Three years later and still nothing has been learned

Three years ago this past Saturday the economic crisis struck.

That's why the comments by Alan Greenspan on the very same day on Meet the Press are worth noting.

"There is no doubt that the federal funds rate can be fixed at what the Fed wants it to be but which the government has no control over is long-term interest rates and long-term interest rates are what make the economy move. And if this budget problem eventually merges to the point where it begins to become very toxic, it will be reflected in rising long-term interest rates, rising mortgage rates, lower housing. At the moment there is no sign of that because the financial system is broke and you can not have inflation if the financial system is not working."

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The financial system is still broken three years later!?! Think about that for a moment. We've thrown trillions of dollars at the financial system and we've fixed nothing.
The obvious conclusion from this reality is that we haven't addressed the real causes of the crisis, and instead are only dealing with symptoms. Fed Chairman Ben Bernanke's recent “unusually uncertain” comments before Congress proves that the so-called experts simply don't understand what the problem is.

Most financial media pundits and politicians didn't recognize that we had a problem until Lehman Brothers went under on September 15, 2008. The official start of the recession is marked at December 2007.
But the real start of the financial crisis was July 31, 2007, when Bear Stearns filed for Chapter 15 bankruptcy protection on its two major hedge funds (High-Grade Structured Credit Fund and High-Grade Structured Credit Enhanced Leveraged Fund).

And yet 36 months later, after all the job and capital losses, after all the heartbreak and stress on the average Americans, the financial media, the politicians, Wall Street, and most of the blogosphere still refuses to even acknowledge, much less address the root causes of our economic problems.

Where is all started

the Bear Stearns hedge fund bankruptcy filing wasn't out of the blue - more than a month earlier Bear Stearns tried bailing out the funds. In fact the stress in the credit markets had been building since March of 2007 when New Century Financial went under.
However, the Bear Stearns crisis was different for a very basic reason - the assets of the funds would have to be liquidated because of the bankruptcy filing.

A sale would give banks, brokerages and investors the one thing they want to avoid: a real price on the bonds in the fund that could serve as a benchmark. The securities are known as collateralized debt obligations, which exceed $1 trillion and comprise the fastest-growing part of the bond market.
Because there is little trading in the securities, prices may not reflect the highest rate of mortgage delinquencies in 13 years. An auction that confirms concerns that CDOs are overvalued may spark a chain reaction of writedowns that causes billions of dollars in losses for everyone from hedge funds to pension funds to foreign banks....
"Nobody wants to look at the truth right now because the truth is pretty ugly," Castillo said. "Where people are willing to bid and where people have them marked are two different places."

The credit markets almost immediately froze up.

The market for mortgage bonds has become "very panicked and illiquid," CEO Michael Perry wrote in e-mail to employees yesterday..."Unlike past private secondary mortgage market disruptions, which have lasted a few weeks or so, our industry and IndyMac have to be prudent and assume that this present disruption, which appears broader and more serious, might take longer to correct itself," Perry wrote.

And that, in a nutshell, was the reason for the worldwide financial crisis - the mispricing of assets, mostly mortgage-backed securities, based on fictional financial models.

The reason for all this economic hardship wasn't because the government taxed too much or spent too much.
It wasn't because the Federal Reserve raised interest rates or contracted the money supply.
It wasn't because the American consumer stopped spending.

It was because the financial system knowingly overpriced a major financial asset class, and then leveraged itself against that asset class in the vain hope that the Day of Reckoning never came.

It's really quite simple when you break it all down.

And yet every policy response to the financial crisis, without a single exception, has been designed to:
a) cut taxes and interest rates,
b) boost the money supply, as well as government and consumer spending, and most of all,
c) to prevent the asset class in question from returning to real market prices.

It's insanity. Plain and simple.

Where the money went

Most people think that the Wall Street bailouts are a thing of the past that happened between the Lehman Brothers collapse and early 2009. They are wrong. The bailouts have been going on since December 2007, and are an on-going event.

(Reuters) - Increased housing commitments swelled U.S. taxpayers' total support for the financial system by $700 billion in the past year to around $3.7 trillion, a government watchdog said on Wednesday.
The Special Inspector General for the Troubled Asset Relief Program said the increase was due largely to the government's pledges to supply capital to Fannie Mae (FNMA.OB) and Freddie Mac (FMCC.OB) and to guarantee more mortgages to the support the housing market.
"Indeed, the current outstanding balance of overall Federal support for the nation's financial system...has actually increased more than 23% over the past year, from approximately $3.0 trillion to $3.7 trillion -- the equivalent of a fully deployed TARP program -- largely without congressional action, even as the banking crisis has, by most measures, abated from its most acute phases," the TARP inspector general, Neil Barofsky, wrote in the report.

Note the connection here: the bailouts, directed at the mortgage market, are on-going, while the banking crisis has somehow abated. Then remember that the banking crisis began because of a crisis in the mortgage market.
The amount of money the federal government is throwing at Fannie Mae, Freddie Mac, and the FHA is enormous. It's very possible that we will spend more money is this bailout than we did in all of TARP.

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The lesson to be taken away from this is that bailing out the housing market is really just a back-door bailout of the banking sector. The banking sector has stabilized only because they are being constantly bailed out by taxpayers.

And what has the banking system done with all that taxpayer money? Well, it certainly hasn't been loaning it out to consumers and small businesses.

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So what did the banks use this money for? Well, huge executive bonuses are part of the story. But the lion's share of the bailout money went into bank loan-loss reserves.

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What are those loan-loss reserves supposed to protect themselves from? Well, the commercial mortgage market meltdown is a good example.

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Meanwhile, excess residential housing inventory is piling up, while the mortgage debt remains.

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To put this into perspective, there is $771 Billion worth of underwater mortgages in the country. 4.1 million homeowners owe at least 50% more on their homes than they are worth.

The banks are sucking up all the cash they can find in order to be able to weather yet another wave of real estate related defaults. By sucking all this cash out of the economy, the real economy is running on fumes.
That's where we are today.

The government has thrown $3.7 Trillion of taxpayer money at the financial system, which remains broken, all in an useless effort to keep the real estate bubble, and the related asset prices, from completely deflating...and it isn't working.
Meanwhile, that cash is being subtracted from the overall economy, which leaves everyone except for the wealthy and large businesses short on credit and income.

History Repeating Itself

The Obama Administration has invested two years, and a great deal of political capital, to pass financial reforms that don't address any of the most serious problems.

The Obama administration asserts that the financial reform bill the President will sign into law this week will prevent future crises. In fact, it will fail to do so because it does not effectively address those perverse incentives. Indeed, it increases the likelihood of the accounting scams that are the very reason why perverse incentives pay.
- William K. Black

In many ways, we are following the same path that Congress walked in the early 1930's.

Unknown to most people, there were two Glass-Steagall acts. The first one was passed in February 1932.
It was designed to fight deflation, and is mostly notable for giving the Federal Reserve more regulatory powers. It didn't make any structural changes to Wall Street - just like the recently passed financial reforms.

The Pecora Commission, famous for exposing Wall Street corruption, and led directly to creating the SEC and the famous second Glass-Steagall bill, began April 1932.
The Pecora Commission had a very poor beginning. It was led by a Republican-controlled Senate, and was heavily criticized by Democrats. The first two chief counselors were fired for ineffectiveness, and the third resigned when the committee refused to give him subpoena power.
Now compare this to the current congressional investigation.

Let’s be honest: the record of Congressional hearings seeking answers about the financial crisis has been pretty awful. How many hearings were spent “investigating” the government’s efforts to push Bank of America to complete its acquisition of Merrill Lynch? Three? There was plenty of heat, but very little light. Angelo Mozilo, who founded Countrywide, and E. Stanley O’Neal, the former chief executive of Merrill Lynch, were berated for their gaudy compensation, rather than their mismanagement. Richard Fuld, who led Lehman Brothers into the abyss, was batted around like a piñata — a cathartic exercise, but not an illuminating one.

In January 1933, Ferdinand Pecora was hired to write the final report of the commission. He discovered that the investigation was incomplete and requested another month of hearings.
It is only at that point that the Pecora Commission actually began to expose the dirty dealings of Wall Street. The attention it caused allowed the commission to be renewed for another year. It was during the height of these investigations that the second Glass-Steagall was passed.

Real financial reform wasn't passed during the Great Depression until there was a serious effort to root out the corruption and expose it to the light of day. That didn't happen until most of the banks in the country were bankrupt and their lobbying power was diminished.
It would be a shame if we had to relive and relearn all of those mistakes, but until Congress shows some backbone and starts representing the public, we appear to be headed in that direction.



Spot on

Great piece.

It's almost comical at this point. I've long ago stopped expecting our elected representatives to do anything that's in the best interest of their constituents.

The end result of this charade is that asset prices will go down anyway and we'll have a sovereign debt / currency crisis too. Awesome.

amazing isn't it?

Yet derivatives for the most part are loop holed and not really regulated. The cause of it all and we had lobbyists demanding those remain intact because they are so profitable.

I agree, it's insanity but we don't have a FDR in the pipeline either, so now what?

Don't ya know TARP saved the economy???

Alan Blinder and Mark Zandi wrote a paper proclaiming TARP saved the economy.


and isn't that incredible, who would guess the recession is over? After all, so many metrics, esp. unemployment show we're all back to pre-recession levels as if after the 2001 time period, things of course return to "equilibrium".

here are some possible model assumptions, and I find it astounding these two would release
such number propaganda.

i.e. was it TARP or was it really Bernanke guaranteeing the money markets?

I didn't write this up on the site because the assumptions are so flawed and assumed this is just a political stunt to try to claim they "saved the economy" while from all directions people are screaming about saving the corporate elites and the banksters while enabling shipping of U.S. jobs abroad and destroying the U.S. middle class.

It saved part of the economy

It saved the part the elites cared about, and screwed the middle class. Soros had it right in that sovereign credit was substituted for private credit, but the middle class took the haircut and are still taking it. Ironically, it was Greenspan who declared that the financial system is broken -- and he helped break it. Reminds one of Colin Powell's famous "Pottery Barn Rule," except that AG does not have to pay for any of it -- AIG execs got their bonus, and the banksters got 100 cents on the dollar. A contract is a contract, except where it is with the American worker and their pension funds. Makes Jimmy Hoffa look like a progressive (though a piker by today's standards). I even miss Huey Long.

Frank T.

A Bit Off-base

There's a lot of truth in both the recent and the '30s history of what was wrong, and is wrong, with what is called here the financial system.
But in reality the system that is broken and insolvent, now as in the '30s , is the monetary system.
Didn't you notice we have a money problem again?

The focus of repairing our economic society does not lie with a fight over the correctness of deficit-spending. It is minimally related to whether those deficits should be funded by debts, or not.
And in sum, the only real solution for the populous
is the restoration of full monetary sovereignty, using the nation's right to create the circulating medium needed to maintain price stability and the fullest possible employment of the people.
The way to accomplish this is spelled out as clearly as can be done in the 1939 paper by an outstanding group of economists, who penned A Program For Monetary Reform with the intention of ending the lawless variability of the supply of circulating medium needed in our national economy.
The rare work of Douglas, Fisher, Graham, Whittlesey and others is available here, in blueprint form.

You will not be disappointed.

Not that simple, but Goldman Sachs & NPR want you to believe so

"And that, in a nutshell, was the reason for the worldwide financial crisis - the mispricing of assets, mostly mortgage-backed securities, based on fictional financial models."

Ahhh....that is the official reason, but not the real reason.

The real and simple reason is a profound Ponzi and pyramid scheme, spanning across the planet, involving marking securtized debt as an asset, then generating notes based upon that (placed in the liability column), which is purchased by other banks, financial institutions, pension funds, hedge funds, pooled investment vehicles, etc., which in turn issues other financial instruments...say ABCP, or other notes, or ETNs, etc., any of a thousand or more types of credit derivatives, based upon that debt, all of which are marked as assets, and then on and on and on.

Hence the entire "shadow banking system" -- which, with the American bailouts and Euro bailouts and other regions' bailouts -- has become the mainstream system.

Nope, the ultra-deleveraging, which comes after the ultra-leveraging, which bequethed Earth all those debt-financed billionaires and trillionaires, has just begun....

America's Rich

Socialism for the Rich means the Rich keep the winnings when they win and the public pay when the Rich lose. Nice game, when you can buy politicians at 2 cents on the dollar.