Wednesday, September 17, 2008

How did we get in this financial mess?

What is one of the effects of low interest rates? Putting on my rocket scientist hat I came up with the answer; more people borrow money. So why is it a surprise that banks, who make money by lending, issue more loans and lend money more easily and willingly, including to those who will not be able to pay the loan back? Couple that with a Clinton era policy to make housing more affordable to low income people under his diversity program and you have the financial fiasco we have today.

During the Clinton administration, multiculturalism was the slogan of choice. For real diversity and multiculturisn it was considered necessary to enable everyone to be able to buy a house, whether or not they could afford it. To further this idea the administration dictated to whom mortgage lenders could lend, and originally helped create the market for the high-risk sub prime loans. Even the densest among us should now be aware of the economic disaster spawned by the sub prime loan fiasco now bringing down one financial institution after another.

How did this happen? In its infinite wisdom congress established two organizations known as “Fannie Mae” and “Freddie Mac”, euphemisms for the Federal National Mortgage Association (Fannie Mae) and The Federal Home Loan Mortgage Corporation (Freddie Mac).

Fannie Mae is a publicly owned government sponsored enterprise (GSE) owned by stockholder and authorized to make loans and loan guarantees. Fannie Mae dominates the U.S. secondary mortgage market which provides liquidity to the primary mortgage market to ensure that mortgage companies, savings and loans, commercial banks, credit unions, and state and local housing finance agencies have enough funds to lend to home buyers.

Freddie Mac, is also a privately-owned and run government sponsored enterprise (GSE) of the United States federal government owned by stock holders and authorized to make loans and loan guarantees.

As of 2008, Fannie Mae and Freddie Mac own or guarantee about half of the U.S.'s $12 trillion mortgage market (yes, that’s Trillion with a “T”). As a result, the two corporations were particularly affected by the housing market downturn and credit crunch that began in 2007.

Fannie Mae was created in 1970 but was used by the Carter administration (1977-1981) to encourage minority homeownership and in so doing, he helped create the market for the risky sub prime loans that he and Democrats now label as not only greedy but "predatory." The program was for the purpose of expanding the secondary market for mortgages in the United States.

Fannie Mae and Freddie Mac buy mortgages on the secondary market, pool them, and sell them as government-backed securities to investors on the open market. This secondary mortgage market increases the supply of money available for mortgage-lending and increases the money available for new home purchases by freeing up money in lending institutions to make still more loans.

With the advent of the “multiculturism” expansion of the Clinton administration, Fannie Mae and Freddie Mac were the vehicles to place a house in every man’s future just like the “chicken in every pot” thing decades before. Tough new government regulations forced lenders into high-risk areas where they had no choice but to lower lending standards to make the loans that sound business practices had previously guarded against making. It was either that or receive stiff government penalties.

It is clear Clinton went overboard by strong-arming lenders with tougher and tougher regulations and this led to lenders taking on hundreds of billions in sub prime mortgages; leading to the present crisis of failed financial institutions which bought these bad loans. It could be also argued that the financial institutions failed their shareholder owners by bowing to the temptation catering to their greed.

This worked fine, if you ignore the corruption rampant in these government-backed “public corporations, as long as the housing market expanded along with higher home prices but the Ponzi scheme came tumbling down when market forces drove down housing prices. Many home buyers lured by the prospect of low interest loans requiring little or no interest or down payments jumped on board in furtherance of the Clinton era mullticurism program with little attention paid to whether or not borrowers would be able to make their mortgage payments; after all lending institutions had little to lose since the big brother of government guaranteed the loans and would make sure lenders did not lose money on the deal, or so they thought.

No one ever said banks and other lending institutions were not greedy. The greedy lending market overleveraged in the secondary market for sub prime loans and relying on the fact they were backed by the government and encouraged by the Clinton administration, these government-backed mortgages were traded on Wall Street.

Unfortunately for the country, the Clinton administration ruined the quasi-governmental agencies that have managed the real estate market through these agencies over the decades by putting political cronies in charge instead of banking professionals.

From the time in 1999 when Clinton crony Franklin Delano Raines took charge at Fannie Mae, for example, he used it as his personal credit card; he took a total of almost $100 million in compensation by the time he left in early 2005 under what newspapers euphemistically called “an ethical cloud.” Raines was accused of overstating earnings and shifting losses so he and other senior executives could earn big bonuses.

It has been reported that Raines had diverted Fannie Mae business to sub prime giant Countrywide Financial, which was saved from bankruptcy by Bank of America, and made contributions to the likes of Jesse Jackson, at the same time the Clinton administration was pushing Fannie and Freddie to buy more mortgages from low-income households. Other Clinton cronies, including Janet Reno aide Jamie Gorelick, also padded their personal coffers for another $75 million.

It was not only these Clinton appointees who benefited from Fannie Mae and Freddie Mac largesse, politicians did too, which explains why they looked away. (For an updated chart that includes contributions from Freddie Mac and Fannie Mae's PACs and employees to ALL lawmakers back to 1989, including to their leadership PACs, go here.)

When this came to light Fannie Mae had to pay a record $400 million civil fine for SEC and other violations, while also agreeing as part of a settlement to make changes in its accounting procedures and ways of managing risk, but the huge damage had already begun and the fine was peanuts compared to the money lost by Fannie Mae mismanagement.

The corruption by Clinton appointees, combined with unprecedented catering to “affordable-housing” lobbyists, resulted in the nationalization of both Fannie Mae and Freddie Mac which is expected to cost taxpayers tens of billions of dollars or more.

We will all be paying for Carter and Clinton's social experiment, one that Barack Obama would like to expand even further. Expansion of the social experiment planned by Obama will greatly exceed the Great Society, the New Deal and whatever you want to call the Clinton deal in size, scope and tax payer abuse.

If Obama becomes president, this enormous burden will fall on those working for a living that pay taxes, not just the “rich” and not the 40% of Americans who pay no taxes at all.

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