Welcome Gretchen Morgenson, Joshua Rosner, and Host Yves Smith.

Reckless Endangerment: How Outsized Ambition, Greed, and Corruption Led to Economic Armageddon

Host, Yves Smith:

Reckless Endangerment describes the players that helped create the housing bubble and bust that were at the heart of the financial crisis. Gretchen Morgenson and Josh Rosner focus on how regulators and other officials were complicit by promoting liberalized housing finance as a way to increase homeownership. Their account chronicles how a naïve vision of the American Dream, that of homeownership as the foundation of upward mobility and stable communities, turned into a nightmare in the hands of a growth driven and increasingly predatory mortgage complex.

Jim Johnson, who was a Mondale operative, one-time Bill Clinton, political consultant, and CEO of Fannie Mae from 1991 to 1998, was a major architect of a powerful alliance that sought and obtained more and more government support for housing. His immediate focus was to deepen Fannie’s relationship with the government to protect its implied state backing. Johnson bought support of his aggressive growth plans by sponsoring large-scale programs to target low income borrowers. These initiatives, while they sounded benign, often amounted to radical experiments that over time gutted many of the traditional guidelines for sound lending. And the need for these changes was often exaggerated. Some of the seminal studies that found that blacks and minorities were incorrectly denied mortgage finance were nowhere near as clear cut as Fannie and its allies suggested.

Johnson also used Fannie’s huge profits to hire virtually every independent housing analyst so as to limit criticism, and went savagely after anyone who questioned the GSE’s efforts. Fannie also formed the Fannie Mae Foundation, which siphoned funds to associations linked to favored politicians, in effect using government supported profits to protect and extent its franchise. The only party able to stand up to its onslaught was the Congressional Budget Office, which had the temerity to produce an analysis that showed that a full 1/3 of the huge value of Fannie’s government subsidy was going to executive pay and shareholders, rather than its professed goal of making housing more affordable.

An unduly accommodative regulatory climate helped supercharge overly aggressive lending. Critical and often overlooked developments included a 1995 rule change by HUD that eliminated the requirement that lenders obtain independent appraisals. It probably did not help that Barney Frank had hinted that it would be nice if his partner and recently minted MBA, Herb Moses, got a job at Fannie. Frank has maintained that his notably protective posture towards Fannie had nothing to do with the fact that Moses worked there for seven years in the 1990s.

Another important enabler was Federal Reserve vice chairman Roger Ferguson, who was receptive to the banks’ desire for lower capital requirements and promoted the heretofore unheard of idea of letting them devise the risk metrics to be used in setting minimum capital requirements. Another big shift was the 2001 revision to the 1988 Basel accord that significantly reduced the capital a bank would be required to hold against privately issued (non Fannie/Freddie) private label securities and increased the importance of rating agency grades in deciding the riskiness (and therefore capital weightings) of many bank assets.

This private label (non Fannie-Freddie) securitization market, also known as “subprime” had grown in the early 1990s, Johnson cultivated a relationship with Angelo Mozilo, the permatanned CEO of Countrywide, which had been primarily an originator of conventional mortgages (that is, the kind that met the underwriting standards of Fannie and Freddie). Countrywide expanded aggressively into this market after Mozilo’s conservative co-founder and risk manager David Loeb retired in 2000. Needless to say, Countrywide also became expert in cultivating friends in powerful places, particularly through its notorious “Friends of Angelo” program, which gave cut-rate mortgages to Congressmen.

Even though Fannie and Freddie did not guarantee subprime mortgages, they began supporting the market in 1997 as a result of HUD chairman Andrew Cuomo’s push to have them buy subprime mortgages in their investment portfolios

The first generation of subprime took off in the 1990s when Wall Street started to offer financing, called “warehouse lines”,  meaning credit lines against “warehouses” of mortgages, which allowed thinly capitalized originators to punch above their weight.

The book chronicles how, as predatory lending increased, efforts to beat it back were blocked by the mortgage-industrial complex incumbents, notably Standard & Poor’s and Countrywide. Later efforts to clip the GSE’s wings were opposed successfully; it took accounting scandals to put a brake on their growth and subject them to more oversight.

But the subprime market developed a life of its own as subprime originators became the new darlings of Wall Street. No one seemed to remember that this market had blown up impressively in the late 1990s. Warnings from housing analysts, and the few tuned in regulators like the Ed Gramlich of the Federal Reserve were ignored by the authorities. The assumption was that since investors were buying the mortgage securities, they were doing their homework and so the nay-sayers were worrywarts.

But in reality, in the toxic phase of 2005-2006, subprime bonds were increasingly being sold to collateralized debt obligations, which for the most part weren’t sold to investors, but were retained by the banks themselves because they were treated favorably under new Basel II rules. And most of the rest of the investors were seduced by flawed rating agency models. So overlevered banks uncharacteristically ate their own bad cooking and got spectacularly sick as a result

Reckless Endangerment focus on the nexus of politics, regulations, and markets, also shows how deeply major mortgage players are embedded in DC. Perversely, one of the few upsides of the seemingly intractable housing mess is that it may so badly discredit them as to eventually reduced their outsized influence.

204 Responses to “FDL Book Salon Welcomes Gretchen Morgenson and Joshua Rosner, Reckless Endangerment: How Outsized Ambition, Greed, and Corruption Led to Economic Armageddon”

BevW August 20th, 2011 at 1:51 pm

Gretchen, Josh, Welcome to the Lake.

Yves, Thank you for Hosting today’s Book Salon.

Gretchen Morgenson August 20th, 2011 at 1:58 pm
In response to BevW @ 1

Happy to be here with you. G

Joshua Rosner August 20th, 2011 at 2:01 pm

Thanks for having us

Yves Smith August 20th, 2011 at 2:05 pm

Welcome both, I had trouble getting access to the page!

Yves Smith August 20th, 2011 at 2:06 pm

Let’s get started.

Reckless Endangerment indicts the way the mortgage industrial complex captured Congress and key regulators and how the policies they won helped to produce the global financial crisis.

Have you seen any real change in the wake of the crisis?

Joshua Rosner August 20th, 2011 at 2:07 pm

No, the financial intermediation vacuum that was left after the wild west of securitizations opacity collapsed is still a hinderance to functioning markets, banks still have troubled assets that were not resolved by TARP (and thus still are not lending) and Washington remains captured by those who brought us this crisis.

Yves Smith August 20th, 2011 at 2:08 pm
In response to Joshua Rosner @ 6

Do you see any way out? Do things have to get worse before they can get better?

Gretchen Morgenson August 20th, 2011 at 2:09 pm

I think that if anything the major financial players have been working even harder to maintain the status quo of too big to fail policies designed to keep them afloat regardless of their practices.

Yves Smith August 20th, 2011 at 2:10 pm

Do either of you rate any of the reforms implemented as effective? Do we at least have some partial victories?

BevW August 20th, 2011 at 2:12 pm

As a technical note, there is a “Reply” button in the lower right hand of each comment. Pressing the “Reply” will pre-fill the commenter name and number you are replying to and helps for everyone in following the conversation.

(Note: If you’ve had to refresh your browser, Reply may not work correctly unless you wait for the page to complete loading)

Joshua Rosner August 20th, 2011 at 2:13 pm
In response to Yves Smith @ 7

I do see a way out but no will. Nobody wants to acknowledge how significant and impediment the second liens that the big five banks are holding are to the mortgage back investors taking the lead on a broad principle write-down program. Servicers behavior remains abysmal on many fronts. Even modifications have become a way of screwing borrowers, stealing from MBS pools and increasing the security of their affiliated institutions second lien books. With DC so worried about keeping up the charade of the “well stress tested banks” we are stuck in a positions where everything done is is little more than a band-aid

Gretchen Morgenson August 20th, 2011 at 2:13 pm

For things to get better, we first have to stop pretending that the assets on bank balance sheets are valued properly. People understand that the banks are still carrying large amounts of questionable assets that are probably valued too optimistically — and this contributes to a severe and pernicious lack of trust among investors.

Peterr August 20th, 2011 at 2:13 pm

Welcome Gretchen, Joshua, and Yves!

I’m a pastor with a degree in economics who has also done a fair amount of work around child abuse and child abuse prevention. Yves’ use of the word “enabler” in the introduction above struck me as quite appropriate. Abusers and Enablers seems to fit the Bankers and Regulators of this “economic armageddon” situation quite nicely.

I have not yet had a chance to read the book, but reading the introduction above brought to mind today’s story about the former Moody’s senior VP calling the SEC’s attention to the corrupt practices of that ratings agency’s practices. Do the ratings agencies get much attention in the book?

The key question about Moody’s, S&P, and Fitch is simple: were they idiots or crooks?

Joshua Rosner August 20th, 2011 at 2:14 pm
In response to Yves Smith @ 9

partial victories? Yes a few AG’s are pushing for real investigations. I fear those victories will turn to losses as a result of pressure from DC

Yves Smith August 20th, 2011 at 2:15 pm
In response to Joshua Rosner @ 11

You might explain the reason why second liens are such a problem for getting the housing market straightened out. Many people seem them as the big impediment to getting mortgage modifications (real ones, not cosmetic ones like HAMP). Can you elaborate?

texan99 August 20th, 2011 at 2:15 pm

From this description, your book sounds both evenhanded and fascinating. I’m ordering a copy this instant.

Yves Smith August 20th, 2011 at 2:16 pm

You mean in the banks themselves, witness how badly Bank of America’s and CItibank’s stock price in particular has been hit?

jest August 20th, 2011 at 2:16 pm

Welcome guys!

Gretchen, you touched on a point that has gotten little attention during this disaster, and that is accounting regulation and reform.

Is this because there is no appetite for reform, or is it because lawmakers do not understand accounting?

Geithner’s stress tests seemed to indoctrinate these abuses, rather than curtail them.

Gretchen Morgenson August 20th, 2011 at 2:17 pm
In response to Peterr @ 13

Reckless Endangerment does go into quite a bit of detail about the role the ratings agencies played in the mortgage mania. There is a really disturbing vignette in the book about how S&P essentially gutted the best predatory lending law that had been created at the state level (in Georgia) by refusing to rate mortgage pools that contained Georgia loans. This move, which was followed by Moody’s, meant that Georgia lawmakers felt they had to water down the law or else loan origination in the state would grind to a halt. It was an ugly moment and shocking to many participants.

Joshua Rosner August 20th, 2011 at 2:17 pm
In response to Peterr @ 13

They were both idiots and, in my opinion, crooks. I have written extensively on this and we do go into detail in the book. Here are links to other works I have authored on the subject of ratings:

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1027475&rec=1&srcabs=955721

Where Did the Risk Go? -How Misapplied Bond Ratings Cause Mortgage Backed Securities and Collateralized Debt Obligation Market Disruptions

Building on their previous research on the subprime mortgage market, Joseph Mason (Drexel University) and Joshua Rosner (Graham Fisher & Company) argue that many of the current difficulties in mortgage-backed securities (MBS) and collateralized debt obligations (CDOs) can be attributed to a misapplication of agency ratings. Changes in mortgage origination and servicing make it difficult to evaluate the risk of MBS and CDOs, and the process of creating them requires the ratings agencies to arguably become part of the underwriting team, leading to legal risks and incentive conflicts. Mason and Rosner analyze the fundamental differences between rating structured finance products like MBS and CDOs and traditional products like corporate debt, and conclude that the inefficiencies of rating MBS and CDOs are leading investors to discount U.S. markets.

and this two years ago

http://www.iijournals.com/doi/abs/10.3905/JSF.2009.14.4.007

Toward an Understanding: NRSRO Failings in Structured Ratings and Discreet Recommendations to Address Agency Conflicts
The Journal of Structured FinanceWinter 2009, Vol. 14, No. 4: pp. 7-22
This article explains the key differences in the roles of rating agencies with regard to structured finance compared to single-issuer debt, highlights weaknesses in the current recommendations and oversight of the agencies, and concludes with recommendation of a series of discreet changes that would effectively address the most significant weaknesses within the current oversight regime of rating agencies in structured finance, including: recommending that charter-constrained investors own only exchange-traded structured securities, requiring agencies to apply updated models in a timely manner, requiring frequent re-rating of securities relative to original deal assumptions at issuance, reducing liability exemptions for certain structured finance rating practices, creating minimum industry standards for analysts’ professional training in structured finance, prohibiting revolving-door practices for rating agency analysts, and requiring agencies to form independent statistical staffs to develop, test, implement, and review models. Over time, these changes most likely would significantly diminish market need for and reliance on official ratings.

And, an Op-Ed I wrote for the NY Times in July 2007:

http://www.nytimes.com/2007/07/25/opinion/25rosner.html?adxnnl=1&pagewanted=print&adxnnlx=1313670305-78ROEWhhnB+jj/oSmVRfKw

Gretchen Morgenson August 20th, 2011 at 2:19 pm
In response to Yves Smith @ 17

yes Yves. It’s completely understandable why nobody wants to admit their second liens are worthless, but this kind of fibbing makes savvy investors run away.

Joshua Rosner August 20th, 2011 at 2:20 pm
In response to jest @ 18

The accounting is a real issue and it is another way that we protected the banks. Moving from MTM in the height is a perfect example. The following quote sounds too familiar to this crisis even thought is is from another era:

“The years from 1929 to 1933 were, for America, a succession of breaking idols and abandoned faiths, some of them the notions of willful children, some deeply ingrained in the character of the nation … Bank Statements: By agreement with the Government, banks placed an artificial value upon certain securities they held. Those who did not know of the agreement assumed that the values were actual”. – Gilbert Vivian Seldes, The Years of the Locust: America 1929-1932 (Little, Brown, and Company,
1933), p276

Yves Smith August 20th, 2011 at 2:21 pm

Reckless Endangerment has been praised by conservatives and criticized by some on the left as making the GSEs, Fannie Mae in particular, the biggest culprits in the housing bubble. Do you see this characterization of the book as accurate?

Gretchen Morgenson August 20th, 2011 at 2:21 pm
In response to jest @ 18

Agreed about stress tests. I don’t think the reason for failing to address accounting issues head on is owing solely to Congress. I think that accounting regulators get tremendous pressure from a lot of places, not least of which are the powerful financial lobbying organizations that swarm Washington DC.

Joshua Rosner August 20th, 2011 at 2:21 pm

I would add that some banks, those with strong branch originations rather than third party originations, do have significantly better quality seconds than those who purchased volume.

kberke August 20th, 2011 at 2:23 pm
In response to Joshua Rosner @ 20

If credit ratings agencies are discredited because of their conflicts of interest, why is Standard & Poor’s still taken seriously? If they get paid by the bond issuer, how can they have any credibility?

Siun August 20th, 2011 at 2:23 pm

Welcome Gretchen, Joshua and Yves!

I’m just reading the first part of the book now but am already fascinated – and really appreciate how enjoyable it is to read even as the content outrages!

Yves Smith August 20th, 2011 at 2:23 pm
In response to Joshua Rosner @ 22

MTM = “mark to market”, or using real market prices.

There were other rules, regarding how assets that were hard to value (called Level 2 and Level 3 assets) were to be treated (they were disclosed and had to be valued using market inputs if there were market inputs). That rule kicked in in the early stages of the crisis and was almost immediately relaxed as things got worse.

Sixth Estate August 20th, 2011 at 2:25 pm

Where’s the DOJ in all of this? In the 1990’s, the S&L scandals resulted in quite a few prosecutions:

According to some of [the US Department of Justice] records, between 1990 and 1995 no less than 1,852 S&L officials were prosecuted, and 1,072 placed behind bars. Another 2,558 bankers were also jailed, often for offenses which were S&L-linked too.

DWBartoo August 20th, 2011 at 2:25 pm

Thank you for being with us, today, Gretchen.

Given this reality, and that among the “enablers” was the politcal class, and given that the political class stills seems smitten with the “astute”, how might we see any real progress, as they say’ “looking forward”, in regulating, with intent AND “adequate” resources, coming from the ruling class?

Frankly, I think our situation more akin to class warfare than simple errors of well-intentioned “judgement” …

DW

Joshua Rosner August 20th, 2011 at 2:26 pm
In response to Yves Smith @ 23

Look, I really believe that it is not the “left” that has taken issue. It is those who have either not bothered to read the book and are merely responding to reviews or those who are more interested in ignoring the facts to support political bias. We do not say the GSEs were the cause of the crisis. Rather, they used the feel-good message of homeownership to drive their own economic and expansionary interests and perverted the meaning of ownership. They taught Wall St how to sell the dream while destroying standards and then they both chased each other downhill

Gretchen Morgenson August 20th, 2011 at 2:27 pm
In response to Yves Smith @ 23

The book does not argue that Fannie is the biggest culprit in the housing bubble. What the book does is say that Fannie led the way in lowering lending standards, automating underwriting and in its aggressive and attack-dog lobbying efforts, ensured that it did not have to maintain large amounts of capital and that it could neutralize its regulator. All of those things together helped Fannie to be unquestioned as it ballooned its balance sheet. And others in the financial arena saw the effectiveness of the Fannie playbook and mimicked it well. That was its impact — and it was a large one.

Joshua Rosner August 20th, 2011 at 2:27 pm
In response to Yves Smith @ 28

It is fascinating to look at how the level three assets of the big banks have changes since the crisis.

jest August 20th, 2011 at 2:28 pm

Yes, I agree that Congress isn’t wholly to blame for accounting abuses (though for FRE & FNM are an exception as OFHEO sounded alarms about those two directly to Congress)

But part of FINREG was capital reform; it simply is not possible to address capital adequacy without addressing accounting.

Gretchen Morgenson August 20th, 2011 at 2:30 pm
In response to DWBartoo @ 30

There does seem to be a huge disconnect in Washington from the reality of what the average citizen is going through right now. Unemployment, loss of homes, earnings little on savings. I have been amazed throughout this crisis at the lack of outrage that I see across America. I can only conclude that people are too busy trying to put food on the table to be out protesting and picketing the Capitol.

Yves Smith August 20th, 2011 at 2:30 pm
In response to Joshua Rosner @ 33

How so mean? I dimly recall early in the crisis that Wells Fargo (IMHO the most sanctimonious bank, they keep insisting they are cleaner than everyone else when their accounting is awfully aggressive) had a big increase in Level 3 assets. For lay readers, that was basically a way to keep from valuing a big chunk of the balance sheet using market prices or market inputs. Level 3 is referred to as “mark to make believe”. You can use “unobservable input” which basically means you can make stuff up.

Joshua Rosner August 20th, 2011 at 2:31 pm
In response to Siun @ 27

Thank you, we wrote it not because we felt the left or right were the cause, rather we wrote it because we are outraged by the way our democracy has become something unrecognizable and we wanted the public to see that. Similar stories about the way DC and business work together without regard for the public interest can be told about almost any committee or industry. The financial community just happened to be the one I know and at the heart of the crisis.

jest August 20th, 2011 at 2:31 pm
In response to Joshua Rosner @ 33

How so? Have they increased, or decreased their Level 3 exposure?

Gretchen Morgenson August 20th, 2011 at 2:32 pm
In response to jest @ 34

Agreed. We still seem to be in the mode of ‘extend and pretend’ on bank accounting — I think because regulators want to try to give the banks time to build up their balance sheets again. But this will certainly be complicated by the fact that Europe is on the brink.

Gretchen Morgenson August 20th, 2011 at 2:34 pm
In response to Sixth Estate @ 29

The DOJ is AWOL on this crisis. One of my favorite moment was in 2006 or 2007 I think when the FBI joined with the Mortgage Bankers Association to fight mortgage fraud. It was simply amazing.

Yves Smith August 20th, 2011 at 2:34 pm

Both you and Josh speak to regulators. Do they really not understand that what they are doing isn’t working? Are they captured, stupid, or corrupt?

Joshua Rosner August 20th, 2011 at 2:36 pm

A flat yield curve, falling asset values, weakening economy, rising commodity prices and the past several quarters of earnings driven by release of provisions that will likely have to be rebuilt… probably not going to easily grow their way out.

Peterr August 20th, 2011 at 2:37 pm

I was stunned to discover recently that in the state of Missouri, it is no longer required for a lender to record a transfer of the mortgage with the county recorder of deeds. That is, Bank A lends the borrower the money for house, then tells the recorder that they are the lender and name MERS as their agent. Bank A can then sell the loan to Bank B who sells it to Bank C who sells it . . . who sells it to Bank Z — and none of that has to be recorded with the county. As far as the public records go, it looks as if Bank A still owns the loan.

To what extent must MERS be reined in before the mortgage mess gets cleared up?

jest August 20th, 2011 at 2:38 pm
In response to Yves Smith @ 36

Lehman pulled the same thing during the crisis. Einhorn caught them re-characterizing dud assets into Level 3 and marking them up, AFTER their earnings conference call:

http://www.cnbc.com/id/24984941

Gretchen Morgenson August 20th, 2011 at 2:38 pm
In response to Yves Smith @ 41

What I really learned in reporting Reckles$ with Josh and with my other reporting is how financial regulators view the banks as their clients. They operate with a bank-centric mindset, they view their job ensuring safety and soundness of these institutions as keeping them profitable, which often translates to letting them do whatever they want. It’s really not a regulatory mindset, but a collaborative, ultra-collegial working relationship.

masaccio August 20th, 2011 at 2:38 pm

Welcome, Joshua and Gretchen.

You put a great deal of focus on the activities of Fannie Mae as a cause of the Great Crash. Peter Wallison of the American Enterprise Institute dissented from the Final Report of the Financial Crisis Inquiry Commission, saying that the main cause was Fannie and Freddie and Government support for housing for poor people.

How do your views differ from his?

DWBartoo August 20th, 2011 at 2:38 pm

I suspect that “the people” are still uninformed, and I consider deliberately so, Gretchen. A profound “teaching moment” is presented us, and the political class, which includes the media, have failed, and I, again, consider this failure quite deliberate, to educate or inform, especially considering that TRUST has been broken for the benefit of a few and that we now have, clearly “the best Congress (and Presidency, in my estimation) which money can buy.”

The role of SCOTUS, in holding that money is “speech” and that corporations are “persons” before the law, is a deliberate, Dred Scott-level assault upon reason and humanity, and the long-term consequence of these rulings is dreadful and appalling, as I see it, to consider …

DW

Sixth Estate August 20th, 2011 at 2:39 pm

Are the DOJ and SEC acting differently at all under Obama? Or have these agencies carried over the same attitude and policies from the Bush administration?

foppe August 20th, 2011 at 2:40 pm

How does the SEC investigation-related-document-destruction-policy (which Matt Taibbi just wrote about) fit into your story?
And did it surprise you to read about it (assuming that you have)?

Joshua Rosner August 20th, 2011 at 2:41 pm
In response to Yves Smith @ 41

I think those who get it are not able to make the policy decisions needed, the root of the crisis remains misdiagnosed by others and still others have tied themselves to bad stress-tests and are now wedded to staying the course. So, even though they are in a hole they keep digging.

Gretchen Morgenson August 20th, 2011 at 2:41 pm
In response to Peterr @ 43

Cleaning up the MERS mess could not be more important and yet it is not clear that the multi-state bank settlement as it is now being negotiated will let attorneys general litigate on MERS-related issues. MERS has been slapped down by some states but others don’t seem to care about what this entity has done to mess up chain of title issues. Some experts that I talk to say that in ten years we will have still be having clouded title problems where someone might be able to claim they own your house because of these shoddy paperwork issues.

DWBartoo August 20th, 2011 at 2:42 pm
In response to foppe @ 49

Superb question, foppe, thank you.

DW

Yves Smith August 20th, 2011 at 2:42 pm

But they aren’t sound. BofA is insolvent if you value its litigation liabilities and its second liens realistically. Wells is seriously impaired too. And as Josh indicated, there is no way they can earn their way out. So their bank friendly model isn’t working. It sounds as if this goes beyond merely being bank friendly. It’s at least serious denial, and it looks like corruption.

Joshua Rosner August 20th, 2011 at 2:43 pm
In response to Peterr @ 43

Well, we are in the process of seeing MERS break and have to get restructured as or replaced by a real and transparent national clearinghouse… unless the Supreme Court hears a MERS matter that they have been asked to consider

Peterr August 20th, 2011 at 2:43 pm

Bill Black (among others) note very different approaches to regulation at the various agencies. He describes the regulators at The Fed as second-class corporate citizens, who get little respect or power from everyone else at the Fed. At the other end of the regulatory spectrum seems to be the FDIC, where Sheila Bair has pushed and pushed for greater regulation and stronger oversight. Financial institutions have long practiced “regulator shopping” and shunned the FDIC for the more lax oversight of OTS and OCC.

What’s your impression of the differences among the various agencies?

Gretchen Morgenson August 20th, 2011 at 2:43 pm
In response to masaccio @ 46

I think we disagree on the “main cause” aspect of the argument. As we have said before, Fannie Mae led the way here, but Wall Street, big banks, regulators, ratings agencies, borrowers all played huge roles in enlarging the mess.

jest August 20th, 2011 at 2:44 pm

Aren’t the regulators also understaffed?

I tend to agree with captured, stupid, and corrupt; but I think there’s something to be said for them being overworked, and lazy.

The SEC is infamous for being overworked, due to budget cuts, and laziness because of workplace porn habits.

Joshua Rosner August 20th, 2011 at 2:45 pm

It is not all the regulators but certainly was all in 2003, 2004, 2005, 2006, 2007 and remains so at the OCC. While the Fed has gotten somewhat better they have an inherent conflict as they have a monetary policy mandate for full employment and price stability and that ties their hands from being credible financial regulators.

Gretchen Morgenson August 20th, 2011 at 2:46 pm
In response to Yves Smith @ 53

Very serious denial. But I am not sure I would go all the way to corruption. Think it’s more like they have convinced themselves that they have to do this to save the financial world. That they are heroes. And that their critics just don’t understand how crucial it is to preserve the financial system and protect against instability.

Yves Smith August 20th, 2011 at 2:48 pm
In response to Joshua Rosner @ 58

My pet belief is that the Fed is dominated by monetary economists. They don’t get their hands dirty (everything is reduced to pristine models), and I would imagine they look down on the sort of people who do enforcement.

Gretchen Morgenson August 20th, 2011 at 2:49 pm
In response to Peterr @ 55

The various financial regulators do differ. Sheila Bair was the only grownup in the room during the crisis in my view, the only regulator looking out for the taxpayer most of the time. OTS was a joke, a true enabler. OCC is always on the lookout for how to help its bank clients. The Fed (in recent years) cared nothing for consumer protection. It was all about helping the banks lower their capital requirements.

Yves Smith August 20th, 2011 at 2:49 pm

Do you think any of the reforms actually made/will make matters worse?

Peterr August 20th, 2011 at 2:50 pm
In response to Joshua Rosner @ 58

The fact that the presidents of the regional Feds are elected by the banks also contributes to the conflict of interest. I can’t imagine the KC Fed presidency going to someone with a strong desire for regulatory oversight when Thomas Hoenig steps down.

Joshua Rosner August 20th, 2011 at 2:50 pm

Read the book ;) I would suggest that the GSEs led the way to reduced underwriting standards, appraisals, down payments even before their was a liquid and viable private label securitization market. Then, when that market began to eat their cake by being predatory and parasitic, rather than pushing the brakes and trying to kill the worst lending the GSEs became the largest buyers of these private label MBS. By 2007 23% of their portfolios were private label securities. SO, the GSEs led the declines in standards, “the Street” clearly made the worst products and the GSEs then offered further funding to the private label markets growth. It is not either “the Street” or “the GSEs” it was both/and. They were sun and moon, symbiotic.

Knut August 20th, 2011 at 2:51 pm
In response to Yves Smith @ 36

Yves and Gretchen, Here’s something I don’t understand about level 3 and similar category scams. Even if the banks don’t mark to market, why doesn’t the market mark banks to market? Is this happening (I know the stock values are cratering, but they are still positive). Is an implicit or expected government guarantee still proping up these assets?

Gretchen Morgenson August 20th, 2011 at 2:52 pm
In response to Yves Smith @ 62

I think Dodd Frank has enshrined too big to fail as a government institution. It has done that by devising the resolution authority for systemically significant institutions. So small institutions don’t get the favored treatment of the resolution authority which is unfair. In addition, Dodd Frank created new too big to fail institutions by giving swaps and derivatives clearinghouses access to Fed emergency lending facilities. That expanded the safety net which means taxpayers will be even more on the hook.

PPDCUS August 20th, 2011 at 2:52 pm
In response to Yves Smith @ 53

Thanks for today’s book salon — just arrived.

Except for the April 2009 FASB rule change & federal chartering as banks bellied up to the zero percent Fed window, which TBTF financial players aren’t actually insolvent, then or today?

Joshua Rosner August 20th, 2011 at 2:53 pm
In response to Yves Smith @ 60

I spent a lot of time in 2002-2005 trying to get those economists to put down their models and see that the structural changes had undermined the data they were looking at. As example, the aggregate loan to value they use still ignores that in an aging population the propensity to extinguish mortgage debt should rise. So, rahter than looking at total mortgage debt relative to residential values they should have only looked at the tail risk… ie. mortgage debt outstanding relative to mortgaged real estate values.

speakingupnow August 20th, 2011 at 2:53 pm

Thank you for the research and time spent to provide an analysis of the economic crisis.

I do not see how we will get any reforms in behavior from financial institutions without convictions and prison terms for CEO’s and the major players involved in the fraudulent activities. In addition, until the regulatory agencies function well, how can we possibly expect a better future outcome when no one is “minding the store”?

If you were to select five people who aggressively are trying to change the system for the better in regards to this matter, who would they be? Thank you for your time.

DWBartoo August 20th, 2011 at 2:54 pm
In response to Yves Smith @ 60

You are absolutely correct in this assessment, Yves. It is “pure” belief “systems” which dominate “thinking” at the Fed, and the “believers” have NO intent of allowing other possible economic forms to even be considered. The wagons have been circled, and the “outsiders” are being “repelled” by the simple expediency of denying that there are any credible views different from or beyond those conventionally held.

DW

Joshua Rosner August 20th, 2011 at 2:54 pm
In response to Peterr @ 63

Yet, somehow we did have several great ones such as Hoenig and great BOG Governors such as Gramlich

masaccio August 20th, 2011 at 2:55 pm

I have read a number of reports, including,the Final Report of the FCIC, and the examiner’s report on New Century and the Examiner’s Report on Lehman, and every single report provides plenty of evidence for criminal prosecution.

You don’t mention criminal investigations. Did you see any evidence of them in doing your research and reporting, or have you heard anything?

GlenJo August 20th, 2011 at 2:56 pm

Wow, thanks for coming!

To read Gretchen saying that Dodd Frank solidifies the TBTF business model is rather depressing.

Obama really screwed up in 2009.

DWBartoo August 20th, 2011 at 2:56 pm
In response to masaccio @ 72

Ah, THE question, masaccio!

DW

DWBartoo August 20th, 2011 at 2:58 pm
In response to GlenJo @ 73

I think Obama “got” PRECISELY what was wanted by his friends and primary suppoters, GlenJo.

DW

Joshua Rosner August 20th, 2011 at 2:58 pm

Tom Hoenig should have been put at the OCC!!!!

GlenJo August 20th, 2011 at 2:59 pm
In response to DWBartoo @ 75

That is the truth, isn’t it. Obama did exactly what he wanted to do.

Gretchen Morgenson August 20th, 2011 at 3:00 pm
In response to masaccio @ 72

So far we have had one criminal conviction of a sizable participant in the mortgage mess–the CEO of Taylor Bean & Whitaker. But that is a pretty sad count given the size of the losses and the collateral damage caused by the crisis. People say it is hard to find criminal intent and that maybe all that was done was owing to incompetence. But I find it even harder to believe that this big a travesty involved no criminal wrongdoing. I think there was no appetite early on to bring cases because they might destabilize the fragile financial markets. Then when time had passed, it seemed less urgent. Also, the regulatory failures during the mania led to a lack of evidence int eh aftermath that could be used for prosecutions, I am told. Very frustrating and lends credence to the view that there are two sets of rules in America. One for the rich and powerful and politically connected. And one for the rest of us.

jest August 20th, 2011 at 3:00 pm

Dodd Frank created new too big to fail institutions by giving swaps and derivatives clearinghouses access to Fed emergency lending facilities.

Wow, that is the scariest thing I have ever heard. JPM’s swaps book alone is in the tens of trillions of dollars.

No wonder they were glad to have that thing passed.

masaccio August 20th, 2011 at 3:01 pm
In response to Joshua Rosner @ 64

I enjoyed the book immensely. That’s how I read it, but there have been other people who may not have read closely who argue that you misplace blame.

You also discuss the role of Congress. One of the main supporters of Fannie and Freddie was Democratic Congressman Barney Frank, who didn’t move away from them until 2010.

The odd thing was the number of Republican legislators, including Baker of Louisiana, who tried hard to rein in the activities of the GSEs.

Do you think the Republicans were harder on the GSEs than the Democrats, and do you have any idea why so many of them were leading the charge to regulate?

Joshua Rosner August 20th, 2011 at 3:02 pm
In response to GlenJo @ 73

Yup, from 1929 to 1931 DC said the only problem was a problem of confidence (like in 2006 to summer 2008 as the mortgage warehouse lending business was collapsing). In 1931 they banned short sales and then set up the bank reconstruction act (first one). Banks continued not to lend, hoarded and things continued to worsen. In March 1933 FDR’s first fireside chat announced a bank holiday and promised only the solvent banks would reopen and with support from the Reconstruction Act. Obama missed his chance but may get another.

Yves Smith August 20th, 2011 at 3:02 pm
In response to DWBartoo @ 75

Obama did a huge bait and switch in general, and in the financial arena. Remember when he was campaigning, how he made much of the fact that Paul Volcker was a big advisor, and by implication was going to have an important role of some sort? The he appoints Geithner as Treasury secretary and relegates Volcker to an equivalent of Siberia committee.

Yves Smith August 20th, 2011 at 3:03 pm

And Taylor Bean was ripping off bigger players in the system, so this wasn’t even to protect the public.

papau August 20th, 2011 at 3:03 pm

Afraid many folks disagree with your American Eterprise Inst. analysis of the contribution of the Democrats, of low income housing, of Barney Frank to the mess. Some of us actually followed te statistics over the years and are aware of the loss ratios on those “bad” low income loans – folks – the low income folks were not even close to a contributing cause

as to your one regulatory change ubder Clinton – a second or “independent” appraisal under HUD not required – it showed up as what increase in losses? Indeed investment purchases of sub-prime had what restrictions since the volume seem extremely low orior to te Bush years.

To be blunt, the only thing we agree on is the Federal Reserve under Greenspan and his and the GOP no regulations enforcement ideas lead to investment banks – banks not under GS – becoming the country’s chief source of Mortgage loans under Bush.

But that is not te narrative you are trying to sell, is it?

deleteme August 20th, 2011 at 3:03 pm

“People say it is hard to find criminal intent and that maybe all that was done was owing to incompetence.”
___

Reckless Endangerment.

Do that with an automobile and see what happens.

DWBartoo August 20th, 2011 at 3:04 pm

The rule of law is effectively … dead, on many levels, Gretchen, just as your new vile-maxim applies on many levels.

Do you foresee what amounts to an, essentially, “neofeudal” economy ahead for “the people” of this nation in this, the Age of the Divine Right of Money?

DW

Joshua Rosner August 20th, 2011 at 3:04 pm
In response to jest @ 79

Europe’s problems and ours are the same and the social unrest there has not yet come but it ultimately will. We are asking the populous to accept austerity for the over-lending and mal-investment of banks without first forcing losses on the bank capital structures.

Gretchen Morgenson August 20th, 2011 at 3:04 pm
In response to speakingupnow @ 69

I am not sure I can come up with five people. But I will say that Senator Carl Levin did a huge service with his hearings on the origins of the crisis at the Permanent Subcommittee on Investigations. They shed so much light on various practices and put so many documents in the public domain that they helped people to understand what had gone one. That is one way to make the world better.
I think Tom Hoenig, the outgoing president of the Kansas City Federal Reserve Bank is trying to change the world by talking openly about cutting big banks down to a size that is manageable.
Those are two people who have made a difference and can continue to.

masaccio August 20th, 2011 at 3:05 pm

There is plenty of evidence to convict the people who ran the private mortgage originators, but they are here today and gone tomorrow.

The people on Wall Street underwrote the garbage. They knew the loans were garbage, as you explain that in the book in nice detail.

Is there any sign that Preet Bharara even realizes they are subject at least to investigation?

Locking them up would be a good lesson. We could pay for it by releasing two pot smokers for every bankster we lock up. Sort of PAYGO.

GlenJo August 20th, 2011 at 3:05 pm
In response to Joshua Rosner @ 81

I hope you’re right – I tend to believe that Obama is willing to flush most of America to save Wall St and TBTF banks. The only thing which would force Obama’s hand is the re-election, and the current DC politics would have to swing amlost 180 degrees from austerity to real reform.

Do you think that can happen is such a short period of time? And with Wall St giving Obama billions?

Sixth Estate August 20th, 2011 at 3:05 pm

People don’t pay close attention to these issues. Many people were outraged about the bank bailouts when they happened, but now that everybody is talking about the US debt, they’re outraged about that.

Also, TV does a good job of shaping or diverting people’s outrage.

athena1 August 20th, 2011 at 3:05 pm

What was the motive of the people in charge at Freddie and Fannie in lowering the standards, etc? Are or were those individuals going through the “golden revolving door” between government and the big banks?

Peterr August 20th, 2011 at 3:05 pm
In response to Joshua Rosner @ 71

How would you describe the former head of FRBNY — Timothy Geithner? What was his attitude toward banking regulators while at FRBNY?

(Given the way he and Sheila Bair have butted heads, I’ve got a good idea about the answer . . .)

PPDCUS August 20th, 2011 at 3:07 pm
In response to Joshua Rosner @ 81

Obama missed his chance but may get another.

Real substantive change, not meaningless, 2012 re-election rhetoric?

Under what scenario?

Joshua Rosner August 20th, 2011 at 3:08 pm
In response to papau @ 84

Are you analyst? Did you see the crisis, the degradation of lending, the regulatory changes, the changes in the numbers? Why not begin your reading from something I wrote before there was even a PLS market:

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1162456

Nowhere do we suggest conforming/conventional were the worst products. Rather that they led the markets and seasoned MBS investors to accept private label crap.

deleteme August 20th, 2011 at 3:08 pm
In response to DWBartoo @ 86

“The rule of law is effectively … dead”
___

But The Rule of Gresham’s Law seems to continue to do just fun. And, even in a negative sum game, there are “winners.”

I just got a Kindle. I think this will be my first eBook purchase.

masaccio August 20th, 2011 at 3:10 pm
In response to papau @ 84

I think the book is fairly clear in doling out blame. You don’t have the Great Crash without the housing boom, and there is no doubt that Fannie and Freddie started that up with substantially lowered down payments and other missteps.

At least Fannie and Freddie had something that looked like underwriting standards. The rest of them, the 25 or so largest mortgage originators who did 85% of the mortgages in the mid-2000s, had no underwriting standards and no checks on the garbage loans. They made things so much worse than they would have been if only Fannie and Freddie had been involved.

The authors are quite clear about that, especially in the discussion of 2006/7.

Gretchen Morgenson August 20th, 2011 at 3:11 pm
In response to athena1 @ 92

Different people had different motivations. Some probably believed they were doing the Lord’s work, helping provide homes for people who might not otherwise be able to enjoy homeownership. But for high level executives, the motivation seems to have been lucrative paychecks which were of course available to them because of the huge implied government guarantee. As they grew their balance sheets, their paychecks also expanded. If you read the OFHEO report from May 2006 on the accounting scandal at Fannie (and it is a wicked good read) you will see how the exeecutives’ pay was central to the company’s every move.

Joshua Rosner August 20th, 2011 at 3:11 pm
In response to Peterr @ 93

From conversations all over DC, on both sides of the aisle and in most of the regulatory community, it seems the President is part of a very small group in Washington who see Sec. Geithner as a key asset.

deleteme August 20th, 2011 at 3:11 pm
In response to masaccio @ 97

Ahh…the NINJA loans. Yes.

Peterr August 20th, 2011 at 3:11 pm

What are the chances of the nominee for the CFPB head (a) being confirmed, and (b) joining Levin on that list?

Peterr August 20th, 2011 at 3:12 pm
In response to Joshua Rosner @ 99

Delicately put, Joshua!

Gretchen Morgenson August 20th, 2011 at 3:13 pm
In response to masaccio @ 97

So right about the woeful lending standards at many mortgage originators. But don’t forget that Countrywide Financial was Fannie Mae’s biggest supplier at the height of the bubble. Its biggest product for Fannie was called, and I kid you not, “The Fast-n-Easy.”

Yves Smith August 20th, 2011 at 3:14 pm
In response to Peterr @ 93

There is a March 2007 speech of Geithner’s on financial innovation which is very revealing. He claimed that you couldn’t roll innovation back and (basically) regulators could not supervise. No joke. It’s all very balanced and thoughtful-looking, but that was his bottom line, suitably coded.

Joshua Rosner August 20th, 2011 at 3:14 pm

The Freddie accounting report is also amazing and, when it was released, it provided me a blueprint of how they would investigate Fannie http://www.fhfa.gov/webfiles/749/specialreport122003.pdf

Sixth Estate August 20th, 2011 at 3:16 pm
In response to Joshua Rosner @ 50

Do the regulators who “get it” ever get promoted? Or does holding banks accountable lead to career-death in the regulatory agencies?

Gretchen Morgenson August 20th, 2011 at 3:16 pm
In response to Yves Smith @ 104

Nice for Timmy to tell us that regulators can’t supervise. What the heck are they there for?
There are so many wonderful speeches that he made as NYFed president extolling financial innovation. Really fun reading.

Gretchen Morgenson August 20th, 2011 at 3:17 pm
In response to Sixth Estate @ 106

Not sure about promotions for regulators who do their jobs but you can be sure that those who fail are not punished. There is just no penalty for failure in Washington.

deleteme August 20th, 2011 at 3:17 pm
In response to masaccio @ 97

“You don’t have the Great Crash without the housing boom”
___

In the early 90′s I was working in subprime risk modeling (VISA/MC issuer). In 2004 we got bought by a large Wall St. “bad paper” firm with whom we’d been doing charge-offs business.

My Sup came in one day to say the new marching orders would be “securitization.”

When the “recursive bundled paper-flipping fee model” spread all the way to real estate, well, it was inevitable.

I live in Ground Zero (Vegas).

deleteme August 20th, 2011 at 3:19 pm

Bill Black has some pithy observations about the over-matched regulators. e.g., IIRC, “you don’t get to dine with the King.”

Joshua Rosner August 20th, 2011 at 3:19 pm
In response to Yves Smith @ 104

I had a conversation with him right after he delivered this speech:
http://www.newyorkfed.org/newsevents/speeches_archive/2007/gei070515.html

I discussed my views of the coming crisis and offered him this supporting paper: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1027472

He essentially said “how sweet you are concerned but don’t be, the Captains of finance are in control”

Yves Smith August 20th, 2011 at 3:19 pm
In response to Sixth Estate @ 106

Read Bill Black’s The Best Way to Rob a Bank is to Own One. If I recall, he was either kicked out of one regulator or transferred to a different office as a sort of punishment. And that was when regulation was taken pretty seriously.

PPDCUS August 20th, 2011 at 3:20 pm

So how much better is the battle against regulatory capture today since the assault on Brooksley Born’s stand for financial transparency in the 1990′s? I’m not seeing it.

DWBartoo August 20th, 2011 at 3:21 pm

The very “people” who have benefitted make that claim, many of the rest of us do not, complicity, and self-interest are clearly evident and to suggest otherwise, to say, “who could have known” is blatant nonsense.

Members of Congress, notably John Kerry were informed on numerous occassion by very reputable economists, even if they are not in “favor”, of the truth of things.

Those of us in the “housing industry” tried, with no success, for years, to point out glaring disparities around “value” in the escalating price frenzy, knowing full well it must crash and was simply a contrived “bubble”. Congress was not interested, having taken intelligent consideration “off the table” along with a number of other things, Gretchen.

If incompetence, especially deliberate “incompetence” is not subject to consequence, then overt criminal behavior is simply boys (and girls) being boys … and hardly the stuff of genuine governance or even simple “honor”.

To excuse all that has happened in such fashion suggests that worse things are … certain.

What, then, will the excuse be? More of the same? And then, even more ’til viable civil society is simply a pathetic joke.

DW

Gretchen Morgenson August 20th, 2011 at 3:21 pm
In response to Yves Smith @ 112

Love that book. And believe it or not, some of the same regulatory numbskulls that were on hand during the S&L crisis were still at OTS this time around. Really amazing.

Joshua Rosner August 20th, 2011 at 3:22 pm
In response to Yves Smith @ 104

Particularly interesting that it seems there has really been no financial innovation and few real economy-of-scale advantages from banks becoming larger. The efficiency gains the big banks supposedly gained in the decade of consolidation before the crisis appear to have come not from real efficiencies but from corner cutting (see mortage securitization process and foreclosure process as example).

Peterr August 20th, 2011 at 3:22 pm
In response to Yves Smith @ 104

But that was 2007, and no one could have anticipated . . .

/snark

Link to speech here (via NC): http://www.nakedcapitalism.com/2007/03/new-york-fed-president-timothy.html

deleteme August 20th, 2011 at 3:22 pm
In response to Yves Smith @ 112

Yeah, I have that book. Bill Black is Sensei.

Yves Smith August 20th, 2011 at 3:22 pm
In response to Joshua Rosner @ 111

My extremely limited dealing with Geithner lead me to believe he is too smart not to know that a lot of what he peddles is tripe…and that leads you to the conclusion that he’s a sociopath. But he’s charming and wily enough that few people take that possibility seriously.

GlenJo August 20th, 2011 at 3:22 pm

Indeed, using Secretary Geithner as a model, one could make the reverse argument that failure to regulate is one of the keys to promotion. Add in giving Wall St whatever it wants, and you’re pretty much described the American public’s perception of our current Treasury secretary – lap dog of the MOTUs.

Gretchen Morgenson August 20th, 2011 at 3:24 pm
In response to PPDCUS @ 113

The battle against regulatory capture is being lost every day it seems. One of the most pernicious aspects of Dodd Frank was its delegation to the regulators to write some 400 rules that financial operators will have to live by. This gave lobbyists two bites of the Dodd Frank apple. They got to manipulate the process when the law was working its way through Congress, and now they are getting another opportunity as the regulators write its rules. Nice.

deleteme August 20th, 2011 at 3:24 pm
In response to Joshua Rosner @ 116

“financial innovation”
___

I love that phrase. It has essentially come to mean ever-more artful ways to fleece the rubes.

Joshua Rosner August 20th, 2011 at 3:25 pm
In response to PPDCUS @ 113

If they can’t supervise it is only because the Board cant oversee them, managements cant operationally manage them, analysts cant analyze them and counterparties are supposing they must be ok because otherwise regulators would take supervisory action. The ones that he is talking about (mostly NY Fed charges) are just to darn big.

Gretchen Morgenson August 20th, 2011 at 3:26 pm
In response to Yves Smith @ 119

Tim Geithner charming? My meetings and calls with him must have occurred when he was having a bad day. Then again, maybe getting a call from me is his definition of having a bad day.

Yves Smith August 20th, 2011 at 3:26 pm
In response to DWBartoo @ 114

I worked off and on in Wall Street in the 1980s. People were greedy and cut corners now and again, but most people, and the people in charge at the big firms knew there were limits. John Gutfreund and three other senior guys were forced to leave Salomon in what, 1992?

By contrast, the corruption is stunning. And it extends well into what is now called the elite (notice if you had used the word “elite” three years ago, you’d be seen as at least an Alex Jones level crank). Look at how many journalists and bloggers engage in what amounts to Administration and banking industry stenography.

fiscalliberal August 20th, 2011 at 3:28 pm

When did private label phase out and the gse’s step in

Gretchen Morgenson August 20th, 2011 at 3:28 pm
In response to Yves Smith @ 125

AMEN Yves.

DWBartoo August 20th, 2011 at 3:28 pm
In response to Yves Smith @ 119

The sociopathic elite, Yves.

The rest of us have a fundamental right, as members of civil society, to protect ourselves from concentrated “accumulations” of great wealth or great power, and our future on this planet depends, quite literally, upon that truth being recognized and acted upon.

DW

Peterr August 20th, 2011 at 3:28 pm

In April 2010, a joint report by the inspectors general of the FDIC and Treasury on the failure of Washington Mutual recommended that “For large institutions such as WaMu that by their sheer size pose a high risk to the DIF, we believe FDIC should not have to prove a particular level of risk to the primary regulator to obtain access to the institution’s information, as the institution’s risk of failure and the resulting potential impact on the DIF should be enough to allow FDIC access to information it needs to assess risk of loss.”

Three months later, the FDIC got what the IGs recommended.

In your research for the book, have you seen/heard anything about how this has changed the regulatory climate?

Yves Smith August 20th, 2011 at 3:29 pm
In response to vegasboomer @ 122

OK, I’m gonna be bad and quote ECONNED:

But opacity, leverage, and moral hazard are not accidental byproducts of otherwise salutary innovations; they are the direct intent of the innovations. No one at the major capital markets firms was celebrated for creating markets to connect borrowers and savers transparently and with low risk. After all, efficient markets produce minimal profits. They were instead rewarded for making sure no one, the regulators, the press, the community at large, could see and understand what they were doing.

realitychecker August 20th, 2011 at 3:29 pm

I am familiar with your work, and have great respect for you, but must say I think you are too kind on this call. Consider that the exact same pattern has manifested in virtually every other industry subject to regulation, and then ask yourself again whether the answer can possibly NOT be about corruption. Of course it is. Large corporations have corrupted every level of our political and economic systems, I believe irremediably so. The more details one knows, the more convinced must one become. I must agree with DW Bartoo, above, that class warfare is really the only honest and accurate way to describe what we have been witnessing. How ironic that the class which has all but won that war still deems it unacceptable to mention its existence. But those on the losing end really need to start calling it what it is. Class warfare. Big money against little people.

fiscalliberal August 20th, 2011 at 3:29 pm

Joshua – I have your 2007 papers – where do we get a list of your publications. Any updates since 2007?

Yves Smith August 20th, 2011 at 3:30 pm
In response to fiscalliberal @ 126

It was the reverse. GSEs were first, private label paper started in the late 1980s, really ramped up in the mid 1990s. The first mortgage securitization was Ginnie Mae in what, 1970?

Joshua Rosner August 20th, 2011 at 3:30 pm
In response to Yves Smith @ 15

Second liens are subordinate to firsts, they are the only debt instruments in the credit world where a second lien on collateral can be placed without first informing or getting permission of the primary collateral lender. So, most private label securitizations hold first liens and most of the second liens are held by the big four banks. All of these (firsts and seconds) are serviced by affiliate servicers of the biggest banks. If the first lien had its principal reduced the investors would expect (rightfully) that the seconds would be extinguished. So the servicers affiliated with the banks would rather not support a principal write-down program that would force them to take losses on mis-marked second liens. First lien-holders would always rather a 20% write-down to a 70&+ loss in a foreclosure.

deleteme August 20th, 2011 at 3:31 pm
In response to Yves Smith @ 130

Oh!!! Yes!!!

Indeed.

PPDCUS August 20th, 2011 at 3:31 pm

Counterparties can’t be trusted to act responsibly in a rigged game where winners win, and losers are secretly bailed out in the dead of night.

Real financial transparency would be millions of ordinary people asking why the emperor has no clothes.

DWBartoo August 20th, 2011 at 3:31 pm
In response to Yves Smith @ 125

My experience with those working on Wall Stree in the eighties confirms what you say.

To your second paragraph, I can only say, amen!

DW

Joshua Rosner August 20th, 2011 at 3:32 pm
In response to fiscalliberal @ 126

Private label had a small life as a limited product in the mid 1990′s but blew up in the wake of the Russian debt crisis (prepayments rose due to refi and killed the accounting game being played). Otherwise the PLS market began to really grow in late 2001 and blew up as the crisis began to unfold as Wall St couldn’t sell private label MBS into CDO’s anymore.

texan99 August 20th, 2011 at 3:33 pm
In response to masaccio @ 80

You also discuss the role of Congress. One of the main supporters of Fannie and Freddie was Democratic Congressman Barney Frank, who didn’t move away from them until 2010.

The odd thing was the number of Republican legislators, including Baker of Louisiana, who tried hard to rein in the activities of the GSEs.

Do you think the Republicans were harder on the GSEs than the Democrats, and do you have any idea why so many of them were leading the charge to regulate?

I was hoping the authors would respond to this comment and question.

Joshua Rosner August 20th, 2011 at 3:34 pm
In response to fiscalliberal @ 132

Lots of updates, mostly shorter and primarily for clients. Some of the speeches (such as the Roosevelt Institute Conference speeches) and Testimony can be googled. I can share some if you contact me.

DWBartoo August 20th, 2011 at 3:34 pm
In response to Yves Smith @ 130

That is a big BINGO!!!

Thanks, Yves, for so saying. It is VERY much appreciated.

DW

PPDCUS August 20th, 2011 at 3:34 pm
In response to Yves Smith @ 119

Geithner’s not likely to pay for his deliberately legalized crimes. Nope — no Ted Bundy justice for Tim.

Gretchen Morgenson August 20th, 2011 at 3:35 pm
In response to PPDCUS @ 136

Agreed. That’s one of the reasons Josh & I wrote Reckles$…so that people would understand a bit of what happened. But we are so obviously headed to a very bad place with these extend and pretend practices of banks, with regulators allowing everybody to kick the can down the road, and with dead-of-night bailouts a given. How do we turn this thing around?

DWBartoo August 20th, 2011 at 3:37 pm

Great to “see” you, here, rc. I’m verra glad you could make it to this excellent Book Salon.

;~DW

Yves Smith August 20th, 2011 at 3:38 pm
In response to Joshua Rosner @ 138

Yes, subprime 1.0 as you call it was a small market. But I thought the real reason it blew up was the CDO ponzi blew up. IIRC Chris Ricciardi then as later managed to jump ship right before the first gen CDOs (which admittedly weren’t as heavily subprime as the later versions, they had mixed collateral, but the flip side is they didn’t need to take as much to keep the smaller party going) blew up a bit later than that… later than 1998.

Joshua Rosner August 20th, 2011 at 3:38 pm
In response to texan99 @ 139

Honestly, the Republicans were largely the same as the Democrats. Even on the Republican side there were very few who didn’t protect the GSEs. Bush went after them half-heartedly. Remember, Bush asked for the Resignation of the Head of the GSEs regulator only 24 hours after he presented Senators with a Systemic Risk report on the GSEs. The only Republicans I can think of other than Baker who really were aggressive in trying to stop what they saw as risks at the GSEs were Shelby, Hagel, Dole and Sununu.

Gretchen Morgenson August 20th, 2011 at 3:38 pm
In response to texan99 @ 139

Some among the Republicans seemed to be a little more aggressive where Fannie and Freddie were concerned–but even Baker wound up getting nowhere in his battles. One reason for that was the head of financial services committee, Michael Oxley, didn’t care about reining in the GSEs. So you had a few Republicans fighting the fight (trying to get disclosure of executive pay at Fannie, was one such battle for Baker!) but not getting far.

athena1 August 20th, 2011 at 3:39 pm

What do you think the next big thing to happen will be? And are you in touch with any journalists? Or are only a few journalists like Matt Taibbi even interested?

greenwarrior August 20th, 2011 at 3:39 pm
In response to PPDCUS @ 67

I’m wondering if the authors or Yves have a response to PPDCUS’s question.

sybille August 20th, 2011 at 3:39 pm
In response to Yves Smith @ 125

I think that’s true for terms like “class warfare” and “Marxism,” too, along with “elite.” Public discourse seems to be loosening up a bit in that respect.

deleteme August 20th, 2011 at 3:39 pm
In response to DWBartoo @ 141

Yeah.

“no one, the regulators, the press, the community at large, could see and understand what they were doing.”

e.g., two words: Gaussian Copula

Asian cat with a math PhD, what’s not to love? Just nod admiringly to fake that you understand it.

Anytime I see the name “Gauss” associated with some non-physical phenomenon, I hand reflexively slides over my wallet.

DWBartoo August 20th, 2011 at 3:40 pm

That is the largest question. Can it be turned around?

Or must we wait until everything crashes, and we rebuild civil society anew?

On firmer, more humane and just foundations …

What do you think, Gretchen, what do you imagine?

DW

Peterr August 20th, 2011 at 3:40 pm

Criminal investigations.

Limiting the process to civil investigations has turned the fines and settlements into just another business expense. Until bank CEOs, ratings agency managers, and investment fund chiefs face the prospect of incarceration for fraud, misrepresentation, and theft, nothing will change.

Given the actions of the DOJ and SEC, I’m not holding my breath.

DWBartoo August 20th, 2011 at 3:41 pm
In response to vegasboomer @ 151

;~DW

Joshua Rosner August 20th, 2011 at 3:41 pm
In response to Yves Smith @ 145

No, it blew up because of the gain on sale accounting assumption which drove fictitious earnings that were based on assumptions that blew up with the flight to quality in the wake of the debt crisis.

It is worth noting that “subprime” then was typically a borrower with a blemished credit history who had to put down a larger down-payment and pay a higher rate but on what were usually very standard products. You could say that in Subprime 1.0, subprime was defined by the borrower and in Subpprime 2.0 it was the product.

greenwarrior August 20th, 2011 at 3:41 pm
In response to greenwarrior @ 149

And here’s the question:

Except for the April 2009 FASB rule change & federal chartering as banks bellied up to the zero percent Fed window, which TBTF financial players aren’t actually insolvent, then or today?

PPDCUS August 20th, 2011 at 3:42 pm

It depends whether we think the thing in need of turning around, more resembles the Titanic or the Hindenburg?

What’s the likelihood the nexus of Wall Street & both ends of Pennsylvania Avenue will stop until Main Street America’s life blood is terminally extracted into the financial economy?

Gretchen Morgenson August 20th, 2011 at 3:43 pm
In response to athena1 @ 148

I am a journalist Athena1–at the NYT. Matt Taibbi does a wonderful job cutting to the chase in his stories and his latest is a great one. But so many journalists are afraid to question the powerful and won’t do the necessary digging to get at the real truth. Very unfortunate. And once the story moved to Washington, land of access journalism, a lot of the good reporting vanished.

Yves Smith August 20th, 2011 at 3:43 pm
In response to Joshua Rosner @ 146

I would assume it had a lot to do with their constituencies. Shelby has been anti-Wall Street, pro small and medium sized banks, and skeptical re innovation. He can still be an industry tout, but he is a lot less bad than most.

DWBartoo August 20th, 2011 at 3:44 pm
In response to Joshua Rosner @ 155

Spot on, Joshua!

DW

GlenJo August 20th, 2011 at 3:44 pm

That’s the million dollar question, isn’t it?

Our “political system” seems to have failed. Both political parties have not acted.

Our “free market” also seems to have failed. Self-regulation only seems to function in the fertile minds of the Chicago school.

What does that leave?

Joshua Rosner August 20th, 2011 at 3:45 pm
In response to DWBartoo @ 152

The largest impact of this housing crisis is ahead of us and will be a real disaster with serious social strains. The largest generation in american history is headed to retirement with less equity in what has historically been their largest retirement and intergenerational wealth transfer asset. This will happen at the same time that our Treasury is forced to cut social safety-net programs. Rather than supporting the creation of discreet incentives to save for their own financial futures the Government is trying to force further indebtedness on households (benefitting banks).

Gretchen Morgenson August 20th, 2011 at 3:46 pm
In response to DWBartoo @ 152

Honestly DW, I thought this crisis was going to be big enough to get everybody’s attention and begin the process of creating a more sane and humane society. Am stunned that was not the result because this seemed like the Big Kahuna to me.
What happens next cannot be good.

Yves Smith August 20th, 2011 at 3:47 pm
In response to PPDCUS @ 157

IMHO, they aren’t gonna stop voluntarily. We are gonna have another financial crisis. It’s inevitable with the bad industry structure (too much tight coupling) and all the bad incentives towards undue risk taking in place. Look at how the industry is howling over (and trying to roll back) paltry and inadequate increase in capital requirements. You need really massive capital buffers if you don’t fix the structure and the incentives.

DWBartoo August 20th, 2011 at 3:47 pm

A very important truth, Gretchen, the fourth estate has failed, in spectacular fashion, being reduced to tabloid senstionalism and merest “entertainment”. But again, this did not happen by accident, I hold, but by design and deliberate intent, starting with Reagan’s cynical ending of the Fairness Doctrine …

DW

Joshua Rosner August 20th, 2011 at 3:47 pm
In response to Yves Smith @ 159

He also saw peers go to jail in the wake of the S&L crisis and understood that it is better not to pass legislation that does nothing than to pass legislation that pretends to fix a problem but leaves us open to crisis and scandal.

deleteme August 20th, 2011 at 3:48 pm
In response to GlenJo @ 161

“Individualists of the world, UNITE!”

- Ayn Rand, late 1940′s, writing from her Irony-Free Zone.

DWBartoo August 20th, 2011 at 3:49 pm
In response to Joshua Rosner @ 162

Another big BINGO!

DW

Gretchen Morgenson August 20th, 2011 at 3:49 pm
In response to Joshua Rosner @ 162

Your point on government encouraging the buildup of debt among consumers could not be more important. Why doesn’t the government encourage the creation of equity in a home? Sometimes it seems like the govt wants us to be indentured servants. Awful.

Yves Smith August 20th, 2011 at 3:51 pm

What do you think is going to happen when BofA goes terminal?

Dodd Frank restricts TARP-style bailouts, and I don’t see this Congress (or any successor with enough Tea Party representation) falling for the Paulson on bended knee to Pelosi routine.

Peterr August 20th, 2011 at 3:52 pm

Well put.

Any other journalists you’d like to praise? Among the online media covering the financial world, who do you look to for great insights and strong analysis?

One of my regular stops is Bill McBride at Calculated Risk.

realitychecker August 20th, 2011 at 3:52 pm
In response to Yves Smith @ 130

Bingo. End of story.

Joshua Rosner August 20th, 2011 at 3:53 pm
In response to sybille @ 150

The “Old” Wall St was quite different. Partnerships with real financial exposure among partners resulted in generally conservative risk tolerances.

GlenJo August 20th, 2011 at 3:53 pm
In response to vegasboomer @ 167

Updated for the 00′s:

Teabaggers like taking it from the Cock brothers!

Did I spell that right?

Yves Smith August 20th, 2011 at 3:54 pm
In response to Joshua Rosner @ 173

Most of the old farts I know are outraged. One of my buddies is friends of the Weinberg family (Sydney turned the Goldman into a powerhouse, and his son John was a co-chariman in the 1980s) and they are apparently distraught at what has happened to the firm.

BevW August 20th, 2011 at 3:54 pm

As we come to the end of this lively Book Salon,

Gretchen, Josh, Thank you for stopping by the Lake and spending the afternoon with is discussing your new book and the financial crisis.

Yves, Thank you very much for Hosting this great Book Salon.

Everyone, if you would like more information:

Reckles$ Endangerment

Gretchen’s website

Josh’s website

Yves’ website – naked capitalism

Sunday’s salon
Maria Armoudian / Kill the Messenger: The Media’s Role in the Fate of the World
Hosted by Spocko

Thanks all,
Have a great evening.

Just quick reminder:
Membership drive! Are you an FDL member? If not, please join and help keep FDL delivering kick ass activism and independent journalism. You can join HERE.

Joshua Rosner August 20th, 2011 at 3:55 pm
In response to Yves Smith @ 170

I don’t think they are insolvent. The Fed will create more liquidity and new lending products to them and ultimately since the TBTF’s are highly interconnected and correlated, we will see the same “go to Congress and get money” approach we saw before.

athena1 August 20th, 2011 at 3:56 pm

Oh, I thought you were an unusually eloquent economist!
Were you on the Daily Show a while back?

It’s really bizarre that this stuff isn’t on TV, like, every day.

It seems that another storm is on the horizon regarding big bank solvency, and it would be nice if during round #2, actual experts like yourself, Yves, Bill Black, etc had some way to communicate with the unblogged masses on TV. Atleast Dateline, 60 minutes, or even al jazeera (even though that’s only online in the US.)

This stuff is so complicated that I think a lot of people get lost and confused before they get outraged. And the masses need to outraged for things to change.

speakingupnow August 20th, 2011 at 3:56 pm

I think after decades of the “greed is good” philosophy, many people are immune to what were once considered basic moral values. Which is why in part there should have been immediate convictions and jail time. Instead, the message was the wealthiest among us can set the rules and play whatever games necessary to win.

Yves Smith August 20th, 2011 at 3:56 pm
In response to Joshua Rosner @ 177

They aren’t now, but the mortgage litigation is gonna kill them unless they BK Countrywide, and they still have fraudlent conveyance problems, it won’t be a clean out. They have to BK Countrywide, but it won’t end the cloud over the bank

DWBartoo August 20th, 2011 at 3:57 pm

We are in total agreement, Gretchen.

Other than a Great Educational Outreach, and compelling narratives which might allow the many to “feel” what a better society would be like, I envision great pain, terrible demagoguery, and a consideable Dark Age.

I hope I am wrong, but fifty year’s of observation prevent me from anything but hopes that we might recognize our common humanity in time …

The planet is losing its capacity to support human life and we find ourselves caught in a madness of selfish idiocy and mean, small-minded “belief”.

Nonetheless, I do imagine that reason may out, IF and only IF, we regain a viable fourth estate and a commitment to undestanding beyond our own personal “benefits”.

Our myths are killing us … and we must give up our easy comfort and overweening hubris.

This has been a great Book Salon, Gretchen, and I thank everyone here for their worthy and useful contributions.

DW

foppe August 20th, 2011 at 3:58 pm

That seems somewhat overstated, if I may be so bold. The drive towards suburbanization in the US has very likely been a huge creator of economic stability, as it allowed for the sinking of enormous amounts of money into investments that take a very long time to pay off. (Ignoring for the moment that is, among other things, terrible for the environment because it forces everyone to use cars, lawnmowers, etc.)
The problem with the current crisis, it seems to me, was that it happened during a period in which the market was already largely saturated on the one hand, while the median wage wasn’t rising any more on the other.

Sixth Estate August 20th, 2011 at 3:58 pm

Were their many/any credit unions that were active participants in predatory loans, hiding risks on their books, lax lending standards, and other financial malfeasance? Or were the bad practices driven by the different incentives that exist at for-profit banks and mortgage originators?

jest August 20th, 2011 at 3:58 pm

And once the story moved to Washington, land of access journalism, a lot of the good reporting vanished.

Can you expound further on that? It sounds like you are implying locale affects the quality of journalism.

Most would assume the DC bureau would be more thorough, but you believe the opposite? Any anecdotes? (Name names!!)

PPDCUS August 20th, 2011 at 3:58 pm
In response to Yves Smith @ 164

Follow the money & the power

It’s a systemic feature, not an occasional bug, designed for one purpose – Disaster Capitalism.

When will we finally acknowledge that capital formation on Main Street America, i.e. credit to businesses, creating on-shore jobs, rebuilding infrastructure & competitiveness in the global economy, is little more than a cruel joke today?

realitychecker August 20th, 2011 at 3:59 pm
In response to DWBartoo @ 144

Seems like the place to be today. I must say that the factual background provided here is one of the very best I’ve seen. It’s so necessary to see beyond the political tribalism, and understand that big money operates for more money, no matter whether there is a D or an R after the name.

Yves Smith August 20th, 2011 at 4:01 pm
In response to jest @ 185

I hate to speak for Gretchen, but I’m told by other journalists that the access discipline is absolute in DC, you don’t get to see anyone if you don’t play by the officialdom’s rules. By contrast, in New York, a lot of the key people are more accessible (and some in finance are egocentric enough to think they can win over skeptics).

bigbrother August 20th, 2011 at 4:02 pm

Welcome, Joshua and Gretchen. And thank you Yves for your diligence I check your site evry day and learn hugely.
I have not read this book but intend to. May I point out until the housing/mortgage mess is straightened out and the 9.5 months of inventory are resold we will not have a recovery.
The securitization of junk mortgages was done by a Wall street mill that made huge fees and profits. They knew at the top management eschalon they were crashing the economy. I am a lay person and smelled it in 2005 (lost my house in the 80′s housing bubble. Chris Cox was SEC head and turned the other way as the bilking grew under Bush II.

Yves Smith August 20th, 2011 at 4:03 pm

I want to thank Gretchen and Josh for coming here today, and everyone on the thread for their great questions!

Peterr August 20th, 2011 at 4:03 pm

Many thanks to Gretchen, Joshua, and Yves for a wonderful discussion!

I look forward to more from all three of you!!!

realitychecker August 20th, 2011 at 4:06 pm
In response to Peterr @ 153

Every fleshie criminal would love to be able to just pay a fine and avoid incarceration when caught. I guess corporate personhood just doesn’t extend that far as to allow them to be incarcerated. But it is “equal protection” that corporate personhood is all about, isn’t it? Just a poor lawyer here. A fleshie lawyer. http://my.firedoglake.com/realitychecker/2011/08/20/fleshies/

PPDCUS August 20th, 2011 at 4:07 pm
In response to DWBartoo @ 165

It failed …. upward, DW — with due respect to today’s guests, when the media owners of the Fourth Estate identified their new audience as those who control governmental regulation & financial largess — the leveraged buyout was completed.

deleteme August 20th, 2011 at 4:07 pm
In response to bigbrother @ 189

“The securitization of junk mortgages was done by a Wall street mill that made huge fees and profits. They knew at the top management eschalon they were crashing the economy. I am a lay person and smelled it in 2005″
___

Me too. I’m mostly a “lay person,” but I blogged about my take on it in my “Tranche Warfare” and subsequent posts after I quit a subprime bank.

The joke at the bank was “The Best Things in Life are FEE!”

athena1 August 20th, 2011 at 4:08 pm

Thank you Gretchen, Joshua, and Yves!

deleteme August 20th, 2011 at 4:08 pm
In response to athena1 @ 195

Second that.

jest August 20th, 2011 at 4:09 pm
In response to Peterr @ 191

Yes, agreed. Thanks so much to the participants for visiting the Lake.

PPDCUS August 20th, 2011 at 4:10 pm

Thank you, Gretchen, Josh & Yves for a really great discussion today.

DWBartoo August 20th, 2011 at 4:10 pm
In response to PPDCUS @ 193

Yes, controlling the “discussion” was a great and significant victory for the elites, PPDCUS … and it continues apace …

DW

speakingupnow August 20th, 2011 at 4:11 pm

I, and many others, really appreciate the research and “searching for the truth” done by Yves (Susan), Gretchen and Joshua. Thank you.

DWBartoo August 20th, 2011 at 4:12 pm

My especial thanks, to Gretchen, Joshua, Yves, and Bev and the same to all the rest of you … firedogs and firebaggers!

;~DW

PPDCUS August 20th, 2011 at 4:14 pm

Yves — your site is an outstanding resource for information & perspective.

VMT August 20th, 2011 at 4:18 pm

Thanks.

juliania August 20th, 2011 at 10:18 pm

Just to say this was an excellent appraisal of where we are and where we are heading; well done all. This really is an amazing site.

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