the socialization of American banking - part II

I figured it was best if I tried to squeeze in a post during the month of October so as to maintain some form of continuity. So here I am, on October 31, between meetings, about to let out another rant.

What to say, what to say. Sheesh, this whole "economic crisis" is a mess. We've got lefties and righties disagreeing on it (probably a good thing!), we've got trickle-down economics at its most heinous, we're rewarding the dumbasses and punishing the intelligent (more on that later), and the worst part is that Keynesianism caused this mess, and they're trying to cure it with more Keynesianism.

I work for an insurance/investment company, on the investment side. Moreover, economics, particularly Austro-economics, is a fervent past-time of mine. I've read Hayek, Rothbard, and a host of others. I like economics, both micro and macro (mostly the latter). So I'm just going to rant. If I had the time, I would include detailed hyperlinks for references. In the interest of time, however, I invite you to scroll down my right sidebar until you reach the section entitled "Recently Read Articles." Every single day except for maybe the weekends, I link up the very best articles I find in that little section for you to enjoy. In fact, if the Home Plate provides any form of good to the world, it is not so much the articles that I write, but rather the stuff that I read every single day. Moreover, included here is an RSS feed for the Home Plate posts (embedded within this page), as well as an RSS feed just for the articles that I put in that nifty section below (the orange RSS button at the bottom of the article window). If you really want to stay on top of sound economic/political thought, get yourself an RSS reader (like Google Reader - sorry for the plug, but I just love it) and load my Recently Read Articles. As of late, most of them have been coming from the veritable lewrockwell.com & the Mises Institute, but that's because those guys are de facto economists. They predicted this whole mess, and they know how to get us out. Will anybody listen to them? Will you?

So what caused this mess? Again, many of the links I have in my recently read articles section will give some insight, especially over the final weeks of September and early October. (Recent articles have begun to move toward the coming election next week, although I still find tidbits on the bailout and the crisis). In a nutshell, investment companies were buying "mortgage-backed securities" and selling them because the housing market was booming. There's nothing wrong with that. Why was the housing market booming? Two reasons, mostly: 1) the Fed cut interest rates far below what the market would have naturally commanded if it had been allowed to run its own course without government intervention/regulation, and 2) lending policies were adjusted to allow people who normally would not qualify for home loans to obtain them. Those two things combined created a situation in which enormous loans could be made to people who couldn't pay them back. Once those people who, under normal circumstances, wouldn't qualify for a traditional loan could not pay their mortgage once their "ARM" period was up (in other words, once the interest rate reverted back to the prime rate in the market), these people couldn't make the higher payment, they had to foreclose, and so banks and lending institutions started experiencing losses on the loans they made. This is what is meant by "sub-prime loans." It's a loan made to a person that is below the prime rate for a specified amount of time, after which the rate hikes back up to market levels, increasing the monthly payment substantially. How much power is in the interest rate? I'll give you an example:

Let's finance a $200,000 home for 30 years at 6% interest. The monthly payment would be exactly $1,199.10, or about $1,200/month. For the sake of comparison, what would it cost to finance a home at the same rate but the principal was bumped up to $250,000? The monthly payment would be exactly $1,498.88, a hair shy of a $300 increase. Now, what is the monthly payment on the same $200,000 loan if the interest rate is 8.5%? $1,537.83/month! That's more than the $250,000 loan at 6%! It's amazing to think that something so seemingly innocent as a 2.5% interest rate hike could create more than a $300/month increase on the same $200,000 home loan. And that is what many "ARM" loans do. They let the borrower glide under the prime rate for a few years in a low and locked interest rate (typically 1, 3, or 5 years) and then tack on two percentage points once the ARM period is up, and adjust the rate each year thereafter. If the borrower doesn't refinance into a traditional fixed loan or sell the home to someone else before the ARM period is up, the payment, as you can see, goes through the roof. So naturally, the types of people to whom home loans were extended in the late 90s and early 2000s were not truly qualified to handle the financial responsibility of home ownership. There are other types of shady loans that were manufactured during this period, like interest-only loans (possibly the stupidest one out there), in which the borrow doesn't pay down any principal (the philosophy here is that the market price of the home would continue to climb and so the borrower was really just "renting" the property with the idea of selling it for a boost in equity once the interest-only period was over). One other thing to note - since lending rules became so lax, and since the interest rate was cut so low, home prices themselves were rising at astronomical rates, which brings me to my next observation.

Bubbles. I've commented on bubbles before, and even linked to a Murray Sabran article from LRC illustrating my point. In a laissez-faire economy, bubbles don't exist, or they don't last much longer than an actual bubble would. That's because there are no price controls, like the Fed's interest rate (which is, in essence, a price control). What the Fed needs to learn, and what modern politicians need to learn is that price controls ALWAYS BACKFIRE. Pretty soon supply and demand reach a breaking point and collapse occurs. It happens EVERY TIME. The interest rates that the Fed sets are essentially a price control, and influence both the lending power of the dollar and also the supply of money (M2). What we're experiencing now in this "credit crisis" (simplified alliterated terms are always preferred by the uber-stupid mainstream media) is the market's breaking point at which it is now swinging back to equilibrium. Those nice home price increases you saw in the 90s and early 2000s were NOT natural to the market. What we see now is the repercussion of government regulation on who is entitled for a loan (people who don't qualify), and the punishing effects of price controls (via fixing the rate at which money is borrowed). I can prove it. Let's say you bought a home in Las Vegas in 1995, for example, and you paid again, $200,000 for it. If the value of that home by 2005 was $400,000, wouldn't you be suspicious? If that same rate of growth continued, your home would be worth over $1 million today. Does anything in the real world grow at those types of rates? There answer is, only if it is in a bubble. It will crash. It will come down. Increases in value or equity of that magnitude never ever EVER sustain themselves very long. And if you think that pumping more borrowed money into the idiotic instutitions who started swapping these "toxic asset" securities will fix the problem, you're delusional. The "TARP" bailout package essentially rewarded financial instutions for their own mismanagement and poor judgment. Those banks and investment companies that knew the bubble would pop and steered clear of toxic assets receive no reward except the ability to say "I told you so." So government creates this mess, and now the honest taxpayer gets to shoulder the debt from it all through increased taxes, and worst of all, inflation.

The Bailout package was unconstitutional. It was proposed by the Senate, which is not where financial matters are supposed to be generated. The House of Representatives is the branch of government that has the duty to introduce economic affairs because of its closeness to the people. Public opinion on the bailout package was overwhelmingly against it, and yet representative after representative, red and blue alike, approved it. It goes to show a couple of things about how our government operates. For one, politicians are not economists, and should stop trying to be economists and let the market ride. They don't know what caused this mess, and they don't know how to fix it. They know how to make it worse for the next generation. That's been the story all along. Also, this is NOT a true democracy, which I have said over and over here at the Home Plate. I cringe when I hear those words. If anything, this is a democratically-elected representative republic. As we can see with the bailout package, once we vote in our representatives, they run off like chickens with their heads cut off and do whatever the hell they want, regardless of what their constituents back in their home states desire.

One fallacy in all this that I hear frequently is "well, if we hadn't passed the bailout package, nobody would be able to borrow money." This is grade-A, galvanized, bona fide, certified, undeniable horse shit. When there is a need or a demand in a free market (or, in our case, what's left of it), someone somewhere will always step forward to fill the vacuum and provide those goods and services. And with competition, the consumers only benefit. In a way, I think Alan Greenspan was right when he said that the banks would right themselves through this. The problem is that his idea or theory hasn't had the chance to flesh itself out. Yes, many of these investment banks and mortgage companies have failed. Without the bailout package, they would probably wind up getting divided and sold off at a low price to other institutions who managed their assets responsibly and could acquire them for a fair price. Does anybody think that an investment bank would ever weigh down its balance sheet with these "toxic assets" ever again, after this mess? If you do, you're nuts. That's what a free market does. It's almost like evolution through natural selection. The cunning and adaptable stay alive, the lazy and stupid sluff off. However, by pumping the market full of more borrowed money and giving it to institutions which thought this housing bubble would last (despite my illustration above, which a middle-schooler could figure out), we have only given incentive to those institutions that mismanage their balance sheets.

The mainstream media is quick to blame the Bush administration and its "de-regulatory economic policy," and although I'm sure his administration is partly at fault, the problem is older than that. The New York times printed an article on September 30, 1999, as Bill Clinton was leaving office, in which the Fannie/Freddie bailout was predicted (akin to the Savings & Loan bailout disaster of the 1980s). Am I blaming the Clinton administration? No more than I am blaming the Bush administration. Clinton may have loosened the rules to allow non-qualifying, low-income families to purchase homes, but that's only part of the story. The lower-than-market interest rates came after him. But the problem is older than Bill Clinton, even.

(Before we move on, I must say one thing. It is absurd beyond all belief that some politicians believe that Americans apparently have the right to own a home. They do not. Home ownership is a privelage, not a right. The government should not be in the business of guaranteeing home ownership for its people. It shouldn't be guaranteeing much of anything, really. You do NOT have the right to food. You do NOT have the right to clothing. And you certainly do NOT have the right to own a home - especially if you can't afford one. If you have all those things, consider yourself privelaged.)

The government's desire to intervene in the market (Keynesianism) has been the overt philosophy of the US government since the Nixon administration when he proclaimed "we're all Keynesian now." Nixon abolished the gold standard, put America's money supply at the whim of the Fed by declaring its currency as fiat currency, which means it has no extrinsic value whatsoever. This opens the door for massive spending (see the sidebar for our current national debt - just over $10,000,000,000,000). But the problem is much older than Nixon. And even though I think John M. Keynes' influence on politicians in the 30s and 40s has much to do with it (probably the most of it), I think the problem is much older than that even. The problem itself comes from that "Creature from Jekyl Island" right around the turn of the 20th century when America sold its soul for access to the giant ATM that fell from the sky - the Wilson administration's Federal Reserve Act of 1913. It is the epitomy of government regulation, the antithesis of capitalism and freedom, and although it states at its website that it exists to provide stabilization and security, it has presided over and (inadvertantly or deliberately) caused every major depression, recession, boom and bust cycle since its inception nearly 100 years ago. You would think that by now politicians would be looking at the ruin this economy has become under the dominion of the Federal Reserve and quickly move to abolish it, put us back on the gold standard, and allow the market to set the value of the dollar. You would think that they would notice that you cannot solve a problem created by the borrowing of money by borrowing more money. You would think that. But no, 80% of the Federal Reserve is owned by private institutions. Go ahead and calculate the annual interest due on $10 trillion dollars and tell me that there aren't some very wealthy power brokers (probably other banks) that actually want our national debt to increase, and actually want this country to collapse under its own debt. What a powerful and influential lobby that must be. That's the point of a new documentary that just came out: "I.O.U.S.A.: One Nation, Under Stress, In Debt." Go watch it.

So, to my dear reader, if you've come this far, I wish to summarize my rant by saying this: the media is totally lost with this thing. It is not "de-regulation" that caused this mess; quite the opposite, actually. It was the over-regulatory mechanism of the Federal Reserve combined with the destructive Keynesianistic economic fallacies that America's politicians have espoused since the early 20th century, the idea that Americans have the right to own a home, and irresponsible regulatory changes in lending. Again, we need to wake up and create real monetary reform if we desire history to avoid repeating itself. Barack Obama won't do it. John McCain certainly won't do it. I think Ralph Nader would be open to it. And certainly Ron Paul knows about it. But like I said, those who know these things are battling a behemoth - the most influential force in the entire world: the national and international banking cartel. If you control the money and the money supply, you control everything. Your vote next week won't do shit to fix this problem (among many other problems). The only thing I know that can work is to get the word out. Watch The Money Masters or hand out copies of the DVD. Go see "I.O.U.S.A." Google Ron Paul. Visit the Mises Institute. Read articles here at David J's Home Plate or Lewrockwell.com. Do whatever you can to engender in people the desire to tip government on its head and give the power back to the people and away from the bankers before it's too late and we face depression and collapse.