Raymond Richman       -       Jesse Richman       -       Howard Richman

 Richmans' Trade and Taxes Blog

Congress Is Responsible For This Recession; Not the Banks, Not Wall Street
Raymond Richman, 5/25/2010

The Senate and House are investigating the Banks and Wall Street for causing this recession but they should be investigating themselves. Every Congress and every President since James Earl Carter, who signed the original Community Reinvestment Act (CRA) of 1977, bear responsibility for this recession. The act was a government intrusion in private sector banking where it had no right to be. It also involved two government-sponsored enterprises, Fannie Mae and Freddie Mac,  which, when created, were stated to be independent of the government but which had to be bailed out as total losses.

The close involvement of the U.S. government in making it very easy to obtain a mortgage led Wall Street and Lombard Street and banks all over the world to believe all our mortgages were government insured. The bipartisan support for the CRA, Fannie Mae, and Freddy Mac was also misleading; it gave the impression that Republicans and Democrats would, when push came to shove, save investors in those government-sponsored mortgages. In any case, the consequence was the housing bubble whose collapse ushered in the most serious financial crisis and economic recession since the Great Depression.

In the sixties, leftist agitators and a few academics claimed that the banks were red-lining black neighborhoods, i.e., they were not making proportionately as many loans to households in those neighborhoods as they were in white neighborhoods. Indeed, fewer loans per inhabitant were being made in such neighborhoods. But the conclusion that this evidenced racial discrimination was spurious. Fewer loans are made to poorer households than richer regardless of the location of their residence. Unfortunately, then as now, a higher percentage of black households were poor.  If the federal government wanted poor households who were unable to qualify for mortgages to own houses, all it needed to do was to guarantee them as they did with FHA and GI bill mortgages. No new bureaucracy needed to be created.

The CRA gave leftist groups – ACORN, the NY Agency for Community Affairs (NYACA), which shared staff and space with ACORN, the Union Neighborhood Assistance Corporation (NACA), and others -- the power to "blackmail" the banks. As a result, those leftist groups became powerful and rich beyond their wildest dreams with infusions of billions of dollars, including not only funds derived from the banks but from the government itself. Pres. Obama, before he began his political career, appeared as counsel for ACORN in a suit in Chicago against Citibank that alleged racial discrimination in its lending policies. The parties settled with ACORN getting appointed as an agent of the bank. A jury’s award of millions of dollars from a major bank in a case in California alleging racial discrimination, demonstrated to the banks that resistance to their "blackmail" would prove more costly than cooperating with the blackmailers.

In 2006, the New York Agency for Community Affairs (NYACA), which shares staff and space with ACORN, reported a little over $1.3 million in income-producing activities. That same year, the organization paid close to $1.2 million for “contractual services” to ACORN. Bruce Marks, executive director of Union Neighborhood Assistance Corporation (NACA) and self-styled urban terrorist, is reported as threatening that if banks aren’t willing to meet the new standards of community investment, then “we’ll have to start making it in their interest to do so.” And indeed they have. His NACA acts as agents of banks usually with authority to approve mortgage applicants.  It receives a $2000 origination fee and had a budget of $10 million per year. ACORN made similar arrangements with a number of large banks, including Bank of America. A Senate Banking Committee estimated that as of 2000, as a result of CRA, such groups had received $9.5 billion in services and salaries. Groups such as ACORN also had received tens of billions of dollars from HUD and other agencies: ACORN Housing, $760 million; Boston-based Neighborhood Assistance Corporation of America, $3 billion; a New Jersey Citizen Action-led coalition, $13 billion; the Massachusetts Affordable Housing Alliance, $220 million. The number of CRA mortgage loans increased by 39 percent between 1993 and 1998, while other loans increased by only 17 percent.

It is frequently stated that this recession was the result of bankers’ and Wall St. greed. Greed is often merely taking advantage of money-making opportunities.  It was not Wall St. greed, but legislators’ desires to appease supporters and foolish sentimentality that caused them to approve legislation to pressure the banks to make loans to unqualified borrowers. CRA was given teeth by Pres. George Herbert Walker Bush in 1989 in legislation that required the administrators of the CRA to rank banks on their lending activities and to deny banks the right to open branches or to buy other banks if they are rated low. Pres. Bill Clinton required banks to show the numbers of loans they made in their neighborhoods. And Congress made “blackmail” by neighborhood activists’ legal by providing for public hearings on the ratings. If there were no pay-offs, you can be sure the neighborhood activists would find grounds to challenge the banks.  

Many journalists, public officials, and economists claim that the Community Reinvestment Act had nothing to do with the current recession; it was the banks and Wall Street greed that produced the recession. The CRA was amended and neighborhood groups strengthened during every administration. The rapid expansion of mortgages did not begin until the 90s. Once the banks in response to CRA pressures reduced their standards for collateral, etc., and Fannie Mae and Freddie Mac came to be seen as likely guarantors of mortgages, even those with poor collateral, the impression gained currency that the U.S. government stood behind those mortgages. The trillions of mortgages created to finance the housing bubble had to have a secondary market and that is what Wall Street provided. Once those markets were created, banks and other mortgage lenders began to compete to make loans easier to obtain, requiring less and less in the way of collateral, appraised value, and causing standards to keep falling. The bubble was the inevitable consequence of government telling private banks how to lend and making it easy for nearly anyone to get a mortgage that he, she, or they could not afford once housing prices stabilized and began to fall.

The role of the Federal Reserve in this fiasco needs to be examined. Under the original bill it was the responsible administrator of the CRA. Then control passed to a group of other agencies including the Fed, the Office of Thrift Supervision, the FDIC, and the Comptroller of the Currency. But others had inputs; HUD played an important role. In a March, 2007 speech, Mr. Bernanke summarized the research evaluating the effects, benefits, and costs of the CRA. The loans made by banks under the CRA were barely profitable. At least one benefit-cost study concluded the costs to the banks exceeded the benefits and that did not include the costs to the government of administering the program and the undeserved enrichment of groups like ACORN and other leftwing organizations. In any case, two years later there can be no doubt. The lending policies of the banks created the worst financial crisis experienced since the depression. In our view, the CRA was wrong in conception as an unjustified intrusion in the private sector, produced no net benefits, and rewarded America’s domestic enemies.

Comment by Valentine Njee, 5/27/2010:

Your evaluation and analysis is pertinent but fails to address the macroeconomic impact of the housing boom on the US economy as a whole. To present a real cost benefit picture of the CRA program you have to speak to macroeconomic professors to see what the impact of the housing boom meant to the US and the global economy. You specifically refer to trillions of dollars in mortgages created through the CRA programs and do not speak of trillions of dollars in mortgages gone bad.

If you do an analysis of who is defaulting on martgage loans, you may be surprised that it is not low income individuals. They include professionals who lost their jobs, investors who came into the market with adequate liquidity to speculate. When businesses move jobs abroad and create unemployment in the US, failure to pay mortgages is not caused by CRA.

The Federal Reserve has not failed. It has addressed macro economic challenges just it it is designed to do. It is not an institution set up to be on the sidelines. The challenges it faces will change from generation to generation as new financing methods are developed that change the macroeconomic variables.

Your analysis is superficial and lacks a detailed analysis that should assist in forming a learned opinion on a subject that is very important.

Response to this comment by Raymond L. Richman, 5/27/2010:
I did not fail to address the macroeconomic impact. I stated that the CRA contributed to the housing bubble and when the housing bubble burst, it caused the world-wide financial crisis. I did not write about the trillions of dollars gone bad; I assumed the reader is aware that the trillions of dollars in mortgages gone bad was the cause of the financial crisis and the ensuing recession. I am aware of the fact that it was not only CRA mortgages that went bad. The CRA corrupted the entire mortgage market including mortages on properties owned by middle class households and professionals. The banks were in effect told by the Fed, one of the four agencies administering the CRA act, that collateral was unnecessary. The bill compromised the independence of the Fed; it ought to have excused itself from any role in the administration of the CRA. Its role is controlling the money supply.

Comment by Ken Hoop, 5/27/2010:

The Federal Reserve should be audited and abolished and Glass Stegall restored.

These "Fox (faux) conservatives" more or less say the economy was brought down by affirmative action mortgage schemes. Funny thing. In (objectionable) affirmative action/job quota schemes, the "majority" American loses a potential job or placement. In the CDS fiasco, the generally more affluent "yuppie-majority" cross section got bigger and better homes. I'll give ten percent blame to Community Reinvestment type government machinations but the balance goes to runaway unregulated "finance megacapitalism."

Response to this comment by Raymond L. Richman, 5/27/2010:
I do not believe the Fed should be abolished. I reviewed Ron Paul's book on this site some weeks ago. We are committed to a system of flexible exchange rates. The Euro is in danger of disappearing because countries in the Euro Zone like Greece, Portugal, Spain and perhaps others lose Euros as a result of their trade deficits. Their obligations, domestic and foreign, are expressed in Euros. Were they expressed in drachmas, lira, etc., trade deficitss would cause their currencies to decline in value which would tend to increase exports and reduce imports. That process in ;unavailable to countries on the gold standard or the Euro standard. We are in the process of trying to talk China into allowing the yuan to fluctuate against the dollar and other currencies. The Fed should not be abolished but it should not be administering foolish government programs like the CRA either. There was no unregulated "finance megacapitalism." So many mortgages were being produced, Wall St. had to find a way to market them. It bundled them together and sold them as derivatives. It was government policy to encourage mortgages with little collateral. When mortgagors defaulted, the value of the derivatives fell causing an international financial crisis. What does megcapitalism have to do with it?  Our government is to blame for encouraging mortgages without sufficient collateral. By the time the housing boom came to an end, it was too late to do anything about it except to bail out the banks and suffer through a recession. We still have a moratgage crisis. More home morrtgagesd keep defaulting.

Comment by Ken Hoop, 5/27/2010:

 

from Denninger today.

http://market-ticker.org/archives/2350-A-Tale-Of-Two-Standards.html

“In undertaking financial reforms, it is important that we maintain and protect the aspects of central banking that proved to be strengths during the crisis and that will remain essential to the future stability and prosperity of the global economy,” Bernanke said today in a speech at the Bank of Japan in Tokyo.

This, when we have hard evidence - indeed, bald admissions - that The Federal Reserve (and others, including bank regulatory agencies) have engaged in intentional circumvention and violation of the laws governing banking and The Fed's operation.

The Fed has no authority to buy anything that does not carry a full faith and credit guarantee.  Yet it has.

Response to this comment by Raymond L. Richman, 5/28/2010:
I agree. Morover, the Fed should not have have agreed to participate in the CRA. It compromised its independence and ought to have fought the weakening of standards in the making of bank loans. The result was the housing bubble and its collapse causing the recession and the loss of millions of jobs. It comparomised its independence also by allowing the trade deficita to go on and grow caujsing the de-industrialization of the U.S.

Comment by Charlyne, 5/30/2010:

Concise history of our current economic state and the rule of unintended consequences. Why do we continue to re-elect these congressional clowns?