Thursday, October 9, 2008

Westchester Guardian/Catherine Wilson.

Thursday, October 9, 2008

Catherine Wilson, Bureau Chief
Northern Westchester

Solving the Economic Crisis:
Is It Even Possible?

The recent events on Wall Street and in Congress have left many local residents wondering how it will affect them personally. But how did
this mess get started in the first place? What happened to all the controls and regulations set in place after the Great Depression to prevent this type of debacle from happening again?

Some of the blame lies with the deregulation of the banking industry. In 1999, pushed by Federal Reserve Chairman Alan Greenspan, President Clinton signed the Financial Services Modernization Act (FSMA) which allowed for the integration of banking, insurance, and stock trading companies, a segregation that had been put in place in 1933. Prior to the FSMA, banks, brokerages and insurance companies
were barred from each others’ industries, and investment banking and commercial banking were separated.

FSMA was passed after substantial industry lobbying in Congress; approximately $300 million was spent by the lobbyists in total. The chairman of the Senate Banking Committee at the time, Texas Republican Phil Gramm, collected more than $1.5 million alone from the three industries involved. Opponents to the bill warned, “The bill ties the banking system and the insurance industry even more directly to the volatile United States stock market, virtually guaranteeing that any significant plunge on Wall Street will have an immediate and catastrophic impact throughout the United States Financial system.” (source:

Regulation of the banking industry had already started disappearing in the 1980’s under President Reagan and the Savings and Loan bailouts
(S&L’s). For those Guardian readers who purchased homes in the early 1980’s and prior, you were subject to 20% down-payments, intense credit and employment checks, and regulations limiting your mortgage and property tax payments to 28% of your gross monthly income; your total personal credit outstanding, including car loans, credit cards, and student loan payments could not exceed 33% of your monthly gross income. If you had less than a 20% down payment, you were required to take out ‘mortgage insurance’ to guarantee your payments.

Foreclosures were almost unheard of except in extreme unfortunate cases. But after the Reagan deregulations, new home owners could be
offered variable-rate mortgages, mortgages that were interest only for the first few years, mortgages with low introductory rates, even mortgages with no down payment. Subprime lenders bragged that no income verification or credit checks were required for their mortgages.

Television infomercials boasted how individuals could make a fortune from skyrocketing housing prices on houses purchased for investment with ‘no money down’ mortgages. The mortgage companies also targeted individuals with bad credit histories and people who could not afford the debt they were taking on. In 2006, it was estimated that 60% of all new mortgages were ‘subprime’. (source: Robert Kuttner ‘The American Prospect’).

With such a lack of collateral and credit supporting these mortgages, the writing was on the wall for an economic collapse. Between 2004 and
2006, Alan Greenspan, as Chairman of the United States Federal Reserve, increased interest rates from 1% to 5.35%. Homeowners with low ‘teaser’ or variable rates on their mortgages faced significantly higher payments once the higher interest rates kicked in. With higher payments, default rates on sub-prime loans; high risk loans to clients with poor or no credit histories, started to rise. (source: BBC Business reports).

In mid-to late 2007, mortgage companies, faced with increasing foreclosure rates, started collapsing and filing for bankruptcy. Other banks that had purchased mortgages from these companies felt the domino effect; the mortgages were worth less, or indeed, completely worthless, so the banks’ assets were in turn worth less, making it more difficult for them to borrow and lend.

In July 2007, Bear Sterns announced that it could no longer borrow from other banks and its hedge funds had plunged in value. In August
2007, the European Central Bank pumped over $400 billion into the banking system to improve liquidity following the news from BNP Paribus, a European bank, that investors could not withdraw their funds due to an ‘evaporation of liquidity’, meaning that the global banks were refusing to do business with each other.

The United States Federal Reserve immediately stepped in and dropped interest rates to entice lending and borrowing. It proved to be too little, too late as global banks announced major losses; several banks collapsed or were bought out by others. The remaining global banks cut back on lending to other banks based on concerns over lending to banks with risky mortgage investments, or on concerns for their
own survival. Throughout the Fall of 2007 and the Spring of 2008, the Federal Reserve called several emergency sessions and continued to cut rates further to stem the worldwide hemorrhaging.

By February 2008, Robert Reich, Secretary of Labor under President Clinton, was warning of an even greater threat to the global banking
environment: “Decades of United States government deregulation of Wall Street has reaped a whirlwind of irresponsible speculation. It’s ending in a financial meltdown that’s being remedied by government ownership, with all the strings that come with government ownership.

And it’s not even OUR government that’s holding the strings.” Reich was referring to the rash of global banks being snatched up by foreign investors. As Reich noted last February: “There’s no end in sight for the credit crisis, and Middle Eastern and East-Asian ‘sovereign wealth
funds’ are in the process of owning a larger and larger portion of the global banking system”. In June of this year, the Qatar Investment Authority announced plans to invest £1.7 billion in Barclay’s Bank U.K., giving them a 7.7% share in the business. One of the main reasons therefore, why Congress is considering a buyout package for the United States banking system, is to keep our banks in United States hands
and out of the hands of foreign governments and foreign investors.

The job losses at the banks and mortgage companies, concurrent with the job losses in the housing and construction sectors, and the domino impact on other industries has now given rise to the highest unemployment figures since 1994 – in September, the United States Department of Labor announced that over 6% of the United States population is currently out of work, this situation is actually worse since unemployment numbers are traditionally ‘low-balled’ as they only count individuals currently collecting unemployment, i.e., people actively
looking for work. They do not include individuals who have given up due to lack of employment in their field, such as the banking or housing construction industries, and/or taken menial jobs in the interim. In just the past three weeks, several major banks have either filed for bankruptcy, Lehman Brothers, or have been taken over in emergency buyouts by other banks, Washington Mutual, Merrill Lynch, and the Benelux governments of Belgium, the Netherlands, and Luxemburg did a joint takeover of the European banking and insurance giant, Fortis.
In mid-September, the United States Federal Reserve stepped in again and announced an $85 billion rescue package for AIG, the largest
United States insurance company, in effect, a nationalization of this company since the government would get an 80% stake in AIG in return.

Britain followed suit last week with the nationalization of their major mortgage lender, Bradford & Bingley. It still was not enough. The United States Congress was forced to step forward with a $700 billion rescue plan to ‘provide authority for the Federal Government to purchase and insure several types of troubled assets for the purposes of providing stability to and preventing disruption in the economy
and financial system and protecting taxpayers, and for other purposes” (source: Emergency Economic and Stabilization Act of 2008).

On September 29, the United States Congress failed to pass the rescue plan. The global banks now face a major concern regarding how individual banks can handle the mortgages they’ve absorbed from failing banks and when the global banking industry can return to ‘normal’ operations.

In response, the Belgian, French, and Luxemburg governments guaranteed an additional €6.4 billion ($9 billion) to failing banks on September
30th. That same day, the Irish government voted in favor of a €400 billion ($600 billion) to guarantee all deposits, bonds and loans, in the country’s main banks for two years.

The Irish Prime Minister, Mr. Brian Cowen, was quoted as saying “The option of doing nothing, of not making a move, would put at risk the
entire stability of the Irish financial system.” Which begs the question, if a small country like Ireland can guarantee $600 billion for the deposits of its citizens, albeit now giving their banks a lending advantage over other global banks, including United States institutions,
what is our Congress doing to protect us in this crisis?

That is the question on the minds of many local residents. The purpose of the bailout plan is to protect the average individual since its aim is to prevent a complete fallout of the investment and financial community. Any local resident who owns investments or a pension plan would suffer severe losses if the stock markets and banks tumble further; most pensions are heavily invested in the stock market, including bank stocks.

In addition, while the bailout plan allows for Treasury Secretary Hank Paulson to buy up the dubious mortgage investments held by the banks, the United States taxpayers would get a non-voting stake in the banks to act as an investment. If the banks recover from this crisis, taxpayers would make a profit. However, if they do not, then the financial services industry would absorb the costs.

The bailout plan also calls for financial institutions to take insurance policies against future losses on mortgage- backed securities. Of concern to average taxpayers are the incredible bonuses doled out by the financial industry. The bailout plan places limits on salaries and golden parachutes; the huge severance payments paid executives when leaving a company, are supposed to be eliminated.

Finally, as the Irish Prime Minister correctly noted, the cost of doing nothing is far worse. As the global financial markets have already seen, if the United States does not act, other countries will, further jeopardizing our banks and our economy. If the United States banks cannot
borrow money to lend out to investors, those investors will turn to other sources, such as the now-solvent Irish banks, for their business, causing an even greater decline in the our banking system with a still greater loss of jobs.

The $700 billion needed for this bailout would not be raised through taxes. Instead, the government had intended to borrow the money from
world financial markets by granting the Treasury the authority to issue an additional $700 billion worth of Treasury notes. On the plus side, once the housing market stabilizes, the Treasury could then sell the distressed assets back into financial markets, perhaps even making a profit.

However, opponents of the bailout were concerned that issuing such an amount of Treasury debt would almost double the current budget deficit and make the United States still more dependent on foreign banks as they are the biggest purchasers of Treasury securities. In short, Robert Reich’s warnings that our banking system could end up under the control of foreign governments could come to pass.

Some local Congressional representatives have claimed that they are listening to their constituents when voting against this bailout. Considering that all of the members of the House are up for reelection this November, those who initially voted against the bailout were placing their jobs above the global economy and constituents’ pensions and investments.

However, our local Congressional representatives do not have this dilemma. Representative Eliot Engel (Democrat, 17th District) acknowledged in his press release on September 30 what most local residents already knew; this crisis affects New Yorkers most. As Rep. Engel noted: “While this is a national and international crisis, it is magnified for New York City and State. Both Governor Paterson and
Mayor Bloomberg are already cutting their budgets because of this crisis.

Wall Street is an integral part of the New York City and State economies, and both governments rely heavily on the jobs associated with it.”
Rep. Engel further noted, “In order to govern effectively you must compromise. This bill was not what I would have written, but I was willing to accept it because of the compromises I received in it. These included Congressional oversight, the elimination of ‘golden parachutes’, the disbursement of funds in stages, and, most importantly, the guarantee that the American taxpayer would receive any profit that came from the sale of the loans to the financial industry”.

Not every government representative or candidate is concerned about their job; some are even seeing an increase in support thanks to this crisis. Toby Heaps, the spokesperson for Ralph Nader’s Presidential campaign, stated that they have seen a significant increase in interest and support in the past week. “Nader has been fighting Wall Street and corporate corruption for his entire career and the voters know that.
He represents true change here. McCain supports more spending on the war and Obama will just leave voters with the chump change in their pockets” Heaps stated. Both McCain and Obama have voiced their support of a banking bailout package. As a result “Many voters are now switching their support over to Nader,” Heaps noted.

On his web site, Nader gives his position on the bailout supported by McCain, Obama, and Bush: “Here comes the MOB. With an October surprise. The MOB? That would be McCain/Obama/Bush. With the Mother Of all Bailouts. Mc-Cain/Obama/Bush are pushing hard for the bailout of Wall Street crooks. While Nader/Gonzalez stand with the American people in opposition. Why are we in this mess? As Richard Fischer, the president of the Federal Reserve in Dallas put it yesterday, we’re in this mess because of ‘a sustained orgy of excess and reckless behavior.’ Why then should we bail out those who engaged in the orgy? We shouldn’t. And it’s time to stand up and speak in one loud and clear voice. No to the bailout. Vote Ralph Nader, the man who for his entire career has pushed for tough law and order regulation of Wall Street; regulation that would have prohibited the orgy of excess and reckless behavior. The bailout of Wall Street crooks will be the number one issue throughout October.”

The New York Times has also noted the sudden and unexpected sources of support for Nader’s stand in this crisis. In an online blog, the chief financial correspondent for the Times and the International Herald Tribune, Floyd Norris, reported “So much for party discipline. This bill was supported by John McCain and Barack Obama, the presidential candidates who, between them, have the support of nearly every
member of the House. But a majority of the House voted along with Bob Barr, the Libertarian who said, “We need to make Wall Street take the hit for its irresponsible investment decisions,” and Ralph Nader, the Independent candidate who described the bill as a ‘bailout for Wall Street crooks’. I had assumed the House leadership could assure that enough members of both parties held their noses and voted yes to gain a narrow margin for passage. But what we have here is a rejection of what Mr. Nader calls the two ‘corporate candidates’.”

Given their support for the bailout plan, perhaps the voters also now view both Obama and McCain as ‘corporate candidates’ and will demand a complete change in November. Congress’ nay vote on September 29th sent shockwaves around the global financial community. Given the growing economic crisis, US citizens may send out a shockwave of their own this Election Day. One thing is agreed upon by all the economists and politicians, this crisis will not resolve itself anytime soon.

“Decades of United States government deregulation of Wall Street has reaped a whirlwind of irresponsible speculation. It’s ending in a financial meltdown that’s being remedied by government ownership, with all the strings that come with government ownership. And it’s not even OUR government that’s holding the strings.”

– Former Secretary of Labor Robert Reich

1 comment:

reunionpi said...

Henry Paulson, 5 weeks before he became Treasury Secretary, got a FANNIE MAE/FREDDIE MAC 30 year fix mortgage/loan for his 82 year old mother in May 2005 for 5.37%, (below rate)

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