Ayn Rand must be rolling over in her grave. As a staunch defender of laissez-faire capitalism the one warning she gave us was of irrational selfishness and so it appears that she was right. Greed and stupidity on both the suppliers and the demanders has led us to this turning point where now the hard working, honest, and responsible heroes, of the like in Ayn Rand’s novels, are forced to bail out those who have failed. I read today Senator Dodd, Democrat of Ct. suggested to expand the bailout beyond forclosed mortgages to credit card and personal debt. Isn’t that wonderful? And what do the rest of us who have lived up to the demands of the American Promise get in return…less money for schools, hospitals, and infrastructure? Greater debt and taxes for our children? Loss of our social security and medicare benefits? Declining values on our homes?
While I remain confident in the philosophy of laissez-faire capitalism as socialism offers nothing for those of us who believe in hard-work and individual accountabiliy, I am increasingly losing confidence in the moral and ethical behavior of Americans who we depend on for the survival of our free markets. Many have seemingly lost the virtues of frugality, patience, and honesty that make capitalism work (for everyone)and replaced them with greed and need for immediate gratification. While some can blame a society that worships a materialistic hollywood and a rampant consumerism with unfettered advertising and loose morals, I believe the blame also falls onto an entitlement mentality which is fostered by an ever expanding liberalism. A liberalism that makes the claim that society is to blame for all problems and therefore society is responsible for solving all problems. This mentality has diminished individual accountability and has fostered a greedy and lazy attitude amongst many Americans.
While certainly our Republican friends have fed into the greed and exploitation of the stupid, I believe that the basic philosophy of the conservatism remains a sound one that has unfortunately been ignored by capitalists and vote-hungry politicians perhaps to the point where the demise of the system that supports them will occur. If so, this pulling of the rug is well deserved.. What happened to the Abe’s and the Teddy’s who believed in doing the right thing instead of the politically expedient?
I read a very interesting article this morning from Time which was posted on CNN. I found it to be one of the better commentaries on the bailout subject as it noted the ironies of our American Capitalism. It is entitled, “How We Became The United States of France.” Here are some exerpts you might enjoy:
“This is the state of our great republic: We’ve nationalized the financial system, taking control from Wall Street bankers we no longer trust. We’re about to quasi-nationalize the Detroit auto companies via massive loans because they’re a source of American pride, and too many jobs — and votes — are at stake. Our Social Security system is going broke as we head for a future where too many retirees will be supported by too few workers. How long before we have national healthcare? Put it all together, and the America that emerges is a cartoonish version of the country most despised by red-meat red-state patriots: France. Only with worse food.”
“The average American is working two and half jobs, gets two weeks off, and has all the employment security of a one-armed trapeze artist. The Bush Administration has preached the “ownership society” to America: own your house, own your retirement account; you don’t need the government in your way. So Americans mortgaged themselves to the hilt to buy overpriced houses they can no longer afford and signed up for 401k programs that put money where, exactly? In the stock market! Where rich Republicans fleeced them.”
“In bailing out mortgage lenders Fannie Mae and Freddie Mac, our government has basically turned America into the largest subsidized housing project in the world. But the bulk of French homeowners are curiously free of subprime mortgages foisted on them by fellow citizens, and they aren’t over their heads in personal debt.”
“We’ve always dismissed the French as exquisitely fed wards of their welfare state. They work, what, 27 hours in a good week, have 19 holidays a month, go on strike for two days and enjoy a glass of wine every day with lunch — except for the 25% of the population that works for the government, who have an even sweeter deal. They retire before their kids finish high school, and they don’t have to save for a $45,000-a-year college tuition because college is free. For this, they pay a tax rate of about 103%, and their labor laws are so restrictive that they haven’t had a net gain in jobs since Napoleon. There is no way that the French government can pay for this lifestyle forever, except that it somehow does.”
“Now the U.S. is faced with the same prospect in the auto industry. GM and Ford need money to develop greener cars that can compete with Toyota and Honda. And they’re looking to Uncle Sam for investment — an investment that could have been avoided had Washington imposed more stringent mileage standards years earlier. But we don’t want to interfere with market forces like the French do — until we do.”
“Even in the strongest sectors in the U.S., there’s no getting away from the French influence. Nothing is more sacred to France than its farmers. They get whatever they demand, and they demand a lot. And if there are any issues about price supports, or feed costs being too high, or actual competition from other countries, French farmers simply shut down the country by marching their livestock up the Champs Elysee and piling up wheat on the highways. U.S. farmers would never resort to such behavior. They don’t have to: they’re the most coddled special interest group in U.S. history, lavished with $180 billion in subsidies by both parties, even when their products are fetching record prices. One consequence: U.S. consumers pay twice what the French pay for sugar, because of price guarantees. We’re more French than France.” (the manure mafia??)
“So yes, while we’re still willing to work ourselves to death for the privilege of paying off our usurious credit cards, we can no longer look contemptuously at the land of 246 cheeses. Kraft Foods has replaced American International Group in the Dow Jones Industrial Average.”
It’s as hard to argue with the comments made in this article as it is to vote a Republican Party that has lost its way during the Bush Presidency. The recent failures in our economic system expose the darker side of capitalism which has left me a bad of a taste in my mouth. At the same time however, I fear for a society that is turning towards socialistic policies. Especially with wide open boarders and a globalized world that will demand the efficiency and competitive edge that only capitalism offers in order to succeed. So I feel let down and I feel as though the virtues once held high by our founding fathers and fought for by my grandfathers are now succombing to forces out of my control and neither party seems to care. What went wrong? We should all be asking this question and thinking about honest answers to it before we support any solution to it this November.
Taxpayer
Taxpayer –
Ayn Rand is dead. Of course if she weren’t dead, I am sure we agree, she would probably blow her own brains out over this one. I mean this is really bad. But it is a management problem, not an ideological or moral problem.
Speculative “bubbles” have been occurring in the financial markets since the famous Dutch “Tulip Craze” of the 17th century. And America has not had a “free market” since Hamilton convinced the Continental Congress to Federalize the colonies’ bad Revolutionary War debt. Two centuries later, we are Federalizing the banks’ bad mortgage debt. The basis for these decisions, like the Latin American debt crisis of the 70′s; the Savings and Loan crisis of the 80′s; the Mexican debt, Russian bank collapse, Long Term Capital Management crises of the 90′s – is the same. The alternative is likely to be worse – a self-reinforcing cycle of collapsing credit and economic depression – like the 1930′s. And this problem is at a scale where it poses “systemic risk” i.e., a few institutions can pull the whole system down – and quickly. Japan is now emerging from a 20 year economic downcycle because they never wrote down their over-valued bank assets from the 1980′s. We are better off facing the music, and, unfortunately, socializing the cost, and restarting the credit markets and then growing our way out of it. Its not like we haven’t done it before.
FNMA and the Federal Home Loan Bank Board were created in the 1930′s to, respectively, (i) provide a secondary market to purchase home mortgages; and (ii) insure deposits and proper regulation of savings and loans to provide home mortgages. This provided for recovery of the homebuilding and financing industry in the 1930′s and the basis for its massive expansion after WWII. FNMA was sold by the USG in 1967 to supply cash to finance the Vietnam war, but implicit government guarantees of its performance allowed its securities to sell at an interest rate discount which provided FNMA the cheapest money available – so it came to completley dominate the secondary mortgage market, and has grown massively with the homebuilding industry since.
In 1978, at the behest of Wall Street, the USG raised insurance on deposits from $20k to $100k per account, and deregulated the S&L industry, allowing it take in deposits at no risk to depositors and invest beyond home mortgages, into commercial real estate, a much more profitable but complex industry. The S&L’s began to be purchased and combined with funds raised by Wall Street, but without expertise in their new industry, and no regulation of their investment activities, these new behemoths overextended credit and created a speculative commercial real estate bubble. The Feds stepped in in 1988 with the RTC, seized the banks and their assets, then hired Wall Street firms to liquidate the assets on a securitized basis, eventually recovering about two-thirds of their costs.
After completion of this task, the Wall Street firms used this securitization process to package increasingly larger pools of new commercial real estate equity and debt investments for sale to insurance companies, banks and pension funds, including around the world. Then they applied the new financial instrumentation to the secondary home mortgage pools supplied by FNMA. This allowed banks to make mortgages, sell them, and turn around and make more mortgages. This bascially provided a huge excess of capital for the homebuilding industry that in itself pushed up home values. It all worked as long as values were rising – a classic speculative bubble.
So Wall Street took over a stable industry devoted to home financing industry, changed its mission, ruined it, then in the next upcycle, took over the home mortgage fiannce industry it displaced, and ruined that. Making money the whole time. And there is no recourse to the people who did this. Sarbanes-Oxley and fraud statutes are made moot by the covenants of the trading documents. They got away with it.
Its easy to preach “laissez-faire” – but you have to be willing to live with the consequences. The cause of much of this is actually deregulation of what had been a very stable financing system for the home-building industry. What we got was a more dynamic capital formation system, but that dynamic has downcycles as well as upcycles. And there is value over the long term from the better organization of our capital markets. So as a practical matter its not a matetr of “more” or “less” regulation – its the right regulation.
Since we are going to “cut and paste” our way to the next prez
here is some more reading…
DB
‘Crony’ Capitalism Is Root Cause Of Fannie And Freddie Troubles
By TERRY JONES
INVESTOR’S BUSINESS DAILY | Posted Monday, September 22, 2008 4:30 PM PT
Indeed, Democrats have so effectively mastered crony capitalism as a governing strategy that they’ve convinced many in the media and the public that they had nothing whatsoever to do with our current financial woes.
Barack Obama has repeatedly blasted “Bush-McCain” economic policies as the cause, as if the two were joined at the hip.
Funny, because over the past 8 years, those who tried to fix Fannie Mae and Freddie Mac — the trigger for today’s widespread global financial meltdown — were stymied repeatedly by congressional Democrats.
This wasn’t an accident. Though some key Republicans deserve blame as well, it was a concerted Democratic effort that made reform of Fannie and Freddie impossible.
The reason for this is simple: Fannie and Freddie became massive providers both of reliable votes among grateful low-income homeowners, and of massive giving to the Democratic Party by grateful investment bankers, both at the two government-sponsored enterprises and on Wall Street.
The result: A huge taxpayer rescue that at last estimate is approaching $700 billion but may go even higher.
It all started, innocently enough, in 1994 with President Clinton’s rewrite of the Carter-era Community Reinvestment Act.
Ostensibly intended to help deserving minority families afford homes — a noble idea — it instead led to a reckless surge in mortgage lending that has pushed our financial system to the brink of chaos.
Subprime’s Mentors
Fannie and Freddie, the main vehicle for Clinton’s multicultural housing policy, drove the explosion of the subprime housing market by buying up literally hundreds of billions of dollars in substandard loans — funding loans that ordinarily wouldn’t have been made based on such time-honored notions as putting money down, having sufficient income, and maintaining a payment record indicating creditworthiness.
With all the old rules out the window, Fannie and Freddie gobbled up the market. Using extraordinary leverage, they eventually controlled 90% of the secondary market mortgages. Their total portfolio of loans topped $5.4 trillion — half of all U.S. mortgage lending. They borrowed $1.5 trillion from U.S. capital markets with — wink, wink — an “implicit” government guarantee of the debts.
This created the problem we are having today.
As we noted a week ago, subprime lending surged from around $35 billion in 1994 to nearly $1 trillion last year — for total growth of 2,757% as of last year.
No real market grows that fast for that long without being fixed.
And that’s just what Fannie and Freddie were — fixed. They became a government-run, privately owned home finance monopoly.
Fannie and Freddie became huge contributors to Congress, spending millions to influence votes. As we’ve noted here before, the bulk of the money went to Democrats.
Dollars To Dems
Meanwhile, Fannie and Freddie also became a kind of jobs program for out-of-work Democrats.
Franklin Raines and Jim Johnson, the CEOs under whom the worst excesses took place in the late 1990s to mid-2000s, were both high-placed Democratic operatives and advisers to presidential candidate Barack Obama.
Clinton administration official Jamie Gorelick also got taken care of by the Fannie-Freddie circle. So did top Clinton aide Rahm Emanuel, among others.
On the surface, this sounds innocent. Someone has to head the highly political Fannie and Freddie, right?
But this is why crony capitalism is so dangerous. Those in power at Fannie and Freddie, as the sirens began to wail about some of their more egregious practices, began to bully those who opposed them.
That included journalists, like the Wall Street Journal’s Paul Gigot, and GOP congressmen, like Wisconsin Rep. Paul Ryan, whom Fannie and Freddie actively lobbied against in his own district. Rep. Cliff Stearns, R-Fla., who tried to hold hearings on Fannie’s and Freddie’s questionable accounting practices in 2004, found himself stripped of responsibility for their oversight by House Speaker Dennis Hastert — a Republican.
Where, you ask, were the regulators?
Congress created a weak regulator to oversee Freddie and Fannie — the Office of Federal Housing Enterprise Oversight — which had to go hat in hand each year to Capitol Hill for its budget, unlike other major regulators.
With lax oversight, Fannie and Freddie had a green light to expand their operations at breakneck speed.
Fannie and Freddie had a reliable coterie of supporters in the Senate, especially among Democrats.
“We now know that many of the senators who protected Fannie and Freddie, including Barack Obama, Hillary Clinton and Christopher Dodd, have received mind-boggling levels of financial support from them over the years,” wrote economist Kevin Hassett on Bloomberg.com this week.
Buying Friends In High Places
Over the span of his career, Obama ranks No. 2 in campaign donations from Fannie and Freddie, taking over $125,000. Dodd, head of the Senate Banking panel, is tops at $165,000. Clinton, ranked 12th, has collected $75,000.
Meanwhile, Freddie and Fannie opened what were euphemistically called “Partnership Offices” in the districts of key members of Congress to channel millions of dollars in funding and patronage to their supporters.
In the space of a little more than a decade, Fannie and Freddie spent close to $150 million on lobbying efforts. So pervasive were their efforts, they seemed unassailable, even during a Republican administration.
Yet, by 2004, the crony capitalism had gone too far. Even OFHEO issued a report essentially criticizing Fannie and Freddie for Enron-style accounting that let them boost profits in order to pay their politically well-connected executives hefty bonuses.
It emerged that Clinton aide Raines, who took Fannie Mae’s helm as CEO in 1999, took in nearly $100 million by the time he left in 2005. Others, including former Clinton Justice Department official Gorelick, took $75 million from the Fannie-Freddie piggy bank.
Even so, Fannie and Freddie were forced to restate their earnings by some $3.5 billion, due to the accounting shenanigans.
As we noted, those who tried to halt this frenzy of activity found themselves hit by a political buzz saw.
President Bush, reviled and criticized by Democrats, tried no fewer than 17 times, by White House count, to raise the issue of Fannie-Freddie reform. A bill cleared the Senate Banking panel in 2005, but stalled due to implacable opposition from Democrats and a critical core of GOP abettors. Rep. Barney Frank, who now runs the powerful House Financial Services Committee, helped spearhead that fight.
Now, with the taxpayer tab approaching $1 trillion or more, we’re learning the costs of crony capitalism.
In the coming days, an IBD series will look into this phenomenon in greater detail — how we got here, who’s responsible, and why nothing was done.
Thank you for the excellent historical perspective of the problem. I agree that this is not inherently an ideological problem. However, the change in policy towards greater government regulation supports a keynesian economic system that fundamentally differs from pure laissez-faire. More importantly, what I was trying to convey, is that the recent events have challenged my own ideological beliefs about capitalism. Thanks again for the information. You really should consider teaching some day.
DB,
I am looking forward to the coming days where we may get information that provides greater insight into how we got into this mess. Thank you for posting.
Snuffy,
In re-reading your post, I appreciate your closing comments which offer some encouragement. While certainly there is value for the long term with better organized capital markets and “right” regulation, I remain only cautiously optimistic. While you state that this is not an ideological problem but a management problem, my fear is that this is going to become a political problem and political ideology will be firmly supplanted into it or at the very least spun into it. I see this happening already and this is discouraging. What are your thoughts?
DB – This is all basically true, but have no doubt, Fannie/Freddie have provided a steady supply of campaign cash to both sides for four decades,…(see Snuffy’s new article. Admin).
Taxpayer –
If you are talking about Obama and McCain, this whole exercise demonstrates that neither one of them has any idea what is happening, why it is happening or what to do about it. A little scary.
There is a backlash developing about the bailout with some arguing the bailout is not needed based on the whole/pieces of Merrill Lynch, Lehman, Bear Stearns being picked up. Others argue for a more equitable approach capping executive pay, taking equity in the companies bailed out, and re-setting terms of subprime mortgages for current homeowners which are at the root of the problem.
I still support a bailout based on the lockup in interbank and short term credit last week – the last step to a meltdown. But I would require equity stakes and the Dutch auction approach with oversight of the Treasurer’s transactions. Maybe a tax on the financial industry if the taxpayers do not get their cash back.
One thing is certain – the entire regulatory structure will be reconstructed to insure Wall Street does not have access to the public’s funds for their speculative exercises, which, when they explode every five years, are brought to the taxpayers for an institutional bailout. I mean, enough is enough.
Almost everyone will be affected by the current financial crisis.
Most people agree that a federal bail out is necessary.
No one wants those who are obviously culpable to walk away with more money in their pockets.
This is really getting interesting as the list of private sector takeovers grows:
1. JP Morgan buys Bear Stearns.
2. Barclays buys Lehman IB.
3. Nomura buys Lehman Europe/Asia.
4. Bank of Amercia buys Merrill Lynch.
5. Buffet buys control of Goldman
6. Wachovia in discussions to buy Morgan Stanley.
7. JP Morgan buys Washington Mutual (largest S&L in U.S.)
Wall Street is bought out in a week – it is simply breathtaking. It would be more than amusing if the Congress deadlocks on the federal bailout plan in this “emergency” and the markets get back to work on their own.
Congress did not pass the federal bailout plan. The markets will now get back to work on their own. It will not, however, be an “amusing” period.
Harry –
The markets will always get back to work . . . in the long run. But as Keynes famously put it, “in the long run we are all dead”.
You may be right and I am hearing this same sentiment from a lot of experienced people. But I would probably hedge my bet and buffer the impending downcycle with a package, albeit aimed more directly at over-leveraged homeowners and, if necessary, the commercial paper/short term business lending markets.
Its going to be very interesting to watch this.