The Mortgage Mess

Market capitalism is the best mechanism human culture has yet devised for transacting commerce in society. It relies on innate self preservation and a healthy sense of justice to establish a fair market price for goods and services and operate as a clearing center for the economic chain running from raw materials, to production, distribution and finally to the consumer. The system is not perfect and must be diligently monitored to protect itself from its main weakness fear and greed.

Greed leads up the slope of” irrational exuberance” with visions of never-ending profit and infinite wealth. When these speculative illusionary bubbles are burst, as they inevitably are, fear reaches out with icy fingers and strangles the over fat gluttonous bubble with fervent glee. Very quickly the gilded lily becomes a wretched weed, shunned by all, more detestable than the lowest untouchable.

We have short memories. During the Reagan years when the dream of a new conservative awakening to purify our moribund social welfare economy was new, we saw the results of removing government oversight of the Savings and Loan system. There is an entire generation that does not know what an S& L is, or was. Think of the confusion for those young Americans watching the venerable Christmas classic, It’s A Wonderful Life, and wrinkling their foreheads wondering what in the world is a Building and Loan. Sadly we now know what the world would be like if the George Baileys were replaced by the Mr. Potters.

Savings and Loans became extinct in a frenzy of gluttonous greed which put a lot of money in the pockets of owners, mainly Republican cronies who had supported de-regulation, and out of the pockets of shareholders, depositors, mortgage holders and ultimately the American people who had to bail out the whole mess.

Now twenty years later we have another credit crisis. This one involves the issuance of home mortgages to individuals who really had no means to repay the loan unless the value of the home kept rising, which would allow them to continue to re-finance the ever-increasing equity. Just as the S&L fiasco had it mythical underpinnings (unshackle the market system from the chains of government regulation) so did this current disaster. The myth was that it is our God given right as Americans to own a home regardless of our financial ability to support the loan payments. I like the sentiment but haven’t we developed a pretty good system over two hundred years? Sure there are far too many American who don’t own a home but with hard work, education, and a sound economy the number has increased over the years.

Of course behind the rhetoric of the gluttonous lenders loomed the prospect of large fees, increasing profits and blossoming stock prices, all of which would trigger gargantuan payoffs for the executives of the lending companies. Fueling the greedy flames were the hedge fund managers who would package the dubious loans, complete with bogus credit ratings from the enabling rating services, into synthetic securities, which they would then pump up in price through the use of extreme leverage.

Hedge funds do create liquidity. They operate as un-regulated banks with little or no government oversight. The hedge fund managers receive government subsidies in the form of favorable tax rates. While you and I pay top rate on the money we earn these managers are deemed sufficiently needy to have their earnings taxed at much lower capital gains rates, as much as 60% lower. This from an administration that derides the welfare system for individuals while gladly providing corporate welfare for big business and hedge fund manager alike.

The truth is that financial markets require policing, as do other areas of our social arena. We do not hear calls for the de-regulation of our police force or national defense. In fact the conservative voices so adamant in wanting to unleash the powers of an unfettered and unregulated economy want to increase the ability of government to undertake warrant-less surveillance if it is deemed in our national security interest.

We need oversight of the economy especially when money is created as it is in the creation of mortgages and hedge fund instruments. We cannot become captive to glib ideological sophisms that are then exploited for individual gain at the expense of the very people the ideologues claim to champion. We have learned the hard way the need for banking regulation. We just seem to need to keep re-learning.

Mike Ryan CFP®

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