Mortgage Meltdown

On yahoofinance today is an article about the new book by Timothy Howard called “Mortgage Wars.”  Howard was CFO of Fannie Mae, before being accused of accounting fraud in 2004 (a charge later dismissed in court in 2012). 

 

He claims that the mortgage crisis was caused by “free-market idealogues” who were “blinded by faith” in their “new” ideas.  These were none other than Alan Greenspan and Larry Summers (and Treasury Secretary Hank Paulson), who supported the big banks’ desire to reduce the power of Fannie and Freddie, because of their dominant position in mortgage lending, because, in turn, of their ability to set mortgage standards.  The henchman-lieutenant was Armando Falcon, who made the accusation of accounting fraud against Howard and Fannie CEO Franklin Raines, which led to their departure in 2004.  And, after that date, normal, prudent mortgage standards were set aside.  This is where the mortgage situation remained until the 2008 crash.  

 

Later, Fannie and Freddie were BLAMED for the financial crisis.  However, in the book, Howard indicates that the big banks want to set the blame this way so that we can go back to lending from your local bank with mortgage terms of less than 10 years.  The standard home mortgage term in the US before 1929 was 1 year.  This is because commercial banks can’t justify, in a business sense, making long-term loans at fixed interest rates, because it is too risky.  That system works fairly well in good times, but in 1929/30, when it came time for millions of people to “roll over” their 1-year home loans, the banks refused, or were not in a position to do so, and this set in motion a huge chain of defaults, foreclosures, and bankruptcies.  Because these were brought about by a crisis of liquidity – they were mostly needless defaults, foreclosures, and bankruptcies. Howard says that a return to this world will be a disaster.  (Which it will.)  Incredibly, it is still current policy and “wisdom” to “wind down” Fannie and Freddie, which will replace it with the pre-1929 model for mortgage lending, and this model, in addition to being unstable and expensive, will not be able to support the VOLUME of homeownership that we have known since 1945.

 

Although the 2008 crash started as a crisis of liquidity (as in 1929), it did not mature (as in 1929) because, fortunately, the Fed was by then led by Bernanke, who understood the issues, and supplied liquidity in abundance.  This policy action averted a 1929-style outcome.  Nevertheless, the Republicans have been busy, busy, busy crying that “we are printing too much money” and “eventually this will come to a bad end,” to the point that most people actually believe this.  About a year ago, a group of Republican Senators even took the unprecedented step of getting together and sending a letter to Bernanke expressing their grave concern about all the liquidity that was being supplied.     

 

Fannie and Freddie were created in the 1930’s under FDR in order to throw a “safety net” under homeowners, who, via government support, would be able to obtain a mortgage product that the FREE MARKET IS UNABLE TO DELIVER – a thirty-year fixed-rate mortgage.  FDR was interested in setting this program up because the old system that the free market could and did deliver – a normal home loan term of 1 year only – was highly unstable, and eventually resulted in catastrophe for millions of homeowners.  In other words, the “free-market solution” to the mortgage problem FAILED to deliver a stable product.  After Reagan was elected, however, the destruction of the FDR system became a Republican goal, in league with their powerful allies, the big banks.  Republicans just had to destroy Fannie and Freddie, first because it smacks of “socialism,” and second (and much more importantly) with Fannie and Freddie out of the picture, the big banks could make a lot more money, and the “power” of setting standards in the mortgage business would gravitate back to them.  The destruction of Fannie and Freddie was easy to accomplish – just accuse the management of accounting fraud, replace them with new managers who would do the Republican bidding.  (Which, in its first step included very relaxed underwriting standards.)  Ultimately the goal was to gradually phase Fannie and Freddie out, and put home mortgage lending back into the hands of the big banks. 

 

This conflict is nothing “new.”  We have tried the “free market” model for home mortgages before – and in the long run, it works very badly.  But, under the supply-side gurus, Greenspan, Summers, Rubin, and Paulson, it WAS packaged as something “new,” and yet, when implemented, it turned very sour within a short time.  But, the damage is done.  The Bush II Administration created the “myth” that the 2008 crash was a “sub-prime mortgage crisis,” and IT WAS CAUSED BY A LOT OF PEOPLE TRYING TO BUY A HOUSE WHO HAD NO BUSINESS BUYING A HOUSE !!  (It’s our fault, of course.)  In reality, as I have been saying, and confirmed, apparently, by Howard in his book, the failure of the system and cause of the crash was FAULTY IDEOLGY – specifically, belief in the very damaging “supply-side” agenda.  (free trade; flat tax; privatization; deregulation.)  And specifically, in this case, the deregulation of mortgage lending standards, put in place from 2004 to 2008, as a result of the departure of Howard and Raines.

 

In the bigger picture – this is just part of the titanic struggle being waged in the country between the socialist organizing principle and the fascist one.  The transition from socialism (in this case, power in the hands of Fannie and Freddie) to fascism (power in the hands of the big banks) has caused a lot of needless pain and suffering to MILLIONS of Americans.  Unfortunately, we have been convinced that it is “wisdom” and it is time for Fannie and Freddie to “wind down,” and their function to be replaced by the big banks.  At least Howard’s book lodges a protest against this outcome. 

 

And, at least now we know exactly what steps were taken to accomplish this result. 

 

Here is part of the article:

 

The saboteurs included former Fed Chairman Alan Greenspan and former Treasury Secretary Larry Summers.  Blinded by faith in private-market solutions, Greenspan and Summers supported the banking industry’s efforts to undermine Fannie and Freddie, he argues.

 

After the Savings & Loan crisis in the late 1980’s – early 1990’s, “Fannie & Freddie became the dominant providers of mortgage financing,” Howard explains.  Large lenders didn’t like that, nor did the Fed and Treasury (the Greenspan Fed and Paulson Treasury) because we were determining the standards for mortgages – which took control away from the lenders.”

 

But the real villain in Howard’s saga was Armando Falcon, former Director of the Office of Federal Housing Enterprise Oversight.  In 2004, Falcon charged Howard and then Fannie CEO Franklin Raines with accounting fraud, which led to their departure.  (And the subsequent relaxation of reasonable, prudent mortgage underwriting standards.)

 

In 2012, a Federal District Court Judge dismissed the charges.  For Howard, that development vindicated his view that Falcon fabricated the charges for political reasons.

 

“Falcon knew he would get support from the Bush Administration, Greenspan, and Summers – if he took the lead and knocked Fannie Mae down a peg,” he says.

 

 

 

I would argue that Falcon likely didn’t figure this strategy out for himself – probably, he was secretly DIRECTED to carry it out.  These things don’t happen by accident.

 

Hmm.  Although I didn’t have the personal details, I have correctly identified these issues in my prior emails.  The sad result is that, in converting the home mortgage business from a socialist model to a fascist one, homeownership will slip out of reach for millions of Americans.  (Yahoofinance has a follow-on article on how homeownership is going to change.)  Of course, the hedge funds will step in to fill the void.  Blackstone Group has already bought up 40,000 homes and is kindly renting them – to the former owners.  And the big banks will step in too – to make you those 1-year mortgages, with high fees and no assurance that they will renegotiate the loan when it comes due.  Just like it was before 1929.  That is, apparently, “progress.”