Tuesday, September 25, 2007

This Week's Theme: The Rot Within II

Privatizing Profits, Socializing Risk: Hypocrisy and Housing

Generous reader Faith A. sent me a copy of The Shock Doctrine: The Rise of Disaster Capitalism which I can now recommend to you

One of the book's primary theses (in my view) is that an intellectually robust "free market" philosophy has been hijacked as intellectual cover for the plundering of public assets by private (corporate) interests.

The idea can be summarized thusly: capital and profits are kept private, but losses and risk are shifted to the public. We can see this happening in the housing/mortgage fiasco, which frequent contributor Zeus Y. covers in detail below.

A corollary policy of this utterly hypocritical "we like free markets until we lose money" school of fake free-marketers is that the government exists to gather taxes which can be funnelled to private interests. This is the modus operandi of those lenders who want to foist their high-risk (toxic-waste) mortgages onto publicly supported Fannie Mae and Freddie Mac. They also want government money to be given to their borrowers so the lenders need not suffer any loss of capital or profit despite their stupendous folly (i.e. making and securitizing the risky loans in the first place).

The craven bail-outs which will be funded by taxpayers are drawing support from both political parties--both of whom are hiding the bail-out of their lender/investment banker/ hedge fund pals behind the transparent charade of "helping Americans keep their houses." The truth: keep the payments and profits flowing to our pals the lenders and investment bankers via debt serfs a.k.a. homeowners with new taxpayer-funded loans and giveaways.

The intellectually honest result of the housing/mortgage bust would be that every lender who wrote too many high-risk loans and every investment bank which securitized those loans would go bankrupt and their assets would be auctioned off in an open market. Every borrower who got over their heads in debt would also default and go bankrupt, at which point their assets (the overpriced house) would be auctioned off in the open market. This is called "creative destruction," and it is the true intellectual core of capitalism.

Should the government get involved in "saving" participants who are now facing creative destruction? No. This is a capitalist economy, and that's the flipside of capitalism, the yin to growth's yang. If entire subdivisions are empty, falling-apart eyesores, perhaps the local government can buy each one for $1 and have them dismantled/recycled. At least the "attractive nuisance" will be eliminated, and this might be worth a few taxpayer dollars.

There is much more in Shock Doctrine worthy of discussion; here is a short film on the book that is posted on the author's website (naomiklein.org): The Shock Doctrine Short Film.

And here is a peer-to-peer download site for the documentary.

There is an entire nomenclature sprouting up around these proposed bail-outs: moral hazard, mortgage socialism, etc. They all touch on the same basic theme, which is the politicos and their banking Overlords seek to transfer the risks and losses they incurred onto the public, while retaining the profits and capital from the continued servicing of bad debt/ risky loans for themselves: Privatizing Profits, Socializing Risk.

This is corporate welfare at its most blatant and most odious. If these bail-outs don't spark a revolution in our cloroformed culture, they should. They are intellectually fraudulent and financially irresponsible.

Foreign investors and central banks are no longer willing to support our government's bail-outs of our most irresponsible corporate/banking interests:

The US Treasury showed that foreign buying of US securities slowed in July to the weakest pace in seven months as a rout in the subprime mortgage market sapped global demand for all American bonds. US government data on foreign holdings released this week shows a collapse in foreign purchases of US bonds from $US 97 Billion in June to $US 19 Billion in July - with outright net sales of US Treasuries.

Zeus Y. covers the subject in greater detail--read on:

An interesting development which promises to open the door for banks and investment companies to pull their own rear ends out of the hole they dug for themselves, and stick all the liability on the taxpayer.

From the Paper Economy blog:

"In a really disturbing and outright reckless move, New York Senator Charles Schumer (D-NY) yesterday publicized details of a soon to be introduced bill that, if enacted, would both raise the portfolio caps on Fannie Mae and Freddie Mac by 10% ($145 billion with $72 billion being allocated for refis of rate shocked mortgages) and increase the conforming loan limit to as much as $625,500 in 'high cost' metro areas. In his statement, Schumer stated that by enacting the 'Protecting Access to Safe Mortgages' act, the federal government would be “deploying Fannie and Freddie to do the job they were designed to do.'"
I noted in the comment section that isn’t 'Schumer’s Protecting Access to Safe Mortgages' an interesting acronym— SPASM. Quite appropriate. Let’s follow one spasm of bad judgment and poor lending with a manic-depressive series of interventions not designed to solve the root problem, but to cover up the symptoms. Every time someone tries this, the underlying problem (i.e. overinflated, unaffordable housing) gets ignored or gets worse, but it defers reckoning, and WHO has to reckon, doesn’t it?

An anonymous commenter made some very good points, and I’m going to riff on them as well as reprint his/her full post at the end. The lesson, as in Watergate is 'follow the money,' but more specifically now 'follow the risk and liability' THEN 'follow the profit'. To no one’s surprise the liability is going to find its way from the one’s who made the bad investment decisions and practiced poor lending to those who had nothing to do with, and gained nothing from, the latest housing market debacle.

You see, free enterprise is for profit (meaning 'free of risk, regulation, responsibility') by the already wealthy, and RISK, well that is for those socialistic government bail-outs and the 'common man'; that’s 'what Freddie and Fannie are designed to take care of.' Socialism is always bad because it wants to restrain 'free enterprise,' but we won’t call it that when it is bailing us big-time investors and banks out of our bad judgment at the expense of taxpayers. I guess buying legislation and legislators is also part of free enterprise.

One, banks and investment firms hold a lot of bad paper right now (which incidentally they sold to themselves, so they shouldn’t really blame others). Hedge funds dabbled in high-return, 'risk-shrouded' mis-rated mortage-backed securities. Banks both lent them money, and sold them AAA-rated junk tranches and packages of securities based on 'liar loans” and other fraudulent terms.

But, see, everyone was making such great fees and bonuses, and that is the real life-blood, to the tune of an entire billion dollars for the highest paid hedge fund manager. Not too many citizens get this because most work for a wage, only see commissions as an expense, and look only at appreciating value of an owned asset as having financial value.

Now we banks and investment firms have a problem. We don’t work for a living. We skim money off exchanges of ownership. Not only are we holding worthless scrip, but since no one is buying the crap, we don’t get any fees, hence no income either. That’s a real problem. How do we jump-start our income and off-load our crap?

Two, we have to obscure the problem and the consequence, so let’s try to draw out this debacle (to buy time to scheme our way out) and create trapdoors in which to stash our dirty little secrets. So let’s get our Republican pal Bush to arrange for tax-supported refinancing to staunch the cascade of foreclosures, and let’s raise (through our Democratic pal Schumer) the limit on the 'jumbo' limit from 417K to 625K, so we can 'trapdoor' our bad loans into the public trough.

Three, if you’re real clever, as suggested by the anonymous commenter, now you have time to sell Fannie and Freddie all your bad loans under 625K, have taxpayers support your other failing loans through refinancing, and an excellent profit opportunity: Once Fannie and Freddie’s portfolio starts to burgeon with the worthless loans we (investment gurus and hotshots) sold them, we can either buy them back on pennies on the dollars or 'persuade' Fannie and Freddie to sell us their 'good stuff', swapping out our crap for actual performing loans.

Four, all the while home prices are held artificially high, out of synch with income and out of reach of working taxpayers (but keeping the 'worth' of assets in hedge funds and stock portfolios sitting pretty).

The question just has to be asked: 'Who is this country being run for, anyway?' Some day America may actually recognize the difference between 'license' and 'freedom'. When I said a half-trillion dollar bailout in an earlier post, I’m beginning to sense that’s about right. And worse yet, politicians will try to stick that debt on our kids, by borrowing it. No more bailouts. This has never been an honest or had any integrity. Subsidizing and rescuing dishonesty from its own consequence, even if there are innocent victims, will only accentuate the practice. Let the housing market fall and correct itself. Let people default.

If you want to get a government program together, make it about giving financial literacy education, ensuring a living wage, developing incentives for saving and economic stability for homeowners so they can meet their obligations. Just say no to the 'cokeheads of the economy' snuffling up their noses all our country’s value through their predatory practices.

Anonymous comment (from the Paper Economy blog referenced above:)

This is a bailout, no two ways about it. It transfers bad credits from the hands of the banks and investment banks who now hold this paper, into the hands of the taxpayer. When these loans are refi'd by freddie and fannie, the interest income goes to shareholders of fannie and freddie, however, when the loans eventually default (which they will), the cost is bore by you and I. Btw, I could be wrong on this, but i believe the purpose of F & F was to help add liquidity to the mortgage markets by guaranteeing conforming mortgages, not to drectly hold for profit, $1.45 Trillion in mortgages (plus the additional 10% they're tryng to add now).

Also, don't forget the connection to the 'FHA fix' proposed by Bush. FHA's limits are derived from the F & F conforming loan limits and will automatically go up if this bill passes. Add risk based pricing and voila, all this stated garbage is transferred to the GSE's. Prices stay artificially high, which means larger loans and more interest income. Eventually the loans go bad because real afordability (based on Price to Income and Price to Rents) never returns, and when they do, the taxpayer foots the bill. Meanwhile, the same IB's who offloaded the paper onto the GSE's will be standing in line to take it back off their hands for pennies on the dollar.

If the Banks and IB's are smart (which they are) they'll push for no increase in the caps and force F&F to sell them part of the $1.45T in quality paper (pre-2005) they're already holding, in order to free up room to "do the job they were designed to do". In other words, sell me the good stuff so I can collect interest on performing loans and I'll sell you my 2005 and 2006 vintage crap, which will eventually default. Don't worry though, it's the taxpayer who will foot the bill in the end.;)

Thank you Zeus (and the Paper Economy blog) for an enlightening overview of an extremely important subject.

Thank you, Tom S., ($50) for your generous donation to this humble Muggle site. I am greatly honored by your encouragement and readership. All contributors are listed below in acknowledgement of my gratitude.

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