Mucking Through Data
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Every time the phrase “too big to fail” is uttered, a community banker silently weeps.
Not that major banks necessarily should or shouldn’t have been saved, but that the phrase is so fraught with the importance and austere nature of major banks that it must make anybody who knows any better break down in fits of laughter and/or tears.
A million stories have been written trying to explain how the world of mortgages, mortgage-backed securities, and collateralized debt obligations work and, yes, it is all very complicated.
But the gist seems to be missing, which is that the lending approach of the major banks is a gargantuan mess.
Maybe Fannie and Freddie should have been more diligent in which mortgages they underwrote and not giving bonuses on commission for quantity. And maybe the ratings agencies should have scrutinized the underlying mortgages of the securities they were giving AAA ratings to, rather succumbing to grade inflation and rubber stamping everything.
And maybe banks shouldn’t have been selling complex derivatives based on all of these securities without knowing full well what the underlying risks were.
And maybe the originators like Countrywide should have scrutinized the mortgages they were handing out and whether they were ideal investments to borrowers with legitimate credit or not.
But that’s not how mortgages work with the major lending most of the time. The whole point is to just get the mortgage out the door as quickly as possible, hand it off to somebody else as quickly as possible and play musical chairs with it until it all falls apart.
It’s the complete opposite from the community banking premise of “know your customer,” where the lender knows what they are getting into, who the borrowers are, and what the investment is.
It’s not just trying to dump cash as quickly as possible and get the hell out of town before anybody realizes that they lent millions for investment property in an isolated slot of townhomes off the interstate in the middle of nowhere.
The big banks are the ones awash in incentives and sales commissions and loose money needing to push the Glengarry leads or they are threatened with working retail like the rest of the schleps.
Not that all community banks are saints who only lend responsibly, but it’s something symptomatic of the smaller banks by and large that often doesn’t exist in the larger ones.
The origination is where it all starts. Sure, some of the banks probably knew that certain securities were overvalued and overrated and they intentionally sold them and bet against them (see: Abacus) and maybe there should have been more prosecutions.
But based on the cases brought, there was little evidence showing any knowledge that the MBSs were toxic. Probably because if someone did know, they were smart enough not to chat about it on email, text, or any other form that could be subpoenaed.
Senator McCain was the one who pointed the finger at community activists ACORN for pushing subprime lending to lower income minority borrowers. But ACORN was a giant red herring.
First off, much of the foreclosure crisis didn’t affect lower income borrowers or minority borrowers. The vast majority of those affected were white, many middle class.
By the mid-2000s, ACORN was practically non-existent as far as housing advocacy. The organization was embroiled in a multi-million dollar embezzlement scandal related to its president. That’s a lot of money for an advocacy group. Did they have any money left to assist homeowners?
ACORN did lobby Countrywide to reach out to lower income lenders, but ACORN’s focus always involved heavy-handed debt consultations. They went through all of your finances and tried to figure out how to make home ownership work by connecting recipients with government assistance programs.
ACORN did lobby for all kinds of federal housing assistance in the 60s and 70s, probably for much of what became public housing which definitely didn’t end well, but that wasn’t related to the financial crisis.
What would happen with many of the houses from the foreclosure crisis is that the banks took them over and resold them, often making a tidy profit in the process, like in the case of Indymac.
Which calls into question the whole premise about what started the financial crisis. Because it was supposedly driven by a drop in housing prices.
Because housing prices in the US never go down, except for this one time. But how were banks able to resell these houses so easily after foreclosure? Mainly because housing prices have since recovered as if the crisis never happened.
Then what triggered the collapse? All signs point to changes in the LIBOR rate—that other scandal that happened to coincide with the financial crisis.
LIBOR almost directly controls adjustable interest rates. And when the LIBOR rate made a sharp increase, all those people with adjustable rate mortgages that may have been sitting on them for decades without a significant change in rates saw a huge swing.
That giant swing in interest rates might be painful for those just holding their finances together. It might mean giving up the investment property off the highway to foreclosure.
TARP was supposedly there to keep people in their homes, and it did for some, but there’s plenty of criticism showing that it wasn’t really used effectively and some banks got away without doing much to keep people in their homes.
But again, this is where the community banking approach comes to mind. Banks shouldn’t be forced to negotiate with borrowers by the government. It’s in their interest to have borrowers stay in their home.
Then again, there are tons of other purges that happened during the crisis that haven’t really been answered properly. There was the mass firing that drove the spike in unemployment, the auto crisis and mass migration of auto industry jobs to Mexico and Canada, giant swings in currency values with our trading partners, the law school crisis, Lehman and Repo 105, and probably a few more that I can’t think of right now.
But in the end, one wonders how Dodd-Frank, with its push for more compliance managers and stress testing was intended to fix all of this.