Frank Rich’s op-ed in the Saturday New York Times posits that the banks are our real enemies. Forget al Qaeda, he says:
What we don’t know will hurt us, and quite possibly on a more devastating scale than any Qaeda attack. Americans must be told the full story of how Wall Street gamed and inflated the housing bubble, made out like bandits, and then left millions of households in ruin. Without that reckoning, there will be no public clamor for serious reform of a financial system that was as cunningly breached as airline security at the Amsterdam airport. And without reform, another massive attack on our economic security is guaranteed.
Ah, yes, the Matt Taibbi thesis: the banks colluded with each other and “inflated” the housing bubble so they could benefit from its crash. Unfortunate that this theory, which Rich peddles as fact, is fiction.
Rich neglects to consider why banks offered such ill-considered home loans in the first place. (He’s too comfortable with his delicately-created view of the world to ask such a problematic question as that.)
For decades, the federal government has tried to increase homeownership in the U.S. But there was always one problem: homes are expensive. So the government created Fannie Mae and Freddie Mac to help make home loans more affordable. So how did they do it? These ostensibly, but not really, private companies — “Government Sponsored Entities” — enjoyed two main advantages over private firms: first, they are not bound by capital requirements that private financial institutions are; second (and most importantly), the two GSEs were assumed by the market to be backed by the full faith and credit of the U.S.1.
Financial institutions are required to have a capital ratio for stockholders’ equity of at least 4 percent, and to be considered well-capitalized, it must be at least 6 percent.2 The GSEs are not subject to this requirement. This allows them to have a very high leverage ratio (the ratio of debt used to finance the company) for their operations, which maximizes profits but also maximizes losses.
The second is even more important. Because the GSEs were assumed to have the full backing of the U.S. government, people who bought GSE debt had no fear of them ever defaulting on their debt. They were considered a more or less sure bet — you would get your interest and principal, no risk at all. Because of this, when they bought their debt, they paid very little risk premium for it. Whereas other financial firms had to pay more interest on their debt (because they were at more risk of defaulting on the debt), the GSEs paid very little interest at all. They borrowed money as close to free as you could, and this meant they had a huge supply of capital to operate that private companies couldn’t compete with.
So the result is this. Fannie Mae and Freddie Mac could borrow more money for much less than private firms could, and so they could buy a ton of mortgages off the books of financial institutions — the banks people got their home mortgages from. They owned or guaranteed almost half of the U.S.’s $12 trillion mortgage market. And because it was very easy for them to buy mortgages off the books of banks, the banks could make these loans and turn them into cash or securities almost instantly.
The GSEs greased the market, so to speak. They made it easy for banks to make mortgages to people, even if holding the mortgage on their books wouldn’t be advisable or possible. Moreover, due to the federal government’s desire to see homeownership rise, they began buying poorly-supported loans during the late 1990s, and large amounts of sub-prime mortgages in 2002 — right when the market for them took off.
These two firms, along with interest rates held too low for too long by the Federal Reserve after September 11th, contributed more than anything to the housing bubble we saw. This isn’t a plot by banks to rob taxpayers, as Rich so conveniently wants it to be — it is poorly-thought out federal policy distorting the market for homes.
But Rich’s piece goes on, so we must, too.
He turns to the Financial Crisis Inquiry Commission, created by Congress to investigate its causes, and quotes one member’s desires for the commission:
He wants to examine the financial sector’s “greed, stupidity, hubris and outright corruption” — from traders on the ground to the board room. “It’s important that we deliver new information,” he said. “We can’t just rehash what we’ve known to date.” He understands that if he fails to make news or to tell the story in a way that is comprehensible and compelling enough to arouse Americans to demand action, Wall Street and Washington will both keep moving on, unchallenged and unchastened.
Angelides gets it.
Deliciously corrupt. Rich commends this member’s intent to use the commission, supposedly created to come to a true understanding of the crisis and what can be done to avoid another, as a means to support his pre-conceived view that it is merely the result of corporate greed. This is a perfect microcosm of the discussions that have taken place throughout Washington and the country on the financial crisis. Rather than try to find the truth, find out what really caused it, Rich and this member are taking their previously-held beliefs and finding evidence to fit them.
But that’s okay, because it’s in the name of taking down those terrible businessmen, and for that, anything is justified. In Rich’s world, that’s upstanding.
And the piece goes on some more, and says nothing of value or even with the tiniest tether to reality. But here’s the conclusion: Rich is a scumbag for comparing banks to al Qaeda, when he hasn’t the faintest idea what actually caused the financial crisis. Making executives the villains — and saying what they’ve done is worse than a band of thugs who flew filled airliners into skyscrapers and behead innocent people on camera for the world to see — fits too perfectly in Rich’s world view than to actually consider what truly caused the crisis.
Whatever means necessary.