No one's saying the banks should take the whole rap for the crisis -- but don't insult us by absolving them of blame.
I’m getting a number of letters, mainly from conservatives and libertarians, who seem to think that my response to Mike Bloomberg's "It's not the banks' fault" rant means I "don’t believe in personal responsibility."
Apparently, people feel that by explaining how the banks profited from the explosion of subprime home loans, I’m somehow letting the ordinary homeowner who over-borrowed off the hook.
But the question was never, Do ordinary homeowners share any blame for the crisis? The question, as implicitly posed by Bloomberg, was, Is it true that the banks had NO blame for the crisis?
We can all argue about how big of a slice of the blame pie should be doled out to other actors – the irresponsible homeowner, the corrupted ratings agency analyst, the sleeping regulator, the do-gooder liberal congressman, etc. – later on. But what the mayor said, and Wall Street flacks have been saying for years, is that the banks shouldn’t eat any of that pie, and that they only made those loans because they were forced to, by Barney Frank and Franklin Raines and other such liberal meddling kids.
So let’s examine that for a minute.
For one thing, we know, because of investigations like Carl Levin’s inquiry into Washington Mutual and its subsidiary Long Beach, that these banks were often well aware that fly-by-night lenders like Countrywide and Long Beach were committing fraud on a massive scale – and bought their loans anyway, knowing they could still sell them off on the secondary market.
In 2005, for instance, Washington Mutual did an internal audit of two of Long Beach’s biggest offices, one in Downey, California, and one in Montebello, California. They found that 53 percent of the Downey loans involved some type of fraud, while the number in Montebello was 83 percent. The internal investigation drummed up the usual litany of unsafe financial sexual practices, using white-out to disguise low income levels, cutting and pasting info from good borrowers onto the loan applications of less worthy applicants, and so on.
So you know what WaMu did about all that fraud they found? Zip.
The company overrode its auditors and sold those phony loans off into the market anyway. And internally, they did nothing to change lending practices. WaMu did a follow-up investigation in 2007, and found the fraud rate at Montebello was still 62 percent.
So forget about the banks being dragged, kicking and screaming, to take on even legitimate loans for unworthy, overextended homeowners. Not only did the banks willingly take on every conceivable real home loan, government-backed or not – they even wanted the fraudulent loans, the loans that were not just likely to fail but virtually guaranteed to fail.
Why? Because they could. Because they were making huge profits hawking these bad loans to third-party customers who didn’t know what they were buying.
But here's the real kicker: when the banks milked the Countrywides and Long Beaches dry, and ran out of real people with pulses to lend homes to, they went out and made derivative copies of those "unworthy" lenders supposedly forced upon them by Barney Frank, and sold those copies off on the secondary market.
In other words, they were so "reluctant" to give that Oakland janitor a house that once they had his loan on their books, they promptly Xerox-copied him in the form of synthetic derivatives (essentially, bets on his home loan) and sold him off in five, ten, fifteen different directions. Janitor takes out home loan, bank tells two friends, and those friends tell two friends, and so on, and so on. The banks sold every one of those endlessly-replicating little squares and made cold hard cash each time.
AND THEY TOLD TWO FRIENDS, AND SO ON, AND SO ON: Banks willingly made thousands of clones of the homeowners the government supposedly "forced" them to lend to.
You remember that notorious Abacus deal that Goldman Sachs was involved with, the one in which a pair of European banks, the Dutch bank ABN-Amro and the German Bank IKB, lost a billion dollars buying a portfolio of designed-to-fail mortgage-backed instruments hand-picked by a short selling billionaire named John Paulson?
Well, that portfolio that Goldman and Paulson dumped on those two banks was not, in fact, a portfolio of real subprime home loans. It was a synthetic CDO – a giant package of bets on subprime home loans.
Mike Bloomberg wants you to believe the banks didn’t want anything to do with those unworthy borrowers. Yet in reality, the banks not only went to every conceivable length to take on the home loans of those subprime borrowers, they actually invented new technology to make clones of those Barney Frank debtors.
And there were thousands upon thousands of those synthetic deals, meaning each and every one of those deadbeat subprime borrowers have been Xeroxed by the banks fifty or a hundred times over, and are flying around the globe to this day as toxic assets.
Nomi Prins pointed out in her book It Takes a Pillage that we could have paid off every subprime loan in America at the start of the crisis for about $1.4 trillion dollars. But the bailouts ended up being four, five, perhaps as much as ten or twelve times that size.
Why? Because we weren’t paying off the underlying loans of those subprime, personal-responsibility-deficient homeowners. We were paying off the banks' bets on those loans. We were adopting all those clones they made.
Anyway, there's is a massive gap between making a bad decision with one’s personal finances and committing criminal fraud in billion-dollar amounts. Morally, the two acts are not even in the same universe.
Homeowners who took on those bad loans did so for a variety of reasons. Some were coaxed into adjustable-rate loans when they qualified for fixed-rate loans, for the simple reason that the ARM loan garnered a bigger commission for the seller. Others were told by their brokers that if interest rates went up, or they couldn’t make their payments, they could just sell their homes, or come back to the same broker for a refinance.
Some were flat-out defrauded, like the prison guard in Massachusetts I interviewed who was told he was buying a fixed-rate loan, and only found out (from Goldman subsidiary Litton) that he’d been sold an ARM when rates went up -- right around the time his wife developed cancer, incidentally.
And, yes, there were others who were just dumb and irresponsible, and still others who never even intended to live in their homes and simply bought properties with no cash down as a speculative gamble.
But from what I’ve seen, most foreclosures involve ordinary people with jobs who bought houses when the economy was good, but are caught now in the triple death-trap of an underwater home, rising costs of living, and declining wages and opportunity. And as far as personal responsibility goes, those people who bought that home-ownership ticket, if they missed payments, they’re all taking the foreclosure ride right now.
What we have on the other hand, however, is a bunch of financial companies who consciously created huge volumes of bad loans, dumped them on retirees and foreigners and union stiffs, then doubled down on the problem by creating mountains of new liabilities based on those bad loans via synthetic derivatives. Then, when it all blew up, they came to us and asked us to buy the whole pile at full retail prices, clones and all.
Which we did, flooding them with bailout cash. This allowed them to instantly jack their annual bonus pools back up into the $150 billion range while the rest of the country waited out mass unemployment and a foreclosure epidemic.
So these people created giant masses of these defective loans, pumped the global system full of toxic debt, asked for the biggest government handout in history when it all went wrong, then walked away in the end even richer than before, forcing the rest of us to deal with their messes.
It baffles me that people can look at that behavior and still think it’s individuals in foreclosure who need to be lectured about "personal responsibility."
A lot of people had to make bad decisions for the crisis to happen. People had to buy houses they couldn't afford. Ratings agencies had to give AAA ratings to junk securities. Regulators had to be asleep at the wheel. The GSEs had to lower their standards and provide billions of dollars of government-backed financing for dicey home loans. Nobody is denying that all of those things played roles in the crisis.
But the main driving factor was the simple fact that banks were able to make trillions of dollars selling defective products. You take away that simple market-driven reality, there's no bubble and no crash, no matter what people like Michael Bloomberg say. No one is insisting that they take the whole rap -- but don't insult us by trying to say they shouldn't take any at all.