Sunday, October 05, 2008

Yes, it's still largely the fault of the state

A few days ago, A Very British Dude (who is a stockbroker and who thus knows a bit about said things) wrote a post—echoing mine—that emphasised the state's role in the credit crunch.
Of course we all know that markets were never unregulated. And I suspect that at the root of many crises of capitalism is some badly thought out regulation. Let's face it, the regulators were still encouraging, nay demanding sub-prime lending well into the Noughies through the Community reinvestment act which judged banks by how much credit they were lending to poor, ethnically diverse communities, especially if they wanted to consolidate. That is sub-prime lending was demanded by the regulator. Think about that for a bit....

So the federal government, and the Regulators in the UK were encouraging irresponsible lending - actively stoking a bubble, whilst the regulators where not asking the question "what happens when house prices fall?". Meanwhile the incentive was for salesmen to ride the train and hope to jump off before it crashed. Everyone knew house prices would fall. What was the regulator doing to protect markets from such an event? Nothing - they were busy making sure that forms were filled in correctly. Making sure that poor people weren't getting honest advice but were driven into the arms of piece-work salesmen pedalling Capital asset pricing model crap according to criteria laid out by... you guessed it... the Regulator.

Just to emphasise the point, here is a long and rather excellent article in The Spectator pointing out precisely the same thing.
Our current financial turmoil is not the fault of greedy bankers, says Dennis Sewell. In fact, the banks were bullied into lowering their lending standards by left-wing idealists intent on equal opportunities at any cost
...

The main thrust of the Clinton housing strategy was to increase home ownership among the poor, and particularly among blacks and Hispanics. White House aides, in familiar West Wing style, could parrot the many social advantages that would accrue: high levels of home ownership correlated with less violent crime, better school performance, a heightened sense of commun-ity. But standing in the way of the realisation of this dream were the conservative lending policies of the banks, which required such inconvenient and old-fashioned things as cash deposits and regular repayments — things the poor and minorities often could not provide. Clinton told the banks to be more creative.

Meanwhile, Ms Achtenberg, a member of the kickass school of public administration, was busy setting up a network of enforcement offices across the country, manned by attorneys and investigators, and primed to spearhead an assault on the mortgage banks, bringing suits against any suspected of practising unlawful discrimination, whether on the basis of race, gender or disability. Achtenberg believed racism was a big factor in keeping minorities from enjoying the same level of home ownership as whites. She doubted if much could be done to change people’s attitudes on racial matters, but she was confident she, in cahoots with Attorney General Janet Reno, could use the law to change the behaviour of banks.

However, when little or no overt or deliberate racial discrimination was discovered among the mortgage lenders, HUD’s investigators turned to trying to prove ‘disparate treatment’ of minority groups, a notion similar to that of unintentional ‘institutional racism’. If a bank refused loans to proportionally more black applicants than white ones, for instance, the onus would fall on it to prove it had good grounds for doing so or face settlement penalties running into millions of dollars. A series of highly publicised cases were brought on this basis, starting in 1994. Eventually the investigators would turn somewhat desperately to ‘disparate impact’, a form of discrimination so abstract and rarefied as to be imperceptible to its supposed victims, and indeed often only discernible at all through the application of multivariate regression analysis to information stored on regulators’ databases.
...

These mortgage banks, which have been responsible for issuing about three quarters of the dodgy subprime loans that are proving troublesome today, quickly took the hint. From the mid-1990s they began to abandon their formerly rigorous lending criteria. Mortgages were offered with only 3 per cent deposit requirements, and eventually with no deposit requirement at all. The mortgage banks fell over one another to provide loans to low-income households and especially to minority customers. In the five years from 1994 to 1999, the number of African-American and Latino homeowners increased by two million.

The national banks, responsible for the remaining quarter of the current subprime loans, were put under a different kind of pressure by the Clinton team to boost their low-income and minority lending too. Changes were made to the Community Reinvestment Act to establish a system by which banks were rated according to how much lending they did in low-income neighbourhoods. A good CRA rating was necessary if a bank wanted to get regulators to sign off on mergers, expansions, even new branch openings. A poor rating could be disastrous for a bank’s business plan. It was a different kind of coercion, but just as effective. At the same time, the government pressed Freddie Mac and Fannie Mae, the two giants of the secondary mortgage market, to help expand mortgage loans among low and moderate earners, and introduced new rules allowing the organisations to get involved in the securitisation of subprime loans. The first package was launched in 1997 in collaboration with Bear Stearns.

I do suggest that you read the article, which also points out that the Democrats happily blocked any moves by the Bush government to try to stop this fucking ludicrous state of affairs.

Of course, if you are John B, you will play the race card instead, and claim that the Community Reinvestment Act had no effect and that the mention of it is...
... purely an excuse for half-mad bigoted clowns with no understanding of the way the crisis unfolded to blame it on the darkies.

This comment is, of course, a strikingly ignorant thing to say: no one is blaming it on the darkies. Many people want to own their own home and what with darkies being people an' all, I am sure that, once given the opportunity, they happily leapt at it (as did many honkies). After all, our economies were growing, right? Even if that mortgage was a bit much for you when you took it out, your wages would have risen in a few years and you could be comfortable again, eh?

No, we are blaming it on those who effectively forced banks to abandon good lending criteria, i.e. the governments. If John B would like to assert quite why all of this would have no effect on the credit crisis, then maybe he would like to tell us why he is right and we are all racists?*

Of course, it isn't that black and white (if you'll forgive the pun). As Jackart points out, and I will happily agree, the bankers were themselves rather greedy—happily pursuing said sub-prime customers and then selling the bad debt on in order to cover their arses. There was a lot of greed and a lot of stupidity in the banking world, for sure.

It should also be pointed out that there was a lot of greed and stupidity in the world of the punters too, of course. As I said long ago, no one forced people to take on massive amounts of debt that they couldn't repay.

But what do you expect in a society where owning your own home seems to be regarded as some sort of Human Right? What do you expect when we live in a society in which the government is perfectly happy to take money off the poor in order that people, who cannot really afford to buy their first home, can be subsidised to do so?

Well, what I expect is for people not to be so fucking unwise (and screamingly selfish) and learn that they won't be fucking well bailed out with the income of the prudent if they screw it up, but that ain't going to happen.

It's a wonderful fucking situation, is it not? On the one hand, you have the moron who happily gets himself in debt up to the eyeballs; on the other hand, you have the prudent person who doesn't take on massive debt, who spends only within their means—being frugal whilst the moron lives the high life.

Suddenly, the moron finds that he cannot repay his debts and might lose everything—and what happens? That's right, the government decides that they should steal more money off the prudent person, in order that the moron might continue to live the high life.

Now, that's fucking justice for you, eh? And what lesson are people going to take from this? Is it going to be that only spending within your means is sensible and that, just maybe, if you can't afford stuff, then you shouldn't actually buy it? No, it isn't.

The lesson learned is that you may as well spend, spend, spend, and if the crunch comes, the benevolent government will jump in and bail you out—with money that it has extorted from the less stupid—and you can just fucking well carry on as before.

Wow. That's really going to help in terms of learning a lesson, eh?

Let us hope that someone has learned a lesson from the credit crunch. Because if those laws and practices that led to the current insanity are not abolished, it is going to happen again. And again. And again.


UPDATE: *John B replies in the comments.
Because there's no evidence at all that the US discrimination regulations had any impact on the crash (loans made under the CRA criteria have lower nonperforming rates than the average mortgage portfolio), whereas there's a lot of evidence that the structure of the US mortgage market massively incentivised unwise loans to be made at all income levels and to all ethnic groups.

The crunch has been stereotyped as "lend money to unemployed black guys to buy their hovel before it falls down, then sell on the loans". But that's not really accurate - the far bigger point is that middle-class people (for UK values of middle-class) were also offered and took more credit than they could afford, stoking up the bubble. And that had absolutely fuck all to do with anti-discrimination laws.

I don't think that any of us are saying that it is solely the fault of the CRA, but that the CRA did provide an environment that allowed much of this to happen. John follows up his comment...
See this academic study [PDF] on the differences between CRA loans and other loans. In short, CRA loans constituted only 23% of all loans and 9.2% of high-cost loans; CRA loans were twice as likely to be retained in the originating bank’s portfolio than loans made by other institutions; and CRA loans were less likely to be foreclosed upon than other loans.

Many CRA loans were, of course, effectively underwritten by the state and so the banks would happily hold onto them.

It is, however, worth pointing out that the study referenced by John B is nearly a year old—published, as it was, on January 7, 2008—and the situation may have changed since then (especially since the collapse of Freddie and Fanny, and other banks, have occurred since then).

UPDATE 2: the conclusion of the academic study [PDF] cited by John B states...
Conclusion

Our study suggests that without the CRA, the subprime crisis and related spike in foreclosures might have negatively impacted even more borrowers and neighborhoods. Compared to other lenders in their assessment areas, CRA Banks were less likely to make a high cost loan, charged less for the high cost loans that were made, and were substantially more likely to eschew the secondary market and hold high cost and other loans in portfolio. Moreover, branch availability is a key element of CRA compliance, and foreclosure rates were lower in metropolitan areas with proportionately greater numbers of bank branches.

Prior to the foreclosure crisis, some had suggested that the boom in subprime mortgage lending, by easing access to credit for LMI borrowers, rendered the CRA irrelevant or obsolete. However, the demise of subprime lending, even if only temporary, and the lower proportion of high cost loans made by CRA Banks even when the subprime market was thriving, suggest that the CRA still has a vital role to play.

Of course, CRA Banks, even in their own assessment areas, have a relatively small portion of the mortgage market. In the 15 metropolitan areas analyzed, the CRA Bank market share of all loan originations was less than 25 percent, limiting the law’s impact on the subprime crisis.

Because the vast majority of mortgage lending is done by other entities, some have suggested extending CRA-like obligations to other lenders as a way of limiting the volume of high cost loans and the problems associated with them. While extending the CRA to bank affiliates and subsidiaries that lend in the bank’s community may have some merit, we believe that the presence of local brick and mortar branches was as important a reason for CRA Banks’ better performance than fear of a less than satisfactory CRA evaluation.

Branches demonstrate a bank’s commitment to and investment in a community. The on-going interaction between bankers and residents that occurs at a deposit-taking branch provides insight into credit needs that may enable banks to make more reliable assessments of borrowers’ creditworthiness and to avoid making loans that are likely to default. In addition, by providing
borrowers with a convenient location at which to apply for mortgage loans, branches may serve as a magnet for attracting creditworthy borrowers. Without a branch nexus, it is doubtful whether the same benefits can be realized for other lenders.

Make of that what you will, but it does seem that John B is correct. To say that everyone who is not in his sector might be blaming it on the CRA because they are racists is still, however, a lazy and, at least from my point of view, offensive argument (yes, yes, I know: pot... kettle... etc.).

So, we need to look at the other factors affecting this: we also do need to point out that the state does not remain blameless—the regulation on discrimination excesses quoted in the Spectator article are verifiable.

It is also worth pointing out that this study is, nevertheless, still out of date.

14 comments:

James Higham said...

In fact, the banks were bullied into lowering their lending standards ... by the finance which now controls all. This is only a brief comment but there is more than ample substantiation.

John B said...

"If John B would like to assert quite why all of this would have no effect on the credit crisis, then maybe he would like to tell us why he is right and we are all racists?"

Because there's no evidence *at all* that the US discrimination regulations had any impact on the crash (loans made under the CRA criteria have *lower* nonperforming rates than the average mortgage portfolio), whereas there's a lot of evidence that the structure of the US mortgage market massively incentivised unwise loans to be made at all income levels and to all ethnic groups.

The crunch has been stereotyped as "lend money to unemployed black guys to buy their hovel before it falls down, then sell on the loans". But that's not really accurate - the far bigger point is that middle-class people (for UK values of middle-class) were also offered and took more credit than they could afford, stoking up the bubble. And that had absolutely fuck all to do with anti-discrimination laws.

JuliaM said...

Don't blame John B for playing the only card his kind knows how to play when all their carefully-built house of same comes tumbling down upon them.

Might as well blame a scorpion for stinging... ;)

John B said...

See this academic study on the differences between CRA loans and other loans. In short, CRA loans constituted only 23% of all loans and 9.2% of high-cost loans; CRA loans were twice as likely to be retained in the originating bank’s portfolio than loans made by other institutions; and CRA loans were less likely to be foreclosed upon than other loans.

John B said...

Oh, and go fuck yourself, JuliaM.

JuliaM said...

Ah, the Left - home of high discourse and carefully-reasoned argument... ;)

John B said...

Well yeah, I do both of those, and /then/ I tell idiots to go and fuck themselves. It's more satisfying that way...

(any comment on the actual, y'know, data showing that blaming the crunch on the CRA is complete nonsense? Anyone? Bueller?)

Tim said...

On top of the US govt. pushing for increases in sub-prime mortages being taken on, the govt. over here has - though slightly less explicitly - been pushing banks for a many years to do the same.

On top of this, if it wasn't for so much competition regulation then Northern Rock would have been taken over by Lloyds TSB several months before the main 'credit crisis' hit home last year, and so saved an awful lot more mess as well.

So thank fuck for all the demands for more regulation, eh?

And by the way, john b, 'sub-prime' applies to a lot more lending than purely to the black people who you assume present the most risk/won't return the money they borrowed.

John B said...

"To say that everyone who is not in his sector might be blaming it on the CRA because they are racists is still, however, a lazy and, at least from my point of view, offensive argument (yes, yes, I know: pot... kettle... etc.)."

Yes, that is unfair on my part. I've been reading a lot of US commentary on the crunch over the last week [*], where a lot of commentators have used the CRA issue as a cover for some very very obvious racism (www.sadlyno.com has been keeping a tally), so I'm more inclined than I otherwise would be to perceive not-very-informed blaming of the crisis on the CRA as dodgy.

Based on his general writings I completely accept that's not true in DK's case; not quite so sure for everyone commenting on Obnoxio's post...

[*] also known as "gardening leave plus desperate attempt to work out what the fuck's going on..."

Obnoxio The Clown said...

CRA loans were less likely to be foreclosed upon than other loans

... because they had a copper-bottomed state guarantee?

purplepangolin said...

How much of the current crisis is driven by loans that actually are not performing and how much be the fear of them not performing in future?

I am surprised that the CRA loans have a lower default rate than the average and I imagine that many investors would be suspicious of a bank that still had a large number of these on its books. This may not be fair if, as john b says, they are not that risky but the perception is what matters at the moment.

Anonymous said...

The salient point is that the CRA legislation lowered lending criteria for everyone (regardless of ethnicity), it created a secondary market for the loans through FM and FM enabling non CRA loans to use the CRA lending criteria to underpin their own sub-prime loans.

Anonymous said...

The Federal Reserve Bank and its mates have been playing in a different park for over ten years.

These OTC ( Over The Counter ) Shadow Exchanges are wholly unregulated and unreported.

Mortgage derivatives, et al, have been passed thru Dark Pools; not even the banks themselves know what their liabilities are.

These processes seem to have been tested and developed by ENRON.

link 1

link 2

A good example of an unregulated derivatives market is the London ICE, there is also Turquoise and Fidessa.

link 3

All the major institutions have Dark Algorithm Systems to facilitate OTC e-trade.

JP Morgan - Neowest
Goldman Sachs - Sigma X
Morgan Stanley MS Pool
UBS - PIN ATS
Lehmans - LXSM
AES / Credit Suisse - Crossfinder

Trixy said...

Reinsuring a mortgage in the USA from Freddie Mac or Fannie Mae did seem to be rather like getting a US Treasury Bill.

Still, I thought that derivatives markets were unregulated and that the main problem was that the value of the assets was unrealistic because they were valued not market to market but market to model and when that changed, for example the other week with Bradford and Bingley, the house of cards tumbled.