selling their homes discovered that they had to ask less than they paid for them.

Another factor was that once the feeding frenzy began with the mortgage brokers and lenders --- other more cautions (or more principled) ones --- could not resist to be in "on the kill".

Now, it appears that one in four of these subprime homes deals with collapse ending in foreclosure. The greatest percentage since the Great Depression.

In a paper presented just before his death, Mr. Gramlich [a former Federal Reserve official] wrote that “the subprime market was the Wild West. Over half the mortgage loans were made by independent lenders without any federal supervision.” What he didn’t mention was that this was the way the laissez-faire ideologues ruling Washington — a group that very much included Mr. Greenspan — wanted it. They were and are men who believe that government is always the problem, never the solution, that regulation is always a bad thing. (from a Decembeer 7th, 2007 NY Times column by Princeton professor and economist, Paul Klugman)

As Barney Frank, the chairman of the House Financial Services Committee, put it in a recent op-ed article in The Boston Globe, the surge of subprime lending was a sort of “natural experiment” testing the theories of those who favor radical deregulation of financial markets. And the lessons, as Mr. Frank said, are clear: “To the extent that the system did work, it is because of prudential regulation and oversight. Where it was absent, the result was tragedy.” (same column as above)

I’ve written before about the way investors in securities backed by subprime loans were assured that they were buying AAA assets, only to suddenly find that what they really owned were junk bonds. This shock has produced a crisis of confidence in financial markets, which poses a serious threat to the economy. (above)

In the final analysis everyone (almost) was hurt: the duped low income home buyers; the investors who thought they had secured a worthwhile assets; the financial markets and those connected with them -- throughout the world. The nation, The United States of America, which was once respected by the rest of the world for the soundness of our economy and its financial institutions and regulations --- appears as a rather silly giant. And, this under the party of probity --- The GOP!

Yet, IMO, the most disgusting and depressing aspect of this monstrous mess ---involves the initial victims who were convinced to buy what they could not afford by those who should have explained the total picture and should have pointed out the dangers. You know these little people --- like the ones that are still waiting after two years to get back into their New Orlean homes --- only now to see them being demolished so that new apartments and homes can be built and rented or sold to those who can pay more.

Yet such loans were primarily offered to those least able to evaluate them. “Why are the most risky loan products sold to the least sophisticated borrowers?” Mr. Gramlich asked. “The question answers itself — the least sophisticated borrowers are probably duped into taking these products.” And “the predictable result was carnage.” (Krugman)

bob h