Tuesday editorial: Searching for a bottom
Monday was one of the most wrenching days in the history of the American financial system. One blue-blooded investment bank, Lehman Brothers, sought shelter under Chapter 11 bankruptcy laws, while another, Merrill Lynch & Co., announced it had sold itself at fire-sale prices to Bank of America.
Meanwhile, American International Group, the giant insurance company, cut a last-second deal with the state of New York that enabled it to avoid bankruptcy. AIG will be allowed to bypass state insurance regulations and gain access to $20 billion from its subsidiary companies, money that will buy time as AIG seeks a loan from the U.S. government.
No less an authority than former Federal Reserve Chairman Alan Greenspan pronounced the country in the midst of a “once in a lifetime” financial crisis. The worst part about it is that no one is quite sure where the bottom is: “We will see other financial firms fail,” Mr. Greenspan said Sunday on ABC’s “This Week” program.
Among other firms believed to be teetering is Washington Mutual Co., whose debt has been downgraded to junk status by Moody’s Investor Service. In the midst of a financial crisis triggered by the collapse of the subprime mortgage market and now ricocheting around the broader credit markets, being the nation’s biggest savings and loan is a problem.
The Dow Jones industrial average dropped 455 points on Monday to close at 10,966. All things considered, the 4 percent drop was better than some analysts feared, far less than the 22 percent drop of Oct. 19, 1987, the last “Black Monday.” But the week is still young.
Oddly, the market’s relative calm may have been a response to the very factor that battered Lehman Brothers and Merrill Lynch: The federal government decided it would not bail out the two investment banks.
In March, the government agreed to put up $30 billion to underwrite the sale of the investment bank Bear Stearns to JP Morgan Chase. Last week, the government took over the large mortgage companies Fannie Mae and Freddie Mac, declaring them “too big to fail.” But when it came to Lehman and Merrill Lynch, U.S. Treasury Secretary Henry M. Paulson decided that enough was enough and said no. Even so, Congress is considering $50 billion in loan guarantees to the Big Three U.S. automakers.
Why did Merrill Lynch and Bear Stearns (the latter with government help) find buyers and Lehman fail? The answer may lie in the banks’ different mixes of assets and liabilities, specifically Lehman’s huge exposure via an exotic investment instrument called “credit default swaps.” In short, Lehman is holding the bag on a lot of bad mortgages, having guessed wrong about which direction the mortgage market would take.
The good news about Mr. Paulson’s refusal to intervene with government cash is that it at least partially restores the doctrine of “moral hazard” to the financial marketplace. The principle is that lenders must assume real risk, not count on someone bailing them out. The mortgage market got in the mess it’s in because lenders always found a way to transfer risk to some other entity, repacking mortgages as securities and then trading in derivatives of the repackaged securities. If worse came to worst, the assumption was that the government would step in.
Not this time.
The bad news is that people will be hurt, and not just Wall Street wheeler-dealers who knew what they were getting into. Pension funds and 401(k) retirement accounts will be hammered — the result of risk being transferred by Wall Street, with the connivance of Congress, to unsuspecting people on Main Street. If nothing else, Monday should end forever the talk of privatizing Social Security.
The government — even the sainted Mr. Greenspan — is responsible for allowing this risk shift to occur without proper safeguards. Government regulators were asleep at the switch throughout the Reagan, Clinton and both Bush administrations as financiers and ordinary Americans alike assumed the balloon would expand forever.
The shakeout will leave Wall Street with just two big investment banks, Goldman Sachs and Morgan Stanley, and but a handful of major commercial banks, of which Bank of America will be the largest. Consolidating that much power in so few hands is yet another argument for strong, forceful and diligent government oversight.
“The principle is that lenders must assume real risk, not count on someone bailing them out. ”
Yes, that’s right. So why did Congress think they needed to bailout a bunch of people who got loans for homes they could not afford?
“Consolidating that much power in so few hands is yet another argument for strong, forceful and diligent government oversight.”
Oversight, possibly. Involvement, no
The only people who will be hurt are those who can’t read, didn’t read, and didn’t want to pay about $200 to a real estate attorney to explain to them what they were getting into.
Do I feel sorry for any one of the people who “got hurt”. No. Do I feel sorry for any Company whe goes under as a result of making such loans. No.
That includes fanny May and Freddi Mac.
The escalation clsuse in the contracts are not new. They were previously known as a a balloon payment. I have bought large amount of real estate with a balloon payment. At the end, One must have cash in hand to pay it off when it is due, have penalties for not paying, or lose the property.
Dib’t even get Governments involved in real estate. They don’t anything about it other than how to tax it.
Let me put it in a ricicuouos manner. If you want to buy a house for $20,000 dollars and put #2000 down, you have the right to agree to pay the pay the seller $20,000 per year for 30 years. Would you do that?
Another pathetically dishonest editorial. Where is any mention of Democrats involved in this disaster? Franklin Raines, Jamie Gorelick, Rahm Emanual have all enriched themselves off Freddie and Fannie. Why isn’t Obama calling for an investigation the way McCain is? Is it because Dodd and Obama were major recipients of campaign cash from Freddie and Fannie?
You can thank Jimmy Carter and the Clinton administration for their social engineering once again.
And I’ll bet the Senate is renaming more post offices today.
the following are the responsible parties for economic problems.
1. Greenspan and the Fed governors for low interest rates after the tech stock blowout in 2000-2001. This led to leverage being ignored and greed in the marketplace.
2. Fannie and Freddy being endowed by congress to basically guarantee that everyone could buy a house. Although all members have some shared guilt look to Frank and Dodd as the biggest protagonists.
3. The regulators specifically the FDIC, OCC, the Fed again for bank holding companies and the agency set up to examine federal savings banks ie Indy Mac.
4.exotic debt instruments that only rocket scientist or Harvard and Yale math experts could dream up.
5. mortgages the easiest loan to anylize if you consider the ability of the borrower to pay. Unfortunately that was ignored.
There is enough blame to go around but our smartest people have failed us.
“Consolidating that much power in so few hands is yet another argument for strong, forceful and diligent government oversight.” - the editorial board.
And consolidating more power in government hands will do what? Why do evangelical socialists preach redistribution of wealth by expanding government taxation/disbursement; but reject redistribution of wealth by random capitalist failures/mergers? Answer: control.
Marxists are convinced by their own egos that they will make everything great if they are given total control. Just eliminate free enterprise and give the socialists control of strong, forceful and diligent government.
A taxpayer working two jobs should receive as much consideration as a consumer who recklessly bought more house than he could afford to pay for. Why are crooks on the Potomac any better than crooks on Wall Street? At least the Wall Street crooks don’t have the power of the IRS, FBI, and federal courts to enforce their thievery.
Don’t cry Garrison. Nanny is on the way to wipe your tears and scare away those nasty conservative boogie men. When the Marxists take control next January those who survive to be born will have your cradle to grave government care awaiting. Nanny will forgive your sins and cleanse your soul, and give you a stimulus check, food, clothing, shelter, and unlimited medical care at the same time.
Then you can all sit back and bawl for buttermilk until Nanny takes from your neighbor and gives to you. That’s being “neighborly” in the collectivist, socialist vision of the evangelical government worshipers. Be patient, your “change” is coming.
Oops, somehow the preceding comment got posted to the wrong thread……. ??
That’s OK A#, Garrison will chime in soon enough here and your comment will apply.
I love it when people are critical of organizations like Metrolink because they lose a little bit of money, but the lack of public accountability is nothing compared to the lack of accountability on the part of the private sector when it screws up.
Savings and Loan with Reagan was a $250,000,000,000 scew up and most of the big boys made off with their money.
Enron was a multi billion dollar screw up and again most of the big boys made off with their money although some admitedly had to go to jail and make restitution.
Evers ruined a company and caused the largest bankruptcy, until Lehman Brothers, and he gets to keep his $900,000,000 plus home in Florida because of the way their law helps protect the assets of business owners who screw up.
Freddie and Fannie need federal help and the executives are probably going to be able to keep their compensation packages which are several million, and the tax payer is on the hook for billions.
I could keep going, but the point is simple. When the government screws up, at least there’s a pretense of being able to vote the rascals out, unless you’re stupid enough to believe Bush and his friends, one of whom is McCain.
And before someone starts screaming socialism and communism, stop and think about what we have had for the past eight years. I would call a $6,000,000,000,000 (trillion) defict and very very lax oversight of the private sector a form of corporate socialism and communism.
If you are going to go private, then make sure the guys making the decisions are the one’s who suffer the most when the decisions are bad because they are the ones screaming the loudest about how good they are when times are great. Mabe you haven’t notice but executive pay has been going up even when companies have been doing poorly.
And AJ, you are right, oversight is exactly what is needed, but it needs to have some teeth to it and it needs to be honest, two things Bush hasn’t had and McCain probably won’t. He just wants to let the market make the adjustment and we’ve seen how well that works, especially when the leaders are not being truthful about what is happening.