A bill to restore Glass-Steagall
I almost missed the fact that last week John McCain proposed a bill to reinstate Glass Steagall (see these articles for my previous thoughts on restoring the act). This is a reminder of why John McCain, with all his very considerable faults, would nevertheless have been a much better president than Obama.
Obama came to power in the midst of a great financial crisis. What has he done about to make things better? Thrown a huge amount of money at it, to almost no avail. Made it harder for small businesses. Rewarded his cronies. Put the fear of higher taxes into the mix. Expanded government. Ignored job creation, and lied about it (“created or saved”).
Instead, he should have focused like a laser on the entire issue and made it the first and foremost issue of his entire presidency, including some needed overhaul of the banking system in order to prevent a repeat. Instead, he has declared class war on the financial sector to suit his leftist purposes.
Neo, You’re dead on! Love your posts. Keep chargin!
what Inlike best about your blogpage…the picture! The aged table top with the decorative cut end-edge, the apple of temptation, the books and specifically the last lion (ess), and lastly, the ballet shoe! Well thought out…classic!
Charles Maxwell: Thanks, glad you like the photo. You should see the number of outtakes before I got one I liked. When I started out there was a computer there, too, but it just wasn’t very photogenic.
He hasn’t declared war on the financial sector, not all of it. He’s declared war on those parts of our economic system which aren’t in bed with Washington already. Wall St plutocrats and he get along quite well, as we can see from the number of them he has appointed to his administration. Two yokes in the same damn rotten egg.
Merry Christmas, Season’s Greetings, and good riddance to ’09.
Neo- I’m almost always with you, but this is definitely not one of those times. McCain’s attempt to reinstate Glass-Steagall is one more example of why the last election was all about choosing the lesser of two evils.
Glass-Steagall was a bit of New Deal economic do-goodism that broke up financial conglomerates for allegedly putting their interests ahead of their customers. In their Obama-like wisdom, FDR and the 1933 Congress prohibited commercial banks from entering other lines of financial business. The theory was that commercial bank exposed their depositors to risky stocks, margin loans, and investment pools whose value evaporated during the 1929 crash. As Tyler Cowen has demonstrated, however, the evidence underlying that theory was flimsy and has been largely discredited. http://www.marginalrevolution.com/marginalrevolution/2008/09/did-the-gramm-l.html
Megan McArdle, whom you favorably quote in a companion piece today, noted that if Glass-Steagall concerns were responsible for the financial meltdown, “it would be the commercial banks, not the investment banks, that were in trouble.” (http://meganmcardle.theatlantic.com/archives/2008/09/hindsight_regulation.php ) The problem institutions were not, for the most part, owned by commercial banks.
In fact, as David Brooks pointed out, it was the highly regulated investment banks, particularly Fannie Mae and Freddie Mac, that were at the center of the meltdown. (http://www.nytimes.com/2008/09/19/opinion/19brooks.html?_r=2&ref=opinion&oref=slogin)
Even Brad DeLong (!!!!) agreed with the conclusion that repeal was “actually looking pretty good this Monday morning. Without Glass-Steagall repeal, Bank of America wouldn’t be able to buy Merrill Lynch, the only bit of arguably positive news to come out of this crazy weekend.” ( http://delong.typepad.com/sdj/2008/09/toward-universa.html )
McCain was definitely the lesser evil on the 2008 ballot, but he’s got strong credentials for some time in political Purgatory. First Amendment-wise, we all know about McCain-Feingold. McCain is also very much a populist on financial and regulatory issues. McCain, you will remember, voted for Bush’s massive bailout (even though, his economic advisor later confessed, he did not believe in it).
LB100 – Right on.
The financial meltdown had nothing to do with Glass Steagle. It was the result of several (Democrat) Congressional and regulatory policies that the Republicans could not undo under Bush (although they certainly tried) because they did not have the 60 votes necessary to obtain cloture on any appropriate amending legislation. The blame can be laid squarely on the Democrats.
The Community Reinvestment Act was adopted in the late 1970’s and ultimately used as a bludgeon by ACORN to obtain agreements (with undo pressure from the banking regulators) with banks to make hundreds of millions of dollars worth of home loans to the uncreditworthy. Congress amended the Community Reinvestment Act in 1992 to open the floodgates even more. HUD, under Andrew Cuomo, loosened the underwriting requirements that had traditionally been applied to home mortgage loans leading to liar loans, 0% down payment loans, interest-only payment loans, variable rate loans, and even bad credit loans. The banks WERE REQUIRED by their regulators to make these loans because they were being purchased by FANNIE and FREDDIE and failure to do so would lead to a downgrading of the CAMEL rating of the bank (a measure of a bank’s capital, assets, management and other strengths) and potentially to the regulators forceably changing the management. It could also lead to claims that the banks were discriminating unlawfully in the persons to whom they made loans.
The regulators will not admit to having a role in this fiasco and are now clamping down on banks that make loans in order to demonstrate that they act in a fiscally responsible manner. (GO to a bank and try to get a loan.) Meanwhile, FANNIE and FREDDIE were buying up as many CRAP loans as could be made and packaging them for sale into the secondary markets. This is where the investment banks came in (which were not regulated by Glass Steagle), as they sliced and diced the mortgage loan packages into different rate and risk pools to sell around the world. PLEASE NOTE THE ALTHOUGH THE LOANS IN THESE POOLS WERE CRAP THAT CARRIED THE IMPLIED GUARANTIES OF REPAYMENT BY FANNIE AND FREDDIE. OUR GOVERNMENT THUS WAS IN THE BUSINESS OF INDUCING BANKS, UNDER THREAT OF REGULATORY CRITICISM, TO CREATE CRAPPY LOANS, WHICH WERE THEN SOLD TO INVESTORS WITH THE IMPLIED GUARANTY OF THE USA AS TO REPAYMENT. AND, THE WORLD BOUGHT OUR CRAP!!!!!
Beginning in 2001 or so, Greenspan held interest rates low for an extended period of time and created a home ownership bubble that artificially increased the values of homes throughout the country but especially in newer, expanding markets. Because homes were increasing in value at unprecedented rates, Greenspan’s actions invited speculators into the game. So, homes were being built for many, many people who had no intention of moving in, creating a glut of new homes. The bubble was getting close to bursting.
The final nail in the coffin was the insistence by the accounting profession (through the financial accounting standards board, or FASB) on adopting the mark-to-market method for valuing assets that were not readily marketable. This rule became effective late in 2007. Under historical accounting methods a bank would value a loan based on historical performance and write it down in stages as it grew ever more delinquent. But, it would not write a loan down below the liquidation value of the collateral. Under the mark-to-market method, the loan is valued on what you could sell it for in the open market. So, in 2008, loan defaults started to increase rather rapidly because the interest-only payment periods were expiring and the borrowers did not have the monthly income to cover the new and higher interest and principal payments. Home values were decreasing because there were too many new homes available for what the market would bear. And, this lead to a portfolio of CRAP mortgages that could not be sold early in 2008. Under mark-to-market, this meant that every institution then holding CRAP mortgages in its portfolio had to value them at market, or $0. That is why the market collapsed so suddenly. If mark-to-market had not been adopted, the loans could have been written down individually based on their performance and the shock would not have been so sudden or so great and a good number of financial institutions could have survived just fine.
To say that this was caused by a failure of the free market, as the Blame Duck does, is not true. To blame the banks is also not fair. They did as they were instructed to do by their regulators, such as the FDIC, the OCC, and the OTS. And, they can’t defend themselves because they live under the thumbs of those very same regulators.
The Congress is now acting in two different directions. It is projecting onto the banks the blame for what the Congress desired them to do while it continues to push for more CRAP. For example, employees of mortgage lenders, including banks, are soon going to have to be licensed by the state or federal government. Meanwhile, the FHA and GINNIE MAE are continuing to buy portfolios of CRAP loans as if nothing happened and the default rates on these loans is frightening. FANNIE and FREDDIE are underwater in trying to forestall foreclosures on their portfolios and are seeking hundreds of billions of dollars to prop up their assets. And, the Democrats want to amend the Community Investment Act to create more havoc.
We live in a world where the truth no longer matters. The perfect storm that led to the collapse of the financial markets was paralleled by the perfect storm that led to the election of the Blame Duck. Thus was created the fertile ground for our not too subtle introduction to fascism. My real concern is that the Democrats are not spending and spending because they stupidly assume that they can print all the money they need to cover all their desired goals without some adverse consequences. No, it is that they know that at some point in time the dollar will no longer be accepted in payment of goods and services and the inflation they are creating will wipe out the middle class and create even more fertile grounds for fascism.
Are we on borrowed time? Am I going off the deep end? And, I pride myself on being an optimist!
LB100,
An excellent post. The mark to market rules along with the SEC not properly regulating naked short sales were what allowed shorts to drive the prices of the investment banks to near liquidation. With their equity gone and all those MBSs on their books they could not sell more stock or borrow new money. It was a classic panic squeeze to which the FASB, SEC, and Treasury were late in understanding and getting in front of what was happening. It’s under control now, but we have many years of losses to be worked off in the years ahead. One major reason why this crisis will not be quickly resolved.
Another group that were responsible were the independent mortgage brokers, primarily in California, Arizona, and Florida, who did a huge volume of Liar’s loans because they could peddle them easily to the Wall Street investment bankers. For the most part those individuals, who were unregulated, made huge profits and suffered no downside except the loss of the huge volumes they were doing.
The investment banks and rating agencies were depending on a quant’s formula (a Chinese quant who came up with the formula) to rate the MBSs. The problem was the formula did not factor in for a price decline of more than 3% in any year. As long as prices rose or dipped only slightly all was well. Good intentions meet unintended consequences.
Home ownership is still a good thing. People who own their homes are generally more financially responsible and ownership often represents a major part of a family’s wealth and stability. However, when the government keeps pushing the CRA and forces bad loans, it continues to poison the quality of the mortgage pool. Dems do not seem to care. Are they trying to wipe out the dollar? I don’t think they are that evil, but then I’m an optimist myself. So, what do I know?