On a daily basis the ruling elite in Washington and the media cast the blame for our current poor economy on George Bush, capitalism, Wall Street, banks, and Republicans in general. Facts do not support this oft-repeated creative fiction.
Tracing the roots of the financial meltdown of 2008 and the resulting recession, we must go back to the Community Reinvestment Act of 1977 (CRA). This Federal law intimidated lenders into not restricting their credit services to low-risk markets, a practice called “redlining.” The CRA required banks to submit regular reports proving that they were not avoiding home lending in impoverished regions. This started the process that has peaked over the past few years of lending with little proof of ability to pay. Lenders were pressured by government regulators to make creative interest-only loans, high-risk “no doc” and “liar loans,” in order to allow people to buy more housing than they could afford. We have come to know these loans as “sub-prime,” or loans with much higher risk of default.
In 1992, Boston’s Federal Reserve funded a study that resulted in increased pressure on banks to fund questionable mortgages. It led to increased regulation of the mortgage market at the bank level to the point where four government agencies were monitoring banking activities relative to CRA demands. A ranking system was put into place where financial institutions were rated based on CRA lending, and the penalties could be stiff against banks whose CRA rating declined. The data and analysis of that research was later discredited.
In 1994 then Attorney General Janet Reno declared the Clinton Administration would be even more aggressive in pressuring lending institutions into full compliance with the CRA.
Fannie Mae and Freddie Mac, the two government-sponsored mortgage giants, (GSEs, or Government Sponsored Enterprises) became the underwriters for most of the sub-prime mortgages. GSE leaders bragged in internal memos about their expansion into the sub-prime business and how that augmented their earnings.
Jim Johnson, CEO of Fannie Mae, was forced to resign in 1999 over accounting irregularities. Franklin Raines replaced him and perpetuated the questionable accounting and funding of sub-prime mortgages. Fannie was levied a $400 million fine by the SEC for their fraudulent bookkeeping and risk management but that didn’t even slow them down, let alone stop them. There is an additional political component to this as both Franklin Raines and Jim Johnson have served as economic advisors to Barack Obama.
In 2003 and 2005 the Bush administration attempted to reform the GSEs. Both Bush Administration Treasury Secretaries and Alan Greenspan repeatedly called on Congress to clean them up. Those attempts failed mostly due to the massive contributions by the GSEs to congressional reelection campaigns. The top recipients of those funds were Chris Dodd, Barney Frank and Barack Obama, some of the most ardent supporters of the GSEs.
Politicians created our recession with bad policy, bad regulation, and lack of regulation of the GSEs which resulted in a real estate market collapse. The GSEs sold the mortgages to banks and Wall Street as government guaranteed paper while rating agencies failed to make the distinction between quality loans and their sub-prime counterparts.
Congress has repeatedly exempted the GSEs from regulation that would hold them to a higher standard and would have likely prevented the financial market meltdown of two years ago and the resulting recession we still languish in. The new financial reform recently passed and trumpeted by the administration once again intentionally excludes the GSEs. Our problem is still not solved and it can happen yet again.
The media have been accomplices in this shakedown. There has been no accountability, and negligible factual coverage on who really caused this mess. It’s not Wall Street and the banks. They were writing and trading the mortgage paper that Fannie and Freddie wanted and the enabling congressional leaders encouraged. And the media have pointed the blame at everyone and everything except those who really caused it: their friends in government and the GSEs.
In short, the government created the problem by socially engineering the lending process by pushing lenders too far to make mortgages to too many and for too much. The foolhardy government mortgage lending policies led to a near collapse of our entire financial system. As the Investor’s Business Daily observes, the law of unintended consequences of government policy is now fully manifest.
When you hear causes of our recession, and they don’t list congress and bad regulation, they’re not telling you the truth. The causal elements of what brought us to this point were the creations of those most ardent in casting the blame elsewhere. They are most culpable, for they wrote the legislation and the regulations, refused to regulate the GSEs, and yet still they have the audacity to point blame at everybody but themselves.
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