It's been all over the news for months, the 'Subprime Mortgage Crisis'. People are going into foreclosure all over the country, many people now owe more on their houses that it is worth in todays market. It's all very unfortunate, but even more unfortunate is that nothing can be done to stop it.
For many, this issue is traceable back to the 1999 Gramm-Leach Bliley Act, which repealed parts of the 1933 Glass Steagall Act. Most notably, the part which prohibited a bank from being both an Investment Bank and a Savings Bank. The idea seems to have been that Investment Banks were generally going to be engaged in higher risk activities, and it would be best that the banks that most people kept their money in were insulated from higher-risk investments. This same legislation created the FDIC.
The idea isn't bad, per se. By restricting banks in this manner, the theory goes, people can have more faith in the institution. However, from a Banks perspective, it is incredibly trying, because historically either Investments are doing well, or Deposits are doing well. In essence, in good times, people invest, in hard times people tend to save. By being restricted to the type of financial institution they were, the banks were, in essence, forced to ride this rough cycle of high periods to low period. The banks argued that, if they were allowed to do both sides of the financial services coin, they'd be more stable in the long term.
Which also, is a great sounding idea. In theory.
But, the Gramm-Leach Bliley Act gave the banks this opportunity, though some banks had already begun playing both sides of this field. Not only that, but those banks had failed to learn anything from watching the Savings and Loan crisis in the 80s, namely the imprudent lending to take advantage of high interest rates.
Now right now, Interest Rates are still low. But it was the same sort of greed that led to this issue today. Today, the only difference was that the lenders, the people selling the loans to the consumer, found a way to sell the loans to someone else, so they were never really saddled very long with bad debt. I'd explain this process, but there are already people who've done a much better job than me. Like this guy.
The whole problem, and as a person who took loan applications from Mortgage Brokers on behalf of Wells Fargo Home Mortgage back in the summer of 2002, I can absolutely verify this is true, is that the people selling the loans, who make the commission off the sale of the loan, have no interest whatsoever in you keeping the Mortgage or being able to make the payments. Their job is simple, get the bank to loan you the money, so that they get theirs. You fail to pay? That's the banks problem.
Back in 2002 and earlier, this wasn't that big a deal. Banks weren't going to loan money to people who obviously couldn't afford to buy a house. The Banks weren't going to loan money to someone who's credit was terrible, and who couldn't get their employment verified. There were checks there, because ultimately, the Banks did care if you could pay.
Then, something changed. The Global Pool of Money, which just begs to be invested all the time, wanted somewhere to put their funds, but the Federal Reserve Bank was only offering a 'paltry' 1.5% interest rate. Suddenly, there were Billions of dollars on the open market, looking for something to invest in. Housing prices were strong nationwide, so mortgages seemed like a natural fit for this.
The problem was, the pool of good people to lend to ran out. But the demand for Mortage-Backed Securties was still strong, so over time, the requirements for getting a loan got lower and lower. Eventually, they practically disappeared. This American Life, on National Public Radio, had a really good piece on this. I'd suggest listening.
And the money wasn't really in Fixed Rate loans, so a lot of people were shilling Adjustable Rate loans to people, because the commission was higher, and good people who dreamed of owning their own home got lulled into this dangerous trap.
I feel bad for those people, I really do. But bad decisions, even poorly informed bad decisions carry with them consequences. A lot of people are going to lose their homes, or they'll have to renegotiate with their banks (which I guarantee most banks are interested in doing at this point). And that's unfortunate. But the truth of the matter is, nothing can be done at this point to fix it. Nothing.
But it will get better. This is kind of like a College Freshman, away from their parents for the first time, who loses their head with their newfound freedom and proceeds to waste all their money, and fail all their classes only to get kicked out of school for being academically deficient. It sucks, and odds are that irresponsible kid caused a fair amount of damage along the way, and hurt other people, sometimes without even realizing it.
But it's not the end of the world. People grow up. So do businesses.
There are those who would argue that this all comes down to deregulation, and the deregulation makes it easy for large companies to fuck over individuals. That is true, to a certain extent. But what you'll notice is that these problems typically arise in the short term immediately about regulation is removed. The business run forward with their new found freedom, and when they hurt themselves, they usually hurt others as well. It's unfortunate, and there should be consequences for that, but just like the parents of that College Freshman shouldn't step up and coddle their kid for his irresponsible behavior, the Government bears no responsibility for propping up failing financial institutions.
We all are in for a rough time economically. But anytime an industry is as out of control as the Mortgage industry was. Anytime prices on a scarce resource climb at the rate that housing prices were, a correction is inevitable. When the market is being artificially inflated by greed, and the blindness that greed can cause, the correction is going to be horrible.
At this point, it's just too late. The economy is going to take some terrible hits, particularly in Banking. But I don't think it's going to be as bad as some people do. Sure, there are going to be fewer banks in six months than there are today, and it might take a little while to recover from the almost 7% drop we saw in the Dow Jones Industrial Average today, but we will recover. And we'll be stronger for it.
That is, if the Government just lets nature take it's course.