Hedge fund operator Michael J. Burry, who tried to warn of the coming financial crisis in 2005 and 2006, explains why the Fed refused to listen to his case:
Mr. Greenspan said that he sat through innumerable meetings at the Fed with crack economists, and not one of them warned of the problems that were to come. By Mr. Greenspan’s logic, anyone who might have foreseen the housing bubble would have been invited into the ivory tower, so if all those who were there did not hear it, then no one could have said it.
Or, said another way, the experts, self-defined, didn’t see a crisis coming and, consequently, either no crisis was coming or it couldn’t have been foreseen.
Since a crisis did occur and others were foreseeing it, you’re left with one of two explanations. Either Alan Greenspan’s reaction that what Barry and others were seeing was a “statistical illusion”, i.e. even a stopped clock is right twice a day, or the experts weren’t experts at all.
We’d better hope that it was a statistical illusion. Otherwise, the same experts who didn’t see the financial crisis coming are now giving advice on how to right the economy after the financial crisis (which they didn’t think was going to happen) happened. One of them is the Secretary of the Treasury.
Here’s a somewhat facetious question: are economists any better than astrologers at predicting the future? I’d be willing to be that a larger proportion of astrologers saw economic problems on the horizon. Or to put it a different way, the vast majority of professional economists were in complete agreement with the optimistic fortune cookies at PF Chang’s.
If economists confined themselves to explaining what has happened rather than extrapolating to what they believe will happen I’d have no beef. But once people set themselves up as prophets it’s reasonable to ask how they managed to miss the biggest downtown since the Great Depression.
If the “scientists” are no better than the “frauds” then what does that say about the science?
“Banks are under a great deal of pressure to lend to these communities. It is very political. But I still have reservations about whether you are doing anyone a favor by letting them borrow 100% of the cost of a home. It makes it so easy for them to get in over their heads. At some point the economy is going to turn down. There will be large numbers of defaults that will trigger alot of political heat.”
Cynthia Latta, economist, DRI/McGraw Hill commenting on the surge in enforcement of CRA driven lax (subprime) lending practices
“A market system relies on the vigilance of lenders and investors in market transactions to assure themselves of their counterparty strength. However many counterparties in GSE (Fannie and Freddie) transactios, when assessing the risk, clearly rely instead on the GSE’s perceived special relationship to the government.”
“Today, the US financial system is highly dependent on the risk managers at Fannie and Freddie to do everything right. The concentrations of mortgage-backed securities at Fannie and Freddie are well beyond what market forces would normally allow because there are no meaningful limits to the expansion of the GSE’s portfolios, which are funded with debt, and which the market believes is to be federally guaranteed. The mortgage portfolios of Fannie Mae and Freddie Mac present great risk to the nation’s financial system and the federal government.”
Alan Greenspan in Congressional testimony observing the bastardized state of subprime loan origination and loan purchases by the GSE’s
“If unsuccessful hedge funds are not allowed to fail, if brokerage firms believe they will somehow be protected from the effects of far too Liberal marginal acquirements, if banks believe help will be forthcoming should loans go sour during unsettled market conditions, how will we discipline future decisions of investors and lenders. Anything that weakens the effect of market discipline lessons that punishment the market for speculators would have made incorrect decisions is likely in the long run to lead to more instability.”
Burton Malkiel, commenting on the state of the housing financing market in light of the bailout of LTCM, and other bailouts of large financial firms.
I could go on and on. Observations abound from economists to political commentators to legislators about the housing bubble and the attendant rise in subprime loans and mortgage backed securities. It is is a myth that neither the Fed, or others, were aware of looming bust. The real story is in the politics of it all. And its a sordid tale.
As a good friend said (he is a libertarian), I wish conservative would stop invoking the CRA because it just makes them look dumb.
Steve
steve –
Suit yourself, and remain in your state of ignorance.
By the way:
“CRA arrangements should, where possible, include commitments by secondary market institutions to purchase loans so that banks can obtain more capital for making additional CRA loans.”
The National Community Reinvestment Coalition, a CRA advocacy group, encouraging the formation of morgage backed securities so loan originators could empty their balance sheets and keep the origination pipeline full.
“Fannie Mae, Freddie Mac, investment bankers and mortgage companies are offering targeted, mortgage-backed securities that enhance liquidity and increase the capital available for community development.” “Investors are finding that these securities, particularly the targeted mortgage-backed securities, have very attractive characteristics. Yet without CRA as an impetus, the market would likely not have developed.”
Ellen Seidman – Special Assistant for Economic Policy, the Clinton Administration. (In a triumphant observation, before the proverbial shit hit the fan.) I guess steve and his friend know more than Ms. Seidman about CRA and the rise of subprime MBS’s
Footnote: Ultimately, of all the loans purchased by Fannie and Freddie, 58% were subprime. (It used to be zero) Just let that number sink in a bit.
Timing Drew, timing. There were very many causes of this crisis. CRA was a tiny part of it. If people were not making money, they would not have done what they did. Blaming trillions of dollars of losses on a relatively small amount of CRA loans has never made sense. The CRA did not force the creation of CDOs, CDSs, faulty bond raters, low interest rates, etc.
Steve
Fannie and Freddie need to done away with eventually. They also played a part, but they were late to the party. The shadow banking system is much larger and much more a source of our problems. Have a lot of those problem mortgages been channeled into F and F after they were causing problems? Yup, but after the mortgage brokers and the investment banks made some money first.
Steve
Steve-
Your basic assertions undermine your own arguments. Your comment that Fannie and Freddie were late to the party is simply factually incorrect. In fact they were one of the earliest to the party. Many moons ago I stated on this blog that the first MBS was issued in 1998 by Bear Stearns. I believe it was our very own Dave S who corrected me, identifying the first MBS’s in about a 1995 or 1996 time frame. Knowing what I know now, this was probably F&F!! But in any event F&F were “early adopters.” This alone lays waste to your argument. However..
Your second point, that CRA was a small part of the problem, is at least a rational point and one worth debating. However it, too, is incorrect. You may not be aware of just how influential Fannie and Freddie are in the mortgage market; they were huge (like almost half of purchases) and the fact they were buying 60% as subprime is just incredible. Pause and think.
Look, nobody I know disagrees that it was the subprime mortgage market that precipitated this whole disaster; and that subprime mortgage market was CRA driven. It simply is a fact. Look at the numbers.
But let me by way of analogy make the point on the size of CRA, separate from F&F. (Preamble: some MBS’s were pure high quality. Some pure subprime. But some were mixed: Yield chase.)
Suppose we had a bank make a loan to a company with five subsidiaries. Let’s call four of those subsidiaries “conforming” and let’s call one of the subsidiaries “subprime.” These loans , as is customary, are cross-guaranteed and cross-collateralized. (Just as MBS’s are not separable.) Now let’s suppose the loan goes fine for a year but then “subprime,” always a risky sub/loan, goes cash flow negative and draws the entire loan into default.
Now let’s suppose that an “analyst” comes along and observes that four times as many “conforming” loans went bad as “subprime” loans.
This sort of “analysis” is just pure crap. Get it? A freshman quant would.
Cleaning up the dregs:
The CRA did not force the creation of CDOs, CDSs (you were saying something about late entrants??), faulty bond raters (wrong, do your homework), low interest rates (wrong, do your homework), etc.
I thought it odd that you invoked your friend as a “libertarian” as if this was some sort of partisan argument. You obviously have little command of the facts and the history, and are apparently more interested in political posturing.
Yes, I’m generally conservative to libertarian leaning, but on this issue I’m simply speaking about facts and a legitimate history of what transpired. I’d like to avoid a “Part II.” You appear to be more consumed with political recriminations. Sad.
Speaking of timing:
http://www.reuters.com/article/idUSWAT01427220100407?type=marketsNews