Who is to blame for the economic crisis?

·         The following is an excerpt from http://www.factcheck.org/elections-2008/who_caused_the_economic_crisis.html which quotes part of an article from The Economist magazine.

So who is to blame? There's plenty of blame to go around, and it doesn't fasten only on one party or even mainly on what Washington did or didn't do. As The Economist magazine noted recently, the problem is one of "layered irresponsibility ... with hard-working homeowners and billionaire villains each playing a role." Here's a partial list of those alleged to be at fault:

The Federal Reserve, which slashed interest rates after the dot-com bubble burst, making credit cheap.

Home buyers, who took advantage of easy credit to bid up the prices of homes excessively.

Congress, which continues to support a mortgage tax deduction that gives consumers a tax incentive to buy more expensive houses.

Real estate agents, most of whom work for the sellers rather than the buyers and who earned higher commissions from selling more expensive homes.

The Clinton administration, which pushed for less stringent credit and downpayment requirements for working- and middle-class families.

Mortgage brokers, who offered less-credit-worthy home buyers subprime, adjustable rate loans with low initial payments, but exploding interest rates.

Former Federal Reserve chairman Alan Greenspan, who in 2004, near the peak of the housing bubble, encouraged Americans to take out adjustable rate mortgages.

Wall Street firms, who paid too little attention to the quality of the risky loans that they bundled into Mortgage Backed Securities (MBS), and issued bonds using those securities as collateral.

The Bush administration, which failed to provide needed government oversight of the increasingly dicey mortgage-backed securities market.

An obscure accounting rule called mark-to-market, [see "credit default swaps" below] which can have the paradoxical result of making assets be worth less on paper than they are in reality during times of panic.

Collective delusion, or a belief on the part of all parties that home prices would keep rising forever, no matter how high or how fast they had already gone up.

The U.S. economy is enormously complicated. Screwing it up takes a great deal of cooperation. Claiming that a single piece of legislation was responsible for (or could have averted) the crisis is just political grandstanding. We have no advice to offer on how best to solve the financial crisis. But these sorts of partisan caricatures can only make the task more difficult.

–by Joe Miller and Brooks Jackson

 ·        The most egregious (per my opinion) mistakes that contributed to the economic crisis

o       A  central cause of the banking crisis was the sale of "credit default swaps" (i.e. the "obscure accounting rule" mentioned above) which were being sold by Bear Sterns, Lehman Brothers, AIG, and Citigroup.  Credit default swaps are insurance contracts, but they've been very careful not to call it that because if it were insurance, it would be regulated.  Anybody who was nervous about buying up risky mortgages (in the form of mortgage-backed securities) would be sold a credit default swap as an insurance policy.  The problem was that if it were called what it really was, insurance, then the person who sold the policy would be required to have capital reserves to be able to pay in the case the insurance was called upon (i.e. there was a default on the underlying mortgages). But because it was called a "swap", and not insurance, there was no requirement that adequate capital reserves be put to the side.    Per http://www.cbsnews.com/stories/2008/10/05/60minutes/main4502454.shtml    Also per http://www.consumeraffairs.com/news04/2008/07/mark_to_market.html

§         Alan Greenspan, the former Federal Reserve chairman who left his post in 2006, told members of the House Committee on Oversight and Government Reform that he was “partially” wrong in not having tried to regulate the market for credit-default swaps.   He was a fervent proponent of deregulation during his 18-year tenure at the Fed’s helm.    Per http://www.nytimes.com/2008/10/24/business/economy/24panel.html?_r=1&hp&oref=slogin

§         An obscure but critical piece of federal legislation called the Commodity Futures Modernization Act of 2000 was passed by congress and signed by president Clinton. The bill was a big favorite of the financial industry and was encouraged by Federal Reserve Chairman Alan Greenspan.  It not only removed derivatives and credit default swaps from the purview of federal oversight, on page 262 of the legislation, Congress pre-empted the states from enforcing existing gambling and bucket shop laws against Wall Street.  Per http://www.cbsnews.com/stories/2008/10/26/60minutes/main4546199_page2.shtml

§         The market for the credit default swaps has been enormous. Since 2000, it has ballooned from $900 billion to more than $45.5 trillion — roughly twice the size of the entire United States stock market.  Credit default swaps played an integral role in the federal government's decision to bail out the American International Group, one of the world's largest insurers, in September 2008. The Federal Reserve concluded that if A.I.G. failed and defaulted on its swaps, throwing the liability for the insured securities onto the swaps' counterparties, the result could be a daisy chain of failures across the international financial system.   Per http://topics.nytimes.com/top/reference/timestopics/subjects/c/credit_default_swaps/index.html?inline=nyt-classifier

o       Undue influence over lawmakers by Fannie Mae and Freddie Mac in the form of large contributions and lobbying.  Repeated legislative attempts have been defeated that would have required greater oversight, and reduce the size of Fannie and Freddie's high-risk mortgage-backed securities (MBS) portfolios.  One of the latest attempts was the "Federal Housing Enterprise Regulatory Reform Act of 2005", cosponsored by four senators, including John McCain.  McCain stated on May 25, 2006, "If Congress does not act, American taxpayers will continue to be exposed to the enormous risk that Fannie Mae and Freddie Mac pose to the housing market, the overall financial system, and the economy as a whole."   Per (the bill) http://www.govtrack.us/congress/bill.xpd?bill=s109-190   Also per (McCain's speech) http://www.govtrack.us/congress/record.xpd?id=109-s20060525-16&bill=s109-190     Also per (history of Fannie/Freddie legislation attempts & undue influence) http://online.wsj.com/article/SB121599777668249845.html     

§         Note that a modified version of the bill (HR 1461) did not pass congress either.   Also note that the HR 1461 bill made only modest regulatory improvements and had other weaknesses.  Per http://www.aei.org/publications/pubID.22705/pub_detail.asp

§         Note that as far back as 2003 there was a push for significant overhaul of Fannie Mae and Freddie Mac regulation.  Per http://query.nytimes.com/gst/fullpage.html?res=9E06E3D6123BF932A2575AC0A9659C8B63

§         Sen. Chris Dodd, chairman of the Senate Banking Committee that oversees Fannie and Freddie, received  $165,400 from Fannie and Freddie.  More than any other senator.  Per the nonpartisan Center for Responsive Politics, per http://www.politifact.com/truth-o-meter/statements/727/

§         Fannie and Freddie run sophisticated lobbying operations.  Over the past decade, they have spent almost $200 million on lobbying and campaign contributions.   Per http://www.usatoday.com/money/companies/2008-07-17-fannie-freddie-lobbying_N.htm

Send mail to Editor@FactCheckDigest.com with questions or comments about this web site.
Last modified: 11/05/08