Monday, March 21, 2011

Laissez-Faire Capitalism Not Cause of Melt-Down

The reason for the melt down was, essentially, Freddie Mac and Fannie Mae, quasi-government entities, were told by Congress to enable people who could not afford houses to make it possible for them to buy houses with little or no money down, and with zero due-diligence as to sources of income to pay the mortgages.

Lenders then were guaranteed that Freddie and Fannie would buy such mortgage notes, thus relieving the originators of those loans of any liability.

Congress put the full faith and credit behind these securitized notes now repackaged by Freddie and Fannie who in turn sold them to other investors.  I understand that many of these securities then became the linchpin for other financial instruments called derivatives.

In effect, a hundred thousand dollar mortgage might back millions of dollars in further credit, secured only by an overpriced, speculative property whose owners may have had but a couple of thousand in initial equity, if that much--about what it would cost to make a security deposit and last month's rent on an equivalent rental home.

What made this boom possible was Uncle Sam's willingness to secure these loans, when there was nothing to secure them in reality beyond speculative dreams.

This situation could not possibly happen in a capitalist system, because government would have no part to play in guaranteeing a bank's poor judgment about what constitutes a secure loan.  Historically, banks have required 20% down payment and perform a stringent "due diligence" and they would have done that in this situation had the government not required them to make easy loans in the first place and in the second to buy the bad loans as soon as they were created.

From beginning to end, this financial debacle was completely and totally the result of government policy and actions.  It was the direct result of Congress passing laws requiring that banks make bad loans.  The Bush Administration and Congress are both responsible for the ensuing catastrophe.  But keep in mind, Congress was run by Democrats and the people in charge of oversight, people such as Barney Frank, stated over and over again that these bad loans were perfectly fine and dandy and that the Bush Administration's warnings could be safely rejected. 

Bush didn't do enough, and Congress is primarily responsible, but however you come out on that score, the bottom line is that the government created this catastrophe, not private businessmen, and was caused not by under-regulation but by government policies explicitly designed to increase home ownership by people who could not afford to own homes.