In retrospect (as the housing prices have mostly recovered: http://www.doctorhousingbubble.com/wp-content/uploads/2013/0... ), the hosing crisis can be seen as an irrational bubble, with the major problem being that the banks were under-capitalized for the risk they were taking on. After several years of injecting capital into the banks for several years, they are fine. Arguably the banks didn't worry about the risk because they trusted the government would help them out.
You're aware that those taxpayers actually got a very good deal, right? Roughly 10% return on investment, we effectively just invested public funds in good companies at cheap prices.
No, you bought after the crash. The relevant question is would you have sold an insurance policy before the crisis and been able to stay solvent through it.
I'm not saying that I bought before the crash, neither did the government. I literally did exactly what the government did; bought shares of banks and automotive companies after the crash, at severely reduced prices, and held for a substantial gain.
The government absolutely did not sell an insurance policy before the crash. Even if you're arguing that there was a guarantee that the banks would be bailed out, which argument has merit, the banks didn't pay for that guarantee.
We did it for different reasons (I won't pretend I was either magnanimous or delusional enough to think my investment by itself would buoy the stock price enough to keep the companies alive) but the actual actions are the same.
Edit: technically both the government and I bought during the crash rather than after; my ROI wishes I'd been better at calling the bottom, but that's life.
Buying stock was only a small part of what the government did for the finance industry. Guaranteeing money market funds, opening up the discount window, bailing out AIG and paying off counterparties at 100%, sinking $100B+ into Fannie and Freddie, etc.
The government had essentially given the finance industry an insurance policy before the crash that paid off during the crash. And you are right, they didn't have to pay for it in money, perhaps its possible to argue that they paid for it in regulation. If the firms had had to buy such a policy on the open market what would the price have been?
What result would have met your test for worked out? Gambling with taxpayers money is a pretty good description of the job of government (will this transportation system get used (consider Detroit's highway system)? Are we encouraging business the right way? Will this law reduce crime?)
Uncertainity about the usage of a hypothetical transportation system is qualitatively different than investing money to a company that has been mis-managed so badly it's going bankrupt.
so, military spending then, that's what i get. i ponied up actual cash which was lent to banks to cover them, but the return on those loans don't come back to me as actual cash. it goes to the federal budget, which is mostly military spending.
it would've been better if the financial sector hadn't fucked up. it would be better if the financial sector wasn't protected--with my money--when it tries to make itself a smoking ruin. it should be protecting itself.
You might want to look at a pie/donut chart of government spending. Mostly you got medic{are,aid} and social security. I think most people would agree that reducing the tax payer burden of those programs without reducing benefit is an objectively good thing.
I don't disagree that the financial system should strive to be better, but during a crisis is definitely not the time to make that happen.
i know, but the subject was the return on the investment from bailing out the banks, but that return went to the federal budget, and the bailing out came out of people's pockets. it isn't comparing like for like at all.
That article is a little deceptive. It is mainly tracking TARP, it doesn't track the money injected into banks by other methods (like the FED directly buying subprime loans and manipulating the market).
I totally disagree. The Fed isn't taxpayer's money (except maybe inasmuch as its actions effect the money supply).
When people talk about "tax payer dollars" they are talking about funds the federal government has gotten directly from the people through taxes. That is exactly what TARP was.
It ignores the whole cycle of leveraging and recycling that occured when weaponizing mortgage and asset backed securities into CDOs and insurance risk swaps. Sub-prime mortgages were the gasoline on that fire, they took what was perhaps a cabin burning in the woods and turned it into a 10,000 acre wildfire. With out sub-prime mortgages as an accelerator the who CDO mess burns out slowly and in when it starts burning the market moves away in a controlled manner.
To discount or even disconnect the sub-prime lenders from that fire is disingenuous at best in my opinion.
A lot of speculators were indeed left 'holding the bag', as it were, when the credit game collapsed and there were no more greater fools to sell to. But the reason there were no more such fools is that the lenders had scraped the bottom of the barrel, and there was no one left to lend to. There's no question that credit standards were loosened across the board, and it was possible for almost anyone to get a loan. For a while, foreclosure rates were low as long as it was possible to refi or sell your way out of a problem. Another thing that happened was a lot of people borrowed against rising equity and spent the money as if it were free cash, and found out the hard way later that it wasn't. And that's before we even get into the effects of fraud--underwriting fraud, appraisal fraud, fraudulent bond ratings, forged paper trails, and on and on. The bubble floated on an ocean of fraud. It was an unrestrained orgy of greed and criminality on every level.
I agree - especially this part of Dodson's comment:
"When sub-prime borrowers began to default in droves and the value of the private label MBS tumbled, investors also pulled away from the conventional MBS market as well, even though these borrowers continued to make their payments. However, with a short period the domino effect of defaulting mortgagors spread and then began the recession."
I've always viewed the housing crash as the result of the bottom falling out of the housing market. I don't know how common it is now, but in the early 2000s, it was very common for people to view homeownership as some sort of magic escalator to riches - one would buy a home, then basically be guaranteed to resell it for significantly more later, and the gains would be used to buy a more expensive home.
I went to a free "how to buy your first home" presentation around 2002, and this was exactly the model recommended by the people giving the presentation - people who worked in the home loan and real-estate field. Basically "buy the most expensive house you can possibly afford now, because you'll be making more money in a few years and what you think is an expensive monthly payment now will seem like nothing. Then you can resell your home and buy something even fancier."
Obviously, this depends upon a constant influx at the bottom of the "escalator", which is unsustainable because it's a pyramid scheme. The collapse of that pyramid is exactly what happened, IMO, and it wouldn't have been possible without the sub-prime lending.
"...but in the early 2000s, it was very common for people to view homeownership as some sort of magic escalator to riches - one would buy a home, then basically be guaranteed to resell it for significantly more later, and the gains would be used to buy a more expensive home..."
I'm not so sure that perception has changed. Sure, the magic escalator might be moving slower, but most people buy believing values are guaranteed to go up. Likely. But once you factor in the true total cost of the mortgage, taxes, repairs, etc. The profits are slim.
Kids might be a justification for home ownership. But most other favor the Homeownership Industrial Complex, as well as gov. Let's not forget Big Inc who love it when you're locked into a mortage.
> The collapse of that pyramid is exactly what happened, IMO, and it wouldn't have been possible without the sub-prime lending.
imho, housing prices would have declined sooner. The valuation of houses was already wacky in 2001 by many measures. For example, look at the price-to-rent:
In 2001, prices were already at the level of the 1989 real-estate bubble: Older folks will remember the savings and loan scandal, which was the result of the 1989 bubble collapsing. The Fed thought it needed to compensate for the internet bubble collapsing, which was a large contributor to the ensuing mess in housing.
It has to make us wonder: If compensating for the internet bubble lead to the housing bubble (and collapse), what will the result of compensating for the housing bubble be?
"By 2006 many property markets across the U.S. were destined for a serious correction. Property prices had become unsustainable in an environment of stagnant household incomes, employment insecurity, diminished household savings and a heavy reliance on credit card debt to meet everyday expenses. Interest rates would have had to fall to near zero to keep the bubble from bursting."
Lo and behold, our interest rates are basically zero... Sounds like the bubble hasn't quite burst yet.
This article has to be founded by some pro-banking group. The article completely misses the part where the ratings agencies were incapable of reviewing capitalized mortgage pools to rate them appropriately. Regardless of the balance of prime to sub-prime, the inherent falsehoods within the ratings returned from Moody's, Standard & Poor, and Fitch are what made our financial system "untrustworthy" and that's what led to the financial crisis.
Maybe ratings agencies would do their job and refuse to rate things they can't see into if they were actually competition in the ratings sector, instead of a monopoly by the three ratings agencies, enshrined into law with regulations.
Much of the ratings sector is for all intents and purposes impossible for any outside firm to compete in, because of government regulations that are supposed to ensure high quality ratings. As it happens, the ratings agencies have some of the highest profit margins in the market, which is a classic sign of lack of competition, and rent-seeking.
Funny you suggest market competition. In The Big Short movie, it's competition that the ratings agency rep played Melissa Leo cites to explain their corrupt ratings:
Georgia: If we don't give them the rating, they go to Moody's. Right down the street. If we don't work with them, they will go to our competitors. Not our fault. Simply the way the world works.
At the micro level, that could very well be, but at the macro level, competition for reputation should create a business interest in not giving out inaccurate ratings.
When the entire market is dominated by three agencies (two alone have 80% of the market), with the US government considering ratings given by them alone as sufficient for approval for certain listings, then regulatory management of the industry has effectively replaced reputational competition as the primary driver of quality.
I don't think you understand how this works in real life. I worked in the treasury department of a large bank 12 years ago and saw first hand...
1. mortgages are pooled, usually around 10,000 per pool.
2. the pool is divided up into tranches by the bank. This means that out of 10k loans, x% are supposedly AAA, y% are AA, and so on down to junk ratings (usually a small portion of the pool).
3. the bank has their treasury department "validate" the tranches, but this is really just "spot checking" and not fully investigating the details of every single mortgage and its associated paperwork
4. the bank sends the pool to the ratings agency
5. the ratings agency sends it back approved, never even spot checking whether the bank's review was accurate or not
6. the bank creates "securities" or "paper" based on the tranches
7. investment entities purchase the paper...this is usually municipal bonds and other organizations expecting the AAA rating to be a "guarantee" (though it's really a gamble)
So ... in 2008 when the financial industry figured out that years of securities with false AAA ratings had been sold throughout the world, well, we know what happened...
None of this has changed except they expect the banks to maintain enough cash to handle any wobbliness in the financial markets....but the core problems still exist and has nothing to do with prime or sub-prime mortgages....
It's about accurate and clear information and an industry that literally banks on the lack thereof...
This article is little more than an argument about semantics. Whether prime or subprime, the real culprit was mortgage-backed securities. At the height of the bubble, banks were merely underwriting loans and they couldn't sell them fast enough as MBSs/CDOs, a market of which was experiencing its own shadow bubble. Banks were basically shifting risk off of themselves.
When housing crashed (and subsequently the MBS bubble pop), banks like WaMu and Wachovia were left holding too many loans (prime and subprime) and no market to offload them, which quickly lead to their insolvency.
One thing I think is important not to lose sight of: the institutions went bust, but the people at the top who made the decisions that led to the problem all received and retained compensation in amounts that anyone hanging out here would consider "set for life." Tens of millions of dollars.
Having escaped prosecution and collected a "pension", the criminals who caused the problem are now trying to rewrite history in their favor, hence the article which will no doubt be the first of many more like it.
That has not been judged. In _The Chickenshit Club_ Jesse Eisinger argues that prosecutors are just cowards unwilling to take the reputation of losing a case so they simply refuse to go after cases with any small chance of losing.
The most common way that liability for fraud was offloaded was to have the bank purchase the service of validating loan applications from some willing schmuck.
That is, by law the originating institution is required to verify that the applications it processes meets some guidelines. Since the applications absolutely did not, and the bank was unwilling to lie about it itself, what they did was purchase the service of looking through the application from whoever who was willing to sign that the application meets requirements for the least amount of money, and over time picking the "institutions" that had the lowest denial rates (which of course trended to 0).
This way, the defense of the bankers was essentially: "We did not defraud our customers, instead our dastardly subcontractor did, and we had absolutely nothing to do with it."
However, I bet that a jury could be convinced that they had both sufficient information that they should have known that their subcontractors were fraudulently approving applications, and a duty to make this not happen. The ultimate reason why no heads rolled is that those heads are extraordinarily politically connected.
>The ultimate reason why no heads rolled is that those heads are extraordinarily politically connected.
This is probably very true
That said, in business, if someone is willing to put their signature on a dotted line, it isn't your job to remind them of its implications.
Personal example: a friend of mine sold his house recently. The HVAC system was suspected but not known to have a leak - it had lost about a pound of coolant in a month. The leak was suspected a few days before close. He got the HVAC refilled, told the technician to write "may have a small leak" in his report, and sent this report to the buyer. The buyer agreed to close the deal anyway. Morally, his job was to properly identify and fix the leak before selling the house. In reality, the buyer signed the dotted line given the information available to her. If the HVAC now needs repairs costing several thousand dollars, no judge is going to tell him to accept liability.
I don't think that example applies to this situation. In this case, the people doing the signing were hired by the banks to do it. The banks are surely responsible -- ethically, and probably legally -- for the actions of their agents, even if the only way they directed these people was by firing the ones who tried to act responsibly.
I used the personal example to elaborate on the idea that when you're transacting in business, you sometimes provide as little information as legally required. If the other party signs the dotted line, you are basically home free. I wasn't trying to make a point about contractors vs employee.
If I hire employees to sell my product, and those employees break the law to sell my product, even though I have policies in place saying they should NOT break the law. Am I liable for the actions of my employees?
Depends. If the message was like "yeah, don't break the law -- nudge nudge, wink wink -- and remember, we'll fire you if you don't approve enough applications", then yes, absolutely you're liable.
Indeed. And: How do you define criminal? In my mind it's someone doing something which is morally corrupt, which should be punished by the just. These guys by their reckless profiteering performed one of the largest stick ups in recent history yet walked away scot-free, having stolen from thousands of families on a grand scale that no petty "in the flesh" stick up criminal could.
Standing on the outside, it's very hard to see the laws as not being a massive inside job - the top tier looking after the top tier of society.
I don't understand how this myth persists. Of course they broke laws. Do you think Goldman Sachs would have paid out a 5 billion dollar settlement if they thought they could win in a courtroom?.. of course not.
The problem isn't that they didn't break laws.. it's the justice department's fault for accepting cash settlements instead of actually taking people to trial and holding them accountable. The criminals always win in this scenario because nobody goes to jail, the fines are less than the profit, and there are no lessons to be learned other than to not get caught.
Matt Taibbi does a really good job of examining this shift in the Justice Department's strategy in his book The Divide: American Injustice in the Age of the Wealth Gap, which I recommend if this is a subject you are interested in.
The reason in many cases they accept fines instead of jail time is because it is very hard to pin the actions of large corporations on any one person.
What is one specific law that one of these executives broke? I have yet to see anyone specify what law they broke.
Just like the Wells Fargo CEO, bad incentives are not illegal. He didn't personally break any laws or illegally sign anyone up for an account without their knowledge. He may have even known that a bunch of their accounts were fake, but there is no evidence he had any knowledge of specific accounts.
It's very unpopular to say this but I think it's important not to make assumptions about bankers' actions before the crisis. Many people and bankers expected house prices to continue appreciating and made decisions based on that assumption:
https://www.russellsage.org/sites/all/files/Rethinking-Finan...
And nevermind the fact that the economy would grind to a halt for decades while that allegedly more capable group figured things out? That sounds like a Great Leap Forward in economics.
Or let them die and spend our efforts helping main street instead of Wall Street. Of course that would require a shift of priorities away from saving those who caused the mess.
People forget that the skilled workers, intellectual property, plants, etc will continue to exist. What goes away is the jobs of some execs and some shareholder value, but new jobs and new shareholder value are created from the useful bits that remain.
The priority seems to be keeping firms solvent in spite of horrible stupidity and decades of rent seeking behavior.
This isn't capitalism it's a game that lets the powerful win over and over again. True capitalism has firm failure and creative destruction.
Whoa there, a lot more went away than 'some shareholder value'. If you put your 40 years in pushing papers, maxed out your Roth IRA and 401k contributions in that wonderful glorious year of 2008 - that went away.
Those people who previously had signed for an ARM with a lender[0] to purchase a home (for which likely had no income to justify a mortgage), when that rate shot up after that introductory term expired-- they certainly lost more than just "some exec jobs".[1]
"the useful bits that remain." Yeah, a bunch of well-financed speculators will buy those foreclosed properties for pennies on the dollar and profit from the other end of that as well. And don't forget, for every dollar that was long on a swap, someone was short and made a damn killing. It's not like that those 30 year US notes were bought back by the government to decrease USD circulation.[2]
I'm right there with you though on your second and third assertions. (Though, on an optimistic note, more companies seem to be side-stepping the standard monopolistic 'approach the standard set of IBs to underwrite your IPO and give them 6% since they're the only ones who have the Rolodex to call up John, his old buddy from Wharton, or Grant his golfing buddy')
====
[0] And let's not forget, banks around the world fixed LIBOR for years to fatten up their bonus. There are the equivalent of IRC chats admitted to evidence from a whistle-blower (immunity for amnesty) where Trader A would say "can you plz make sure that __ doesn't go above __ for 2 days? ive got <a position worth about 300 million USD> in <some ISDA product> deep, it'd rly help.. if you can make this work I'll get you whatever you need 50k..100k". (It's been a while since I read the transcripts, but that's the lexicon in which they spoke, and how the transactions were structured internally amongst what amounts to a group of ~100 people. With more or less complete control for the overnight rates for the entire world, they were gaming the system at magnitude so large where kickbacks between other agents would treat 50k and 100k EUR as interchangable.)
[1] Basically every single person from the buyer, to the broker at the local bank who altered the risk profile so he could post more loans for his $500 closing bonus, to the broker who locked the loans and bundled them up into CDOs for vast amounts, to every quant with a PhD and a seat at ISDA who concocted tranching MBS', to every trader who made a risky trade -- until the house of cards fell -- was at fault. Some certainly harmed more than others.
So you are justifying corporate welfare because it helps the little guy. Insert laugh cry emoji here.
The idea of the economy grinding to a halt is a straw man. Assets sold at a discount are typically snatched up. What is "lost" is just the profits that were earned via a bad risk management strategy. We should not incentivize firms to be sloppy about risk, ever.
Vibrant firm failure and rebuilding is a better health indicator for an economy than state-backed crony corps claiming solid profits year after year.
I agree. But not to parse words but the risk wasn't mismanaged. They knew that worst case they'd get bailed out. From their POV the risk was close to zero. Not only that, there was zero legal follow up. It's not difficult to figure out who is really running shit.
Since 2008 I've read multiple articles - perhaps some even here - that attributed an increase in deaths to that crash. How does that factor in?
They were highly compensated exectives who knowingly played Russian roulette with the world economy. Yet were never prosecuted? And in the end we "lost" a major bank so the power further concentrated.
Right. Industry and regulators team up to take from society by imposing a weak regulatory framework and then acting surprised when we hit a bump in the road and it falls apart.
Capitalism only makes sense when the big guys are allowed to fail and fail big.
If they had been allowed to, smarter people would have bought up the bits that had value and likely done much more with them to benefit society.
Not sure why I'm getting downvotes. Why should legacy automakers get bailed out when there are people like Musk who could have raised money to take over a big swath of the industry.
The status quo is so full of entrenched rent seeking, which is probably why it got saved.
Same with banks. Why should a startup like bank simple fail after being deluged by regulatory obstacles, yet the firms doing things the bad old way get bailed out over and over?
Capitalism without firm failure is much more like fascism than anything else.
I agree, the article is highly misleading because it leaves this out and tries to take the lenders off the hook.
>Nobody was predicting a Great Recession.
But Econ 101 says there will always be a recession at some point. Once prices started skyrocketing far above the historically-sustainable levels, the lenders knew they were going to crash at some point, and so they should have cut back on lending.
They didn't because they had used securitization to lay their risk off on suckers around the world. And that in turn made the recession far worse than it would have been otherwise.
Professor Ferreira seems to be ignorant of the banking mechanisms involved. There is a direct link between sub-prime loan underwriting and prime loan underwriting:
1. Mortgage loans are packaged by retail banks into blocks of loans. These banks need to be able to sell them on to Wall Street investors if the retail banks are to continue to writing more mortgages without breaking their limits.
2. In a block of loans, it is not known who will default, so using a special financial contract (a CDO) an investor can 'buy the first 10 defaulting loans', say, in the block. In return they get a fat coupon, and of course, they pray no-one does default. These risky loan-block 'slices' (or 'tranches') are called subprime.
3. What remains in the block are less risky slices, called prime.
4. It's easy to get investors to buy the prime debt, because it's almost risk free money, especially to institutional players. So limit to lending had always been 'who wants to buy the shit at the bottom', the subprime debt.
5. Ratings agencies colluded with banks to mislead investors about the riskiness of the subprime tranches. They marked the debt as AAA when it should have been far lower. Investors across the world trusted the ratings agencies, so these AAA securities with fat coupons flew off the shelves into funds that were managed by semi-corrupt custodians who were getting paid short-term bonuses. Banks in Iceland, Germany, Greece, etc.
6. Because the hardest to shift debt was no longer hard to shift, the mortgage lenders sought more people to write mortgages for, and they lowered their lending standards across the board. Whether they lent to high credit scoring individuals or not, they impaired their own lending standards by leveraging people beyond their means. This leverage is why the housing bubble's bursting caused such a country-wide crisis.
7. The Professor seems to think subprime lending refers to lending between the bank and the low credit grade home buyers. However, when we say the housing crisis was caused by sub-prime lenders, we are talking about the institutional players who defrauded investors about the riskiness of these subprime CDO tranches, since this was the root cause of excessive lending to all levels of home buyer.
This is just wrong. Individual mortgages, not just tranches of mortgage-linked liabilities, are considered prime or subprime [0].
At some point, holders of subprime mortgages began to default more than lenders' models predicted, either because the models were unintentionally wrong or because they were fraudulent, and there's a huge grey area where they could be a little of both.
He misused the terminology but basically got it right. The originator of the loan (your local bank is probably just a broker, who is acting as an intermediary for a wholesale vendor) then sells it to a REMIC[1]. It's tranched by the REMIC and sold off to institutional investors. These were properly labeled as mortgage backed securities[2] for residential real estate. This is all by the book, mind you. At least that's how it was conventionally done. If our housing market crashed with this system in place, we would have seen a hit but it wouldn't have affected things nearly as badly. It became 'systemic' when bankers decided to trade 'synthetic CDOs' in volume[3].
[1] https://en.wikipedia.org/wiki/Real_estate_mortgage_investmen... - [For context, Freddie Mac/Fannie Mac were REMICs] So what OP meant when he said "prime / subprime" was a misuse of terminology, but if he replaces 'prime' with 'AAA' and sub-prime with 'BBB and Residual' -- he's more or less on the mark there.
But they're not necessarily going to receive a AAA credit rating. Which means they will be eschewed by pension funds, sovereign wealth funds and anything systemic. The worst of the worst will get the junk rating and will vie for their little corner of the market, competing for speculative money with oil fracking companies, emerging market bonds and other similarly-priced risky debt.
The investment-grade rating is what opened the big money floodgates.
It's a fairly small sector of the market. Monthly average mortgage origination in 2016 were $158B. That article talks about $16B in MBS. That's not nothing, but it is a small section of the market. The government has dominated the mortgage market since the crash and via that indirectly exerts a lot of control over the housing market.
For example, it is the GSE's requirement that mortgagees in nominally 100 year flood plains carry flood insurance and that NFIP, despite its outdated maps and low policy maximums, is sufficient. If the mortgages were mostly held by private lenders its likely they would require properly underwritten flood policies to at least the full value of the mortgage.
It's important to point it out because media blamed "poor people taking out loans they can not afford". This message shifted the blame away from the real problem.
It is important to hear information from different sources. I certainly didn't hear a single unified media voice on this (or any other topic, for that matter).
> Banks were basically shifting risk off of themselves.
FDIC means that banks are not held responsible for losing depositor money, and depositors no longer pay attention to how risky the bank's financial practices are.
The FDIC provides insurance which is paid by the member banks. They're held responsible in the same sense that individuals who pay car insurance are held responsible in car accidents. It's in their best interest not to lose deposits, at least as far as the FDIC is concerned.
When was the last time you or anyone you know checked the solvency or the soundness of the financial practices of the bank your checking account it in?
I'm betting on "never". I haven't either.
This wasn't true before the FDIC. Banks tried to project an image of conservative solidarity. They don't bother with that anymore.
Can you point to where the FDIC as an institution is responsible for this? The primary banking crises of my lifetime were the S&L in 1980 and the 2008 bailouts, neither of involved the FDIC. In the S&L crises, the responsibilities of the FSLIC (which were responsible for insuring the S&Ls) were transferred to the FDIC, and FDIC banks ended up contributing into the bailout, but I would have a hard time seeing the FDIC (as opposed to the FSLIC) as a direct cause of the S&L crises.
As for "solvency", I frankly do take into account bank reputation (admittedly as a proxy for solvency or soundness) when opening an account. I also know the difference between a credit union, a bank, and a savings and loan company, and other financial services companies. I know the regulations between these differ. I also know that the regulations of accredited banks (as opposed to other financial institutions) are pretty stringent and don't allow them to hand out loans of the type that played a role in the 2008 crisis. One of the reasons these crises happened in the S&L and mortgage industries was because the regulations that covered those particular instruments and institutions weren't as stringent as the banks.
It's easy and understandable to conflate banks and other financial institutions because often they're inter-related, but they are separate, and to really understand what happened requires taking these differences into account.
Please don't read this as some sort of apologia for the financial industry: it's not. In my opinion there are systemic problems. I do take issue with landing this at the feet of the FDIC.
> Can you point to where the FDIC as an institution is responsible for this?
The most obvious is to look at bank buildings built before the FDIC and after. Before they were massive stone edifices with spectacular vault doors inside very visible to the customers.
Churches have undergone similar changes in architecture. The local roller rink is now a church. I included a lot more in my comments which is more substantial. If this is what you're going to continue with, it's hard to imagine the conversation is likely to improve. Best wishes and I hope you enjoy the rest of your day.
Very few monumental churches were built in the US. The monumental ones in Europe date from eras where the church was able to forcibly extract funds to build them - not volunteer donations.
As a proxy for soundness isn't the same thing as soundness. Consider that none of a modern banks promotional/marketing materials say anything about soundness. Customers don't care about that because of FDIC.
It says all the loans were unsafe - that the housing price dropped so much making a distinction between prime and subprime loans was semantic. Your thesis might still be true if the market wouldn't have collapsed without subprime loans driving it higher, but that's not the mood I remember. We would have overshot anyway I believe.
A lesser known but major contributor to the financial crisis is the commercial real estate market. As far as I know, Lehman went bust because of their massive commercial morgage position, that Fuld accumulated in 2007, trying to catch a falling knife. And commercial real estate blew major holes in balance sheets all over the place.
Indeed. The economy could have easily dealt with a few banks failing---if the central banks would have kept nGDP up.
Australia, and even more Israel, barely noticed the Great Depression. Britain also did much better than American and the Euro area, thanks to a competent reaction by the Bank of England.
The article points to the FDIC and the misalignment of incentives it creates when it is combined with small undiversified banks, as the primary cause of the crisis. The note on the central bank's monetary policy relates to the Great Depression, not the 2008 crash.
You are right. I was interpreting things a bit more liberally: the housing crisis and banking crash would have stayed relatively small, if the Great Recession wouldn't have started:
At some point nGDP started to fall, giving the housing market and banks more trouble.
The article just states the flippers were "those with credit scores in the middle and top of the credit score distribution", not necessarily wealthy.
A wealthy flipper, e.g. a value-add REIT, would not generate as much debt in the first place (as they can just utilize their own bank account) and would be less likely to default en masse since they have spare cash and can wait out the downturn in the markets.
The Toronto housing market is starting to crash now. That leaves just 3 housing markets that kept walking on water after the crash - Australia, Sweden, and Norway. Tick tock.
Not likely. The Toronto housing market saw its laws changed at the end of April. The market has lost some confidence because of that, but it is likely to only be temporary. Once buyer confidence is restored, it will be business as usual.
Vancouver's market also "crashed" in mid-2016[1] after their new – similar to Ontario's – laws came into effect. Six months later, after buyer confidence came back, an all-time record high was set.
Knowledge@Wharton: Because of the way the economy was going back then, people were feeling much better, there was more money, jobs were better, salaries were better. So people had that money to basically throw around.
Ferreira: It’s like today. If you ask me today who is getting more loans, riskier borrowers or the middle class, [it’s] the middle class that sees a market that’s stable, that had jobs for the past five, six years, people that were able to save for their down payment — they are the ones getting earlier into this market.
It's been almost 10 years already. That is decently long compared to bubbles of years passed. We average about one per decade.
I think it makes sense. Lenders have a never ending impetus from Wall St to grow revenue and profit.
When all of the rich and moneyed people (13.5m people in the USA are millionaires) have already taken on loans, who do you go to next?
It becomes a cycle of just digging deeper and deeper into the question of "how do we sell this large capital asset to someone who barely has the ability to pay it back in the next 30 years".
Eventually, small economic cracks (sub prime defaults) lead to medium economic cracks (minor layoffs) which eventually, if the hysteria is massive enough, lead to massive economic cracks (major layoffs, shutting down business arms, pull backs in investment)
Eventually the govt is expected by market actors to become a lender of last resort, the dust settles, assets are repo'd, and over time...
... the cycle begins anew.
So, keep an eye out for the cracks that may be forming right now. Soon there will be another Lehman, another Enron, another Oil Crisis, another speculative bubble bursting due to credit on credit on credit on credit.
I suspect not, at least not in terms of a mortgage loan/housing bubble collapse. What is more worrying is a seeming disconnect between the stock market and the rest of the economy. The "middle class that sees a market that’s stable, that had jobs for the past five, six years" has been shrinking for many decades.
Housing is up as well, yes. Based on what? The broader economy is likely worse now than circa 2007. Relatively perhaps we're not as far off as we think.
The true state of the economy is the elephant in the room. Let's face it, the lack of confidence helped elect Trump. We're still warring like it's a national pastime. That's money we don't have.
If it wasn't for historically ultra cheap energy (from fracking) things would be pretty ugly right now. Maybe there isn't a new bubble? But only because we never really recovered from 2008?
It won't be a repeat. You could argue that there are massive imbalances in the economy, but certainly they'll unleash a different kind of economic mayhem if they go awry. Also, I doubt that it's soon, and I don't think Ferreira was arguing that.
"It was a new type of lending focusing on riskier borrowers who didn’t have money for the standard 20% down payment, who didn’t have a history of stable employment, or who didn’t have a high enough credit score to apply for conventional standard loans, so-called “prime” loans. Lenders became quite creative in terms of finding ways to provide loans to those individuals, to those families."
We bought a house in late 2006/early 2007. We had money for 20% down; a history of stable, highly paid employment; and a pair of high credit scores. We had to twist the goddamn lender's arm to get a standard, non-whacked-ass "creative" loan.
It was obvious in mid-2005 that they were writing unsustainable loans. It was obvious that as soon as the business cycle had any kind of hiccup, the wheels were going to start coming off.
"Ferreira: Yes. Let’s split the housing market into four major components. There’s the prime sector. That’s always around 60% of the market. That’s the bulk of the mortgage market. There are the governmental loans — HUD, FHA and VA — which are about 10% to 15% of the market. Then there’s sub-prime. Sub-prime started in the mid-1990s with about 5% to 10% of the market. And that increased to 20% — big, but a third the size of the prime sector. And then you have all-cash transactions: investors or wealthy people. And that’s about 10% of the market. So during the whole time period, even at the height of the housing boom, sub-prime was never more than 20% of the market. And the prime sector was 60% or more and increasing."
The sub-prime market was, as expected, the first up against the wall when the wheels started coming off. And the result was that 20% of the market, rather than 5-10%, were forced to sell quickly or be foreclosed. 20% of the market is going to have a bigger effect on overall prices than 5-10%.
On the other hand, that doesn't let prime lenders off the hook, since everyone was pushing bigger loans that overextended more borrowers, as in, "[T]he phenomenon was widespread. It was not concentrated solely on the sub-prime sector."
But this is where Ferriera starts going off the rails.
"More equity helps. Having a higher down payment helps."
No, having lower payments helps. It doesn't matter whether you've got 20% or 0% if you physically cannot make the payments. Lenders were writing loans that overextended borrowers.
"So around 2008 and 2009, in certain markets, you had about 10% to 20% of the stock of homes being foreclosed. Those markets were the weaker markets, such as inland California, areas like Fresno and Modesto, or smaller markets in Florida, for example."
I seem to recall it being the stronger markets, like Las Vegas. But anyway...
"Knowledge@Wharton: [...] I guess, in some respects, then, we still don’t have a full, true understanding about housing cycles and how they affect the markets, or the potential of the U.S. having another bubble down the road."
We may not have a full understanding, but we do have, and did have, enough of an understanding that you cannot lend more money to people than they can be expected to pay back. It makes no sense to frame the issue as prime vs. sub-prime or wealthy vs. poor. It was purely a case of lenders not doing their jobs. So, then:
"Ferreira: Unfortunately, I don’t think so. Let me give you an example about lenders. Lenders got all the blame, especially sub-prime lenders, for the crisis. So what’s happening right now in this recovery? Are we giving thank-yous to the lenders because perhaps they’re helping with the recovery? Absolutely not."
And rightfully so! Lenders deserved the blame. And then they didn't "[help] with the recovery"; they stopped making loans at all.
We all can agree that lenders did loosen their criterion -- but why? They did so because legislator and judges were criticizing them for refusing sub-prime loans. The government said, hey, you're not giving enough loans to minorities who dominate the sub-prime population.
Reading HN version of the events is live stepping into alternative reality. Just for the fun of it I did Ctrl-F for a word "conforming" and it was nowhere to be found in the comments.
Subprime is irrelevant. Prime is irrelevant. The only thing that was relevant was conforming vs. non-conforming loans. Non-conforming loans started the fall ( oh, and nearly all subprime loans were non-conforming but that's not that relevant as the total amount of money in subprime non-conforming was just not that high compared to the amount of money in prime non-conforming ) because conforming loans were sold to F&F and removed from the books. Originating conforming just did not may that much which is why it was difficult to get them while a barely walking corpse could get NINJA 3/1 loan with a payment lower than the APR and a balloon at 5 years.
And it was not the CDOs that mattered. It was CDS that did not trigger when the underlying collapsed. That was fraud. Fraud that the treasury secretary at the time oversaw.
It was fraud that Goldman became a bank to get the protection of US Government and was allowed not to behave like a bank, etc, etc, etc.
115 comments
[ 4.8 ms ] story [ 179 ms ] threadThis is euphemistic for the banks stealing money from taxpayers through crony capitalism.
https://projects.propublica.org/bailout/
The government absolutely did not sell an insurance policy before the crash. Even if you're arguing that there was a guarantee that the banks would be bailed out, which argument has merit, the banks didn't pay for that guarantee.
We did it for different reasons (I won't pretend I was either magnanimous or delusional enough to think my investment by itself would buoy the stock price enough to keep the companies alive) but the actual actions are the same.
Edit: technically both the government and I bought during the crash rather than after; my ROI wishes I'd been better at calling the bottom, but that's life.
The government had essentially given the finance industry an insurance policy before the crash that paid off during the crash. And you are right, they didn't have to pay for it in money, perhaps its possible to argue that they paid for it in regulation. If the firms had had to buy such a policy on the open market what would the price have been?
(2) Even if it had, "it worked out" isn't a good justification for gambling with taxpayer money.
And as a nice sweetner, you got a financial system which isn't a smoking ruin.
it would've been better if the financial sector hadn't fucked up. it would be better if the financial sector wasn't protected--with my money--when it tries to make itself a smoking ruin. it should be protecting itself.
I don't disagree that the financial system should strive to be better, but during a crisis is definitely not the time to make that happen.
https://www.cbo.gov/sites/default/files/cbofiles/images/pubs...
http://www.zerohedge.com/sites/default/files/images/user5/im...
When people talk about "tax payer dollars" they are talking about funds the federal government has gotten directly from the people through taxes. That is exactly what TARP was.
Even QE, which is not a direct bailout but certainly helped banks' profits, was substantially profitable for the treasury the last I heard.
(edit) Let me add, I was no fan of the bail-outs when they happened. But I can't deny they were, in retrospect, really profitable.
To discount or even disconnect the sub-prime lenders from that fire is disingenuous at best in my opinion.
If you haven't seen The Big Short, it's still on Netflix.
"When sub-prime borrowers began to default in droves and the value of the private label MBS tumbled, investors also pulled away from the conventional MBS market as well, even though these borrowers continued to make their payments. However, with a short period the domino effect of defaulting mortgagors spread and then began the recession."
I've always viewed the housing crash as the result of the bottom falling out of the housing market. I don't know how common it is now, but in the early 2000s, it was very common for people to view homeownership as some sort of magic escalator to riches - one would buy a home, then basically be guaranteed to resell it for significantly more later, and the gains would be used to buy a more expensive home.
I went to a free "how to buy your first home" presentation around 2002, and this was exactly the model recommended by the people giving the presentation - people who worked in the home loan and real-estate field. Basically "buy the most expensive house you can possibly afford now, because you'll be making more money in a few years and what you think is an expensive monthly payment now will seem like nothing. Then you can resell your home and buy something even fancier."
Obviously, this depends upon a constant influx at the bottom of the "escalator", which is unsustainable because it's a pyramid scheme. The collapse of that pyramid is exactly what happened, IMO, and it wouldn't have been possible without the sub-prime lending.
I'm not so sure that perception has changed. Sure, the magic escalator might be moving slower, but most people buy believing values are guaranteed to go up. Likely. But once you factor in the true total cost of the mortgage, taxes, repairs, etc. The profits are slim.
Kids might be a justification for home ownership. But most other favor the Homeownership Industrial Complex, as well as gov. Let's not forget Big Inc who love it when you're locked into a mortage.
imho, housing prices would have declined sooner. The valuation of houses was already wacky in 2001 by many measures. For example, look at the price-to-rent:
https://3.bp.blogspot.com/-GVhHsBNhPfE/WP-6gJXNhTI/AAAAAAAAq...
In 2001, prices were already at the level of the 1989 real-estate bubble: Older folks will remember the savings and loan scandal, which was the result of the 1989 bubble collapsing. The Fed thought it needed to compensate for the internet bubble collapsing, which was a large contributor to the ensuing mess in housing.
It has to make us wonder: If compensating for the internet bubble lead to the housing bubble (and collapse), what will the result of compensating for the housing bubble be?
"By 2006 many property markets across the U.S. were destined for a serious correction. Property prices had become unsustainable in an environment of stagnant household incomes, employment insecurity, diminished household savings and a heavy reliance on credit card debt to meet everyday expenses. Interest rates would have had to fall to near zero to keep the bubble from bursting."
Lo and behold, our interest rates are basically zero... Sounds like the bubble hasn't quite burst yet.
Much of the ratings sector is for all intents and purposes impossible for any outside firm to compete in, because of government regulations that are supposed to ensure high quality ratings. As it happens, the ratings agencies have some of the highest profit margins in the market, which is a classic sign of lack of competition, and rent-seeking.
Georgia: If we don't give them the rating, they go to Moody's. Right down the street. If we don't work with them, they will go to our competitors. Not our fault. Simply the way the world works.
Vinnie: Holy shit.
Georgia: Yes, now you see. And I never said that.
https://www.youtube.com/watch?v=mwdo17GT6sg&feature=youtu.be...
When the entire market is dominated by three agencies (two alone have 80% of the market), with the US government considering ratings given by them alone as sufficient for approval for certain listings, then regulatory management of the industry has effectively replaced reputational competition as the primary driver of quality.
1. mortgages are pooled, usually around 10,000 per pool.
2. the pool is divided up into tranches by the bank. This means that out of 10k loans, x% are supposedly AAA, y% are AA, and so on down to junk ratings (usually a small portion of the pool).
3. the bank has their treasury department "validate" the tranches, but this is really just "spot checking" and not fully investigating the details of every single mortgage and its associated paperwork
4. the bank sends the pool to the ratings agency
5. the ratings agency sends it back approved, never even spot checking whether the bank's review was accurate or not
6. the bank creates "securities" or "paper" based on the tranches
7. investment entities purchase the paper...this is usually municipal bonds and other organizations expecting the AAA rating to be a "guarantee" (though it's really a gamble)
So ... in 2008 when the financial industry figured out that years of securities with false AAA ratings had been sold throughout the world, well, we know what happened...
None of this has changed except they expect the banks to maintain enough cash to handle any wobbliness in the financial markets....but the core problems still exist and has nothing to do with prime or sub-prime mortgages....
It's about accurate and clear information and an industry that literally banks on the lack thereof...
When housing crashed (and subsequently the MBS bubble pop), banks like WaMu and Wachovia were left holding too many loans (prime and subprime) and no market to offload them, which quickly lead to their insolvency.
To cite but one example: http://www.foxnews.com/story/2008/09/26/wamu-gives-new-ceo-m...
http://www.npr.org/2017/07/11/536642560/is-the-justice-depar...
The most common way that liability for fraud was offloaded was to have the bank purchase the service of validating loan applications from some willing schmuck.
That is, by law the originating institution is required to verify that the applications it processes meets some guidelines. Since the applications absolutely did not, and the bank was unwilling to lie about it itself, what they did was purchase the service of looking through the application from whoever who was willing to sign that the application meets requirements for the least amount of money, and over time picking the "institutions" that had the lowest denial rates (which of course trended to 0).
This way, the defense of the bankers was essentially: "We did not defraud our customers, instead our dastardly subcontractor did, and we had absolutely nothing to do with it."
However, I bet that a jury could be convinced that they had both sufficient information that they should have known that their subcontractors were fraudulently approving applications, and a duty to make this not happen. The ultimate reason why no heads rolled is that those heads are extraordinarily politically connected.
This is probably very true
That said, in business, if someone is willing to put their signature on a dotted line, it isn't your job to remind them of its implications.
Personal example: a friend of mine sold his house recently. The HVAC system was suspected but not known to have a leak - it had lost about a pound of coolant in a month. The leak was suspected a few days before close. He got the HVAC refilled, told the technician to write "may have a small leak" in his report, and sent this report to the buyer. The buyer agreed to close the deal anyway. Morally, his job was to properly identify and fix the leak before selling the house. In reality, the buyer signed the dotted line given the information available to her. If the HVAC now needs repairs costing several thousand dollars, no judge is going to tell him to accept liability.
Standing on the outside, it's very hard to see the laws as not being a massive inside job - the top tier looking after the top tier of society.
The problem isn't that they didn't break laws.. it's the justice department's fault for accepting cash settlements instead of actually taking people to trial and holding them accountable. The criminals always win in this scenario because nobody goes to jail, the fines are less than the profit, and there are no lessons to be learned other than to not get caught.
Matt Taibbi does a really good job of examining this shift in the Justice Department's strategy in his book The Divide: American Injustice in the Age of the Wealth Gap, which I recommend if this is a subject you are interested in.
What is one specific law that one of these executives broke? I have yet to see anyone specify what law they broke.
Just like the Wells Fargo CEO, bad incentives are not illegal. He didn't personally break any laws or illegally sign anyone up for an account without their knowledge. He may have even known that a bunch of their accounts were fake, but there is no evidence he had any knowledge of specific accounts.
Good work if you can get it.
Also, taxpayers made a profit on the bank bailouts. The bailouts that cost taxpayers a lot money were of GM and Chrysler: https://www.thebalance.com/auto-industry-bailout-gm-ford-chr... Wikipedia has details on TARP, the ProPublica page I usually cite for the return on bank bailouts is down: https://en.wikipedia.org/wiki/Troubled_Asset_Relief_Program
The priority seems to be keeping firms solvent in spite of horrible stupidity and decades of rent seeking behavior.
This isn't capitalism it's a game that lets the powerful win over and over again. True capitalism has firm failure and creative destruction.
"the useful bits that remain." Yeah, a bunch of well-financed speculators will buy those foreclosed properties for pennies on the dollar and profit from the other end of that as well. And don't forget, for every dollar that was long on a swap, someone was short and made a damn killing. It's not like that those 30 year US notes were bought back by the government to decrease USD circulation.[2]
I'm right there with you though on your second and third assertions. (Though, on an optimistic note, more companies seem to be side-stepping the standard monopolistic 'approach the standard set of IBs to underwrite your IPO and give them 6% since they're the only ones who have the Rolodex to call up John, his old buddy from Wharton, or Grant his golfing buddy')
====
[0] And let's not forget, banks around the world fixed LIBOR for years to fatten up their bonus. There are the equivalent of IRC chats admitted to evidence from a whistle-blower (immunity for amnesty) where Trader A would say "can you plz make sure that __ doesn't go above __ for 2 days? ive got <a position worth about 300 million USD> in <some ISDA product> deep, it'd rly help.. if you can make this work I'll get you whatever you need 50k..100k". (It's been a while since I read the transcripts, but that's the lexicon in which they spoke, and how the transactions were structured internally amongst what amounts to a group of ~100 people. With more or less complete control for the overnight rates for the entire world, they were gaming the system at magnitude so large where kickbacks between other agents would treat 50k and 100k EUR as interchangable.)
[1] Basically every single person from the buyer, to the broker at the local bank who altered the risk profile so he could post more loans for his $500 closing bonus, to the broker who locked the loans and bundled them up into CDOs for vast amounts, to every quant with a PhD and a seat at ISDA who concocted tranching MBS', to every trader who made a risky trade -- until the house of cards fell -- was at fault. Some certainly harmed more than others.
[2] https://fred.stlouisfed.org/series/WCURCIR I think that's M2, but par for the course
The idea of the economy grinding to a halt is a straw man. Assets sold at a discount are typically snatched up. What is "lost" is just the profits that were earned via a bad risk management strategy. We should not incentivize firms to be sloppy about risk, ever.
Vibrant firm failure and rebuilding is a better health indicator for an economy than state-backed crony corps claiming solid profits year after year.
They were highly compensated exectives who knowingly played Russian roulette with the world economy. Yet were never prosecuted? And in the end we "lost" a major bank so the power further concentrated.
I can't see how any of that is a positive.
Capitalism only makes sense when the big guys are allowed to fail and fail big.
If they had been allowed to, smarter people would have bought up the bits that had value and likely done much more with them to benefit society.
The status quo is so full of entrenched rent seeking, which is probably why it got saved.
Same with banks. Why should a startup like bank simple fail after being deluged by regulatory obstacles, yet the firms doing things the bad old way get bailed out over and over?
Capitalism without firm failure is much more like fascism than anything else.
http://www.pbs.org/wgbh/frontline/article/were-bankers-jaile...
Few, but some.
>Nobody was predicting a Great Recession.
But Econ 101 says there will always be a recession at some point. Once prices started skyrocketing far above the historically-sustainable levels, the lenders knew they were going to crash at some point, and so they should have cut back on lending.
They didn't because they had used securitization to lay their risk off on suckers around the world. And that in turn made the recession far worse than it would have been otherwise.
1. Mortgage loans are packaged by retail banks into blocks of loans. These banks need to be able to sell them on to Wall Street investors if the retail banks are to continue to writing more mortgages without breaking their limits.
2. In a block of loans, it is not known who will default, so using a special financial contract (a CDO) an investor can 'buy the first 10 defaulting loans', say, in the block. In return they get a fat coupon, and of course, they pray no-one does default. These risky loan-block 'slices' (or 'tranches') are called subprime.
3. What remains in the block are less risky slices, called prime.
4. It's easy to get investors to buy the prime debt, because it's almost risk free money, especially to institutional players. So limit to lending had always been 'who wants to buy the shit at the bottom', the subprime debt.
5. Ratings agencies colluded with banks to mislead investors about the riskiness of the subprime tranches. They marked the debt as AAA when it should have been far lower. Investors across the world trusted the ratings agencies, so these AAA securities with fat coupons flew off the shelves into funds that were managed by semi-corrupt custodians who were getting paid short-term bonuses. Banks in Iceland, Germany, Greece, etc.
6. Because the hardest to shift debt was no longer hard to shift, the mortgage lenders sought more people to write mortgages for, and they lowered their lending standards across the board. Whether they lent to high credit scoring individuals or not, they impaired their own lending standards by leveraging people beyond their means. This leverage is why the housing bubble's bursting caused such a country-wide crisis.
7. The Professor seems to think subprime lending refers to lending between the bank and the low credit grade home buyers. However, when we say the housing crisis was caused by sub-prime lenders, we are talking about the institutional players who defrauded investors about the riskiness of these subprime CDO tranches, since this was the root cause of excessive lending to all levels of home buyer.
At some point, holders of subprime mortgages began to default more than lenders' models predicted, either because the models were unintentionally wrong or because they were fraudulent, and there's a huge grey area where they could be a little of both.
[0] http://www.investopedia.com/ask/answers/07/subprime-mortgage...
[1] https://en.wikipedia.org/wiki/Real_estate_mortgage_investmen... - [For context, Freddie Mac/Fannie Mac were REMICs] So what OP meant when he said "prime / subprime" was a misuse of terminology, but if he replaces 'prime' with 'AAA' and sub-prime with 'BBB and Residual' -- he's more or less on the mark there.
[2] US-FNMAMBS, IIRC
[3] https://en.wikipedia.org/wiki/Collateralized_debt_obligation... Start reading here
But they're not necessarily going to receive a AAA credit rating. Which means they will be eschewed by pension funds, sovereign wealth funds and anything systemic. The worst of the worst will get the junk rating and will vie for their little corner of the market, competing for speculative money with oil fracking companies, emerging market bonds and other similarly-priced risky debt.
The investment-grade rating is what opened the big money floodgates.
For example, it is the GSE's requirement that mortgagees in nominally 100 year flood plains carry flood insurance and that NFIP, despite its outdated maps and low policy maximums, is sufficient. If the mortgages were mostly held by private lenders its likely they would require properly underwritten flood policies to at least the full value of the mortgage.
It is important to hear information from different sources. I certainly didn't hear a single unified media voice on this (or any other topic, for that matter).
FDIC means that banks are not held responsible for losing depositor money, and depositors no longer pay attention to how risky the bank's financial practices are.
https://en.wikipedia.org/wiki/Federal_Deposit_Insurance_Corp...
I'm betting on "never". I haven't either.
This wasn't true before the FDIC. Banks tried to project an image of conservative solidarity. They don't bother with that anymore.
As for "solvency", I frankly do take into account bank reputation (admittedly as a proxy for solvency or soundness) when opening an account. I also know the difference between a credit union, a bank, and a savings and loan company, and other financial services companies. I know the regulations between these differ. I also know that the regulations of accredited banks (as opposed to other financial institutions) are pretty stringent and don't allow them to hand out loans of the type that played a role in the 2008 crisis. One of the reasons these crises happened in the S&L and mortgage industries was because the regulations that covered those particular instruments and institutions weren't as stringent as the banks.
It's easy and understandable to conflate banks and other financial institutions because often they're inter-related, but they are separate, and to really understand what happened requires taking these differences into account.
Please don't read this as some sort of apologia for the financial industry: it's not. In my opinion there are systemic problems. I do take issue with landing this at the feet of the FDIC.
The most obvious is to look at bank buildings built before the FDIC and after. Before they were massive stone edifices with spectacular vault doors inside very visible to the customers.
https://upload.wikimedia.org/wikipedia/commons/f/f8/U.S._Nat...
https://upload.wikimedia.org/wikipedia/commons/thumb/8/87/Wi...
After, they were cheap insubstantial buildings in strip malls. The corner Radio Shack here has morphed into a Wells Fargo branch :-)
This one looks like a gas station:
http://www.jeffarchitect.com/images/projects/exp-websterbank...
It's a very different dynamic.
As a proxy for soundness isn't the same thing as soundness. Consider that none of a modern banks promotional/marketing materials say anything about soundness. Customers don't care about that because of FDIC.
http://econlog.econlib.org/archives/2016/05/dont_solve_prob....
The explanation is much simpler than others offered, but often simple problems are the ones most overlooked.
Australia, and even more Israel, barely noticed the Great Depression. Britain also did much better than American and the Euro area, thanks to a competent reaction by the Bank of England.
At some point nGDP started to fall, giving the housing market and banks more trouble.
Another argument is that it was wealthy house flippers who capsized the market and not poor people being given large loans they couldn't repay.
https://qz.com/1064061/house-flippers-triggered-the-us-housi...
A wealthy flipper, e.g. a value-add REIT, would not generate as much debt in the first place (as they can just utilize their own bank account) and would be less likely to default en masse since they have spare cash and can wait out the downturn in the markets.
Vancouver's market also "crashed" in mid-2016[1] after their new – similar to Ontario's – laws came into effect. Six months later, after buyer confidence came back, an all-time record high was set.
[1] http://creastats.crea.ca/vanc/images/vanc_chart05_xhi-res.pn...
Ferreira: It’s like today. If you ask me today who is getting more loans, riskier borrowers or the middle class, [it’s] the middle class that sees a market that’s stable, that had jobs for the past five, six years, people that were able to save for their down payment — they are the ones getting earlier into this market.
---
So we're on the cusp of repeating 2008? So soon?
I think it makes sense. Lenders have a never ending impetus from Wall St to grow revenue and profit.
When all of the rich and moneyed people (13.5m people in the USA are millionaires) have already taken on loans, who do you go to next?
It becomes a cycle of just digging deeper and deeper into the question of "how do we sell this large capital asset to someone who barely has the ability to pay it back in the next 30 years".
Eventually, small economic cracks (sub prime defaults) lead to medium economic cracks (minor layoffs) which eventually, if the hysteria is massive enough, lead to massive economic cracks (major layoffs, shutting down business arms, pull backs in investment)
Eventually the govt is expected by market actors to become a lender of last resort, the dust settles, assets are repo'd, and over time...
... the cycle begins anew.
So, keep an eye out for the cracks that may be forming right now. Soon there will be another Lehman, another Enron, another Oil Crisis, another speculative bubble bursting due to credit on credit on credit on credit.
However I am very sad to say that my observation is that this is happening again, either from ignorance or deliberate action.
I would love to be wrong :(
The true state of the economy is the elephant in the room. Let's face it, the lack of confidence helped elect Trump. We're still warring like it's a national pastime. That's money we don't have.
If it wasn't for historically ultra cheap energy (from fracking) things would be pretty ugly right now. Maybe there isn't a new bubble? But only because we never really recovered from 2008?
We bought a house in late 2006/early 2007. We had money for 20% down; a history of stable, highly paid employment; and a pair of high credit scores. We had to twist the goddamn lender's arm to get a standard, non-whacked-ass "creative" loan.
It was obvious in mid-2005 that they were writing unsustainable loans. It was obvious that as soon as the business cycle had any kind of hiccup, the wheels were going to start coming off.
"Ferreira: Yes. Let’s split the housing market into four major components. There’s the prime sector. That’s always around 60% of the market. That’s the bulk of the mortgage market. There are the governmental loans — HUD, FHA and VA — which are about 10% to 15% of the market. Then there’s sub-prime. Sub-prime started in the mid-1990s with about 5% to 10% of the market. And that increased to 20% — big, but a third the size of the prime sector. And then you have all-cash transactions: investors or wealthy people. And that’s about 10% of the market. So during the whole time period, even at the height of the housing boom, sub-prime was never more than 20% of the market. And the prime sector was 60% or more and increasing."
The sub-prime market was, as expected, the first up against the wall when the wheels started coming off. And the result was that 20% of the market, rather than 5-10%, were forced to sell quickly or be foreclosed. 20% of the market is going to have a bigger effect on overall prices than 5-10%.
On the other hand, that doesn't let prime lenders off the hook, since everyone was pushing bigger loans that overextended more borrowers, as in, "[T]he phenomenon was widespread. It was not concentrated solely on the sub-prime sector."
But this is where Ferriera starts going off the rails.
"More equity helps. Having a higher down payment helps."
No, having lower payments helps. It doesn't matter whether you've got 20% or 0% if you physically cannot make the payments. Lenders were writing loans that overextended borrowers.
"So around 2008 and 2009, in certain markets, you had about 10% to 20% of the stock of homes being foreclosed. Those markets were the weaker markets, such as inland California, areas like Fresno and Modesto, or smaller markets in Florida, for example."
I seem to recall it being the stronger markets, like Las Vegas. But anyway...
"Knowledge@Wharton: [...] I guess, in some respects, then, we still don’t have a full, true understanding about housing cycles and how they affect the markets, or the potential of the U.S. having another bubble down the road."
We may not have a full understanding, but we do have, and did have, enough of an understanding that you cannot lend more money to people than they can be expected to pay back. It makes no sense to frame the issue as prime vs. sub-prime or wealthy vs. poor. It was purely a case of lenders not doing their jobs. So, then:
"Ferreira: Unfortunately, I don’t think so. Let me give you an example about lenders. Lenders got all the blame, especially sub-prime lenders, for the crisis. So what’s happening right now in this recovery? Are we giving thank-yous to the lenders because perhaps they’re helping with the recovery? Absolutely not."
And rightfully so! Lenders deserved the blame. And then they didn't "[help] with the recovery"; they stopped making loans at all.
We all can agree that lenders did loosen their criterion -- but why? They did so because legislator and judges were criticizing them for refusing sub-prime loans. The government said, hey, you're not giving enough loans to minorities who dominate the sub-prime population.
So, the lenders complied.
Subprime is irrelevant. Prime is irrelevant. The only thing that was relevant was conforming vs. non-conforming loans. Non-conforming loans started the fall ( oh, and nearly all subprime loans were non-conforming but that's not that relevant as the total amount of money in subprime non-conforming was just not that high compared to the amount of money in prime non-conforming ) because conforming loans were sold to F&F and removed from the books. Originating conforming just did not may that much which is why it was difficult to get them while a barely walking corpse could get NINJA 3/1 loan with a payment lower than the APR and a balloon at 5 years.
And it was not the CDOs that mattered. It was CDS that did not trigger when the underlying collapsed. That was fraud. Fraud that the treasury secretary at the time oversaw.
It was fraud that Goldman became a bank to get the protection of US Government and was allowed not to behave like a bank, etc, etc, etc.