A Financial Primer
by: James F. Davis, October 14, 2008
As someone who spent the majority of my life as an international bank analyst and executive, I learned that to fix a problem, one needs to understand what caused it. This can be difficult to see because sometimes it takes time for the effects of bad decisions to manifest themselves. It also requires that we examine the facts rather than our emotional biases.
The facts are that approximately 6% of all mortgage loans in United States are in default. Historically, defaults were less than one third of that, i.e., from 0.25% to 2%.
A huge portion of the increased mortgage loan defaults are what are referred to as "sub-prime" loans. Most of the sub-prime loans have been made to borrowers with poor credit ratings, no down payment on the home financed, and/or no verification of income or assets. Close to 25% of sub-prime loans are in default.
These loans increased dramatically as a 9/30/99 New York Times article explained, "In a move that could help increase homeownership rates among minorities and low income consumers, the Fannie Mae Corp. is easing the credit requirements on loans that it will purchase from banks and other lenders."
Why would banks make such risky loans? The answer is that the Clinton administration demanded that the banks help poor people become homeowners, a noble liberal idea. Also the Clinton Justice Department threatened banks with lawsuits and fines ($10,000 per application) for redlining (discrimination) if they did not make these loans.
To allow Fannie Mae to make more loans, President Clinton also reduced Fannie Mae's reserve requirement to 2.5%. That means it could purchase and/or guarantee $97.50 in mortgages for every $2.50 it had in equity to cover possible bad debts.
Principally Senate Democrats demanded that Fannie Mae & Freddie Mac (FM&FM) buy more of these bad sub-prime loans to help the poor. Since the mortgages purchased and guaranteed by FM&FM are backed by the U.S. government, the loans were re-sold primarily to investment banks which in turn bundled most of them, taking a hefty fee, and sold the mortgages to investors all over the world as virtually risk free. As long as the Federal Reserve (another government-created agency) kept interest rates artificially low, monthly mortgage payments were low and housing prices went up. Many home owners would get home equity loans to pay their first mortgages and credit card debt.
Unfortunately home prices peaked in the winter of 2005-06 and the house of cards started to crumble. People could no longer borrow more to pay previous debts.
During the past eight years, the Bush administration made 17 attempts to reform FM&FM, having been made aware by whistleblowers that the books had been cooked by Clinton appointees, James Johnson and Franklin Raines (most recently Barack Obama's financial advisors), who gave large bonuses to themselves and other Clinton appointees by falsely showing huge profits.
In 2005, John McCain submitted a Fannie Mae reform bill. Democrats blocked it in Committee from getting to the Senate floor for a vote.
By 2006 there was enough evidence of malfeasance that Raines was forced out. He had paid himself over $90 million. Recently the court ordered him to pay back $50 million in bonuses that he gave himself based on misstatements of Fannie Mae profits.
In the 2006 elections, the Democrats took control of the House and Senate. There are plenty of videos on the internet showing many Democrats including Senate Banking Committee Chairman Democrat Christopher Dodd and House Banking Committee Chairman Barney Frank, responsible with overseeing FM & FM, assuring us that there were no problems with FM&FM right up to their collapse.
Not surprisingly, virtually all the investment banks that are in trouble and being bailed out are run by financial supporters of Obama and other Democrats. Secretary of the Treasury Paulsen is a Democrat and former head of Goldman Sachs. The new head of the $700 million bailout is also from Goldman Sachs. This is like letting the fox be in charge of henhouse security.
Barack Obama has received more campaign donations than any other politician in the past three years from Fannie Mae and Wall Street. FM&FM have been virtual private piggy banks of campaign contributions for Democrats for the past ten years. Yes, a token amount went to some Republicans.
And there is plenty of blame to go around in this financial crisis, but the reason it happened is 100% caused by a Democrat-run government that forced a liberal policy initiated by President Clinton and reforms blocked by primarily Democrats. One would never know this by watching the news or reading newspapers.
Until the majority of our citizens understand who (government liberals) and what (liberalism) caused this mess, we will allow our elected officials to lower the standard of living of those of us who are financially prudent and give it to those who are not.
James F. Davis is the President of Accuracy in Academia.