Guest commentary (by RaymondJohn)
The federal government is in the process of working out a plan to bail out large investment corporations who have lost billions of dollars in the mortgage loan collapse.
There are many causes for the crisis, I see at least three main reasons. For one, there were too many investment institutions with too much money and too few safe places to invest. For another, lending institutions made inexcusably risky loans with no regard to credit-worthiness. Finally, and perhaps the greatest reason of all, there has been a very narrow sharing of risk because of fewer institutions with direct investment in the real estate itself. Banks sold the mortgages to investors and investors made millions. Their CEOs got millions in bonuses.
It's like the flooding of a river. Even the terms of the two systems are similar. A river flows between its banks. The movement of water is a current, we call money currency. The economy and a river both work well when there is not too much in the system. As long as it doesn't rain for a prolonged period, or lending institutions aren't flooded by too much money, both systems work very well.
Unfortunately, we live in an imperfect world. The melt of heavy winter snows, or prolonged periods of rain can cause too much water for a river to handle at one time, and we have flooding. Similarly, too much money coming into the economic system puts unbearable pressure on the banks and other investment institutions involved in lending money to find places to lend it. The burgeoning economies in China and India have resulted in massive investment in America. Literally, this caused too much money and too few places to invest it. Think of it as a form of hyperinflation.
Having run out of safe investments, the banks began to investigate other places to lend money. The housing market had enjoyed several decades of sustained growth, with a very low default and foreclosure rate. The investment institutions thought they saw the perfect market for their capital. All they had to do was increase the money available for home mortgages. It was a great idea, but even with record-low interest rates, there simply weren't enough home buyers to suck up the enormous sums of money available. Their answer to that? Lower the standards for loans so more people would be eligible. This helped to spend the investors money, but it also increased the money-at-risk and increased the possibility of outright fraud to inflate the prices. Houses soon were being financed for amounts far greater than their actual worth.
In short, all of this money resulted in a flood.
Floods aren't always bad. They were the lifeblood of the ancient Egyptians. The annual inundation from the Nile provided water for a full year of crops. Every year the Nile overflowed its banks, but the marshes and watersheds ameliorated the amount of water going downstream, so by the time it reached the end of its journey, it didn't cause catastrophic flooding.
At one time, the housing market had similar safeguards. It was decentralized, dispersed by thousands of banks and savings and loans. Each of these lending institutions created a marshland, spreading economic stress over a large area so it didn't threaten the entire system. Those thousands of small S&Ls shared the profits and the risks of the mortgage market.
The S&Ls are no longer with us. After Reagan deregulated them, they began to make riskier loans without keeping sufficient funds to back them. In an earlier day, this was called wildcat banking. The housing crash of 1984 closed the wildcatters' doors. Since then, mergers and investment institutions have narrowed the sources for available home-loan money. By so doing, the system also narrowed the sharing of risk the smaller banks provided. Instead of saving wetlands, the banks built levees. Other than the times when nature provided enough water to overflow the levees, the river no longer had anywhere to go except directly downstream. Building levees upstream increased the necessity of building others down. With nowhere else to go, the water flowed more quickly, becoming continuously faster as its path became narrower.
The same thing happened with the housing market. The flow of money finally washed over the levees. Then the levees themselves began to fall apart when mortgage-holders started to default on their loans.
In truth, we have an enormous amount of water to get rid of. The destruction is horrific, but the positive side is that the water will eventually recede and we can rebuild--unless we're living in Louisiana. The safest way to handle the next inundation is to tear down the levees and restore the wetlands. Decentralize the economy. Where the levees are necessary, make sure they are inspected so they remain sound. We can and will survive, but as both major parties say, change is essential.
There are many causes for the crisis, I see at least three main reasons. For one, there were too many investment institutions with too much money and too few safe places to invest. For another, lending institutions made inexcusably risky loans with no regard to credit-worthiness. Finally, and perhaps the greatest reason of all, there has been a very narrow sharing of risk because of fewer institutions with direct investment in the real estate itself. Banks sold the mortgages to investors and investors made millions. Their CEOs got millions in bonuses.
It's like the flooding of a river. Even the terms of the two systems are similar. A river flows between its banks. The movement of water is a current, we call money currency. The economy and a river both work well when there is not too much in the system. As long as it doesn't rain for a prolonged period, or lending institutions aren't flooded by too much money, both systems work very well.
Unfortunately, we live in an imperfect world. The melt of heavy winter snows, or prolonged periods of rain can cause too much water for a river to handle at one time, and we have flooding. Similarly, too much money coming into the economic system puts unbearable pressure on the banks and other investment institutions involved in lending money to find places to lend it. The burgeoning economies in China and India have resulted in massive investment in America. Literally, this caused too much money and too few places to invest it. Think of it as a form of hyperinflation.
Having run out of safe investments, the banks began to investigate other places to lend money. The housing market had enjoyed several decades of sustained growth, with a very low default and foreclosure rate. The investment institutions thought they saw the perfect market for their capital. All they had to do was increase the money available for home mortgages. It was a great idea, but even with record-low interest rates, there simply weren't enough home buyers to suck up the enormous sums of money available. Their answer to that? Lower the standards for loans so more people would be eligible. This helped to spend the investors money, but it also increased the money-at-risk and increased the possibility of outright fraud to inflate the prices. Houses soon were being financed for amounts far greater than their actual worth.
In short, all of this money resulted in a flood.
Floods aren't always bad. They were the lifeblood of the ancient Egyptians. The annual inundation from the Nile provided water for a full year of crops. Every year the Nile overflowed its banks, but the marshes and watersheds ameliorated the amount of water going downstream, so by the time it reached the end of its journey, it didn't cause catastrophic flooding.
At one time, the housing market had similar safeguards. It was decentralized, dispersed by thousands of banks and savings and loans. Each of these lending institutions created a marshland, spreading economic stress over a large area so it didn't threaten the entire system. Those thousands of small S&Ls shared the profits and the risks of the mortgage market.
The S&Ls are no longer with us. After Reagan deregulated them, they began to make riskier loans without keeping sufficient funds to back them. In an earlier day, this was called wildcat banking. The housing crash of 1984 closed the wildcatters' doors. Since then, mergers and investment institutions have narrowed the sources for available home-loan money. By so doing, the system also narrowed the sharing of risk the smaller banks provided. Instead of saving wetlands, the banks built levees. Other than the times when nature provided enough water to overflow the levees, the river no longer had anywhere to go except directly downstream. Building levees upstream increased the necessity of building others down. With nowhere else to go, the water flowed more quickly, becoming continuously faster as its path became narrower.
The same thing happened with the housing market. The flow of money finally washed over the levees. Then the levees themselves began to fall apart when mortgage-holders started to default on their loans.
In truth, we have an enormous amount of water to get rid of. The destruction is horrific, but the positive side is that the water will eventually recede and we can rebuild--unless we're living in Louisiana. The safest way to handle the next inundation is to tear down the levees and restore the wetlands. Decentralize the economy. Where the levees are necessary, make sure they are inspected so they remain sound. We can and will survive, but as both major parties say, change is essential.
posted by Brindle | 3:16 PM
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