As I noted in a previous Ticker, "Who Are They Trying to Fool?", Congress was explicitly warned before it repealed Glass-Steagall that doing so would lead to both asset and credit bubbles, not to mention rampant fraud.
"If Congress again opens up banking to Wall Street speculation, as it opened up S&Ls and banks to real estate speculation, regulators will quickly lose control over the complex series of events that a pervasive marketplace will immediately set in motion. Insider abuse, self-dealing, and back scratching relationships between institutions will run rampant.
....
Almost immediately the predictable happened. The historical arms-length relationship that had existed between lender and borrower vanished, and with it went due diligence, common sense and, in too many cases, ethics. Thanks to facilitating that bit of synergy the taxpayer is stuck with $300 billion dollars worth of repossessed real estate from failed thrifts. If we sold $1 million worth of this stuff a day, it would take 300 years to sell it all.
Deregulated banks can look forward to a similar script, with some of the same bad actors. U.S. Attorney Joe Cage in Shreveport, Louisiana, told us, "Some of the same people who took down savings and loans, are out in the securities business and banking now, already in place. And they're just waiting for Congress to abolish the Glass-Steagall Act. If that happens I'm afraid they'll take the banks just like they did the savings and loans.""
Congress was warned. Repeatedly. In written testimony that is STILL, to this day, available to every single member of Congress.
The Fed supported the repeal of Glass-Steagall. In fact, Greenspan was strongly in favor of it.
Today, Congress again sits on its hands and does nothing about rampant, blatant, admitted fraud in the banking system.
Yes, admitted.
As written in "Firecracker Fourth", it is reported that UBS engaged in a knowingly-fraudulent "cosmetic" transaction for the explicit purpose of intentionally not reserving against illiquid and dangerous securities (again for emphasis):
"Paramax claims that, from the beginning, the UBS hedge was cosmetic. In May 2007, when the original agreement was signed, the terms were a fraction of the market rate. Also, Paramax had only $200m under management and its agreements with its own investors limited it to commit no more than $40m to any single deal. Thus, it could never compensate UBS fully for any meaningful loss in value of the $1.3bn UBS was trying to insure, it claims.
Paramax also claims that UBS told it that the bank would employ "subjective valuation methodologies" that meant it would not record any loss in value that could trigger calls for additional margin from Paramax. (Because credit derivatives contracts are individually tailored agreements rather than standardised documents, in fact there is some discretion in how firms value such deals.) Paramax also claims that UBS assured it that if it needed a "real" hedge, it would tear up the agreement."
Now maybe Paramax is lying in their filings in the dispute.
But let's think about this for a second.
Someone is lying but from a regulatory perspective it doesn't matter who it is!
See, if its Paramax, one still has to ask - why is it that we have so-called "regulators", including The Fed, OTS, OCC and the SEC, who allowed a firm that had only $200 million under management to write protection on over one billion in underlying securities?
The simple fact of the matter is that this sort of nonsense is pervasive in our financial markets and it is why we are in the mess we find ourselves in.
We have a Congress that is now faced with The Fed and Treasury trying to strong-arm them into "promoting" The Fed into the role of the "market stability regulator" after it opened up its lending facilities to institutions that it either knows or should have known have improperly accounted for risk - either due to outright fraud or by buying "swaps" from firms that could not possibly make the payments necessary to cover those bets.
There is absolutely no justification whatsoever in allowing any of these agencies to have one iota of additional regulatory power and in fact Congress must remove all such regulatory power that they currently have, or place it under strict oversight, until the truth of these allegations, and all similar ones, are discovered and the guilty parties to the bad transactions prosecuted to the fullest extent of the law.
We have had zero regulatory oversight from Congress over the last 20 years in these matters. None. Zip. Zero. Nada.
Congress has repeatedly given the banking system whatever it wanted in terms of ability to enter various lines of business and be free from the "shackles" of regulation, yet it has continued to stand behind these institutions with billions of dollars in taxpayer bailouts every single time the bets have gone bad.
Harvard's 2008 "State of the Nation's Housing Report" puts in stark relief the outcome that the intentional malfeasance and misfeasance of our regulators and Congress have brought upon America:
- One in six children is living in a household where 50% or more of gross income goes toward housing. For those in the bottom quartile, these families have only $548 per month for all non-housing needs. It is obvious that when one subtracts food from that amount, even with only one child in the household there is not much left. Now pay the light and heat bill.
- In 2006, 17.7 million households were paying more than half of their income toward housing, and more than double that - 39 million - were spending more than 30% of income. The standard for "affordability" in mortgages has, since the Depression, been 28% - that is, the "Front end" ratio - for sound mortgage lending.
Congressional malfeasance and misfeasance has led directly to screwing the children of this nation and in fact approximately one in FOUR households is living in a "stressed" housing cost situation, while the banks and their buddies have made billions in bonuses and stock options!
The "solution" from Congress? Spend more money we don't have. Create more "programs" for "economic stimulus" and handouts to lenders and builders. Shift even more burden onto the backs of taxpayers, even though the money is not there to fund these programs, leading to nearly five hundred billion dollars in new deficit spending proposed or passed in the first six months of this year alone.
Never mind Ben Bernanke, who has injected a record amount of liquidity into the banking system in a brazen attempt to allow these institutions to avoid taking their losses and be honest with investors - and the public.
Of course when those very same investment and commercial banks use the nearly three hundred billion dollars in slosh to speculate in the commodities markets in an attempt to "earn their way out of the hole" Congress screeches about "evil commodity speculators" instead of demanding that Bernanke drain the liquidity that he put into the system in the first place, which was the cause of the dollar's decline and thus created the increase in the price of those very same commodities!
Bank of America's document, which was "outed" as the "blueprint" for the housing bailout bill, discloses that they believe that second line mortgages have a current value of just a few pennies on the dollar - a few being, literally, two or three! Yet have we seen any of these institutions actually mark down their second line portfolios to that 2-3 cents on the dollar? No.
Is it not appropriate to ask "why not?" when the bank's own internal documents are propounding this as the actual value of those notes?
Let's cut the crap right here and now.
It is time for straight talk - the American People deserve no less, and Congress deserves no pass.
Houses cannot sell for more than three times incomes over any material length of time. This is a known financial constant that has been true since time immemorial and it remains true to this day. Distortions in the market that allow short term imbalances to be created that "support" higher valuations always end badly, and are not "natural market forces" - they are acts of intentional looting because the "smartest guys in the room", who work for these banks know the history and they know what happened not only in the 1920s but both before and since.
We cannot "grow our way out of this." To do so we would have to see gross incomes increase by more than fifty percent on average. This is totally unrealistic, as it would fuel an insane wage/price inflationary spiral and be self-defeating, leaving milk and gasoline both at $6/gallon. Never mind that The American Worker has almost zero bargaining power as a result of the rampant offshoring of our manufacturing base during the last 30 years. Even if you wanted to generate a hyperinflationary wage-price spiral (and only a truly insane person would), how can you cause it to occur when there is no bargaining power in the American Worker's position?
Commodity prices will continue to reflect the owner's of those commodities (especially oil) justified refusal to continue to eat monetary inflation that we have attempted to force down their throats for nearly a decade, a practice that has been taken to the level of a "new artform" since August of last year courtesy of The Fed.
If Congress wants to see commodity prices relax, there are only two ways for it to occur - either a deep and prolonged global recession must take place OR Congress must force the draining of the excess liquidity swamp.
Importantly, if we do not drain the swamp and do so soon we will get the deep and prolonged recession.
Congress must force the investigation and prosecution of each and every individual and institution that either knowingly or through willful blindness engaged in improper balance sheet manipulation, fraudulent or misleading swap purchases or sales, fraudulent mortgage originations or securitizations and inflated home appraisals. Congress has been told about these abuses for nearly a decade, with a formal petition on the appraisal issue being sent to Congress back in 2001.
Congress has willfully and intentionally ignored these abuses for nearly ten full years while feasting on "campaign contributions" from the very banks and other institutions who have been reaping the ill-gotten gains.
Banks and other institutions must be forced to recognize the valuations they are bantering about in their "discussion documents." If Bank of America believes that second lines are worth 2 or 3 cents on the dollar they must be forced to recognize that as their valuation.
ALL lending facilities backstopped by The Fed or The Government must be immediately cut off from any institution that has falsely-stated swaps or other "valuations" on its balance sheet. If The Fed refuses, then Congress must force the issue through appropriate legislation - if necessary, by removing the operating charters of the firms involved. If we are serious about financial system stability then we cannot allow firms to operate in this nation that structure transactions so as to "game" their balance sheet and overstate their financial condition.
Bernanke must be told to get the crap that he has ingested into The Fed's balance sheet - fully half of its net assets - out of there - right now. If he refuses, Congress must force him to do so via whatever means are necessary, up to and including impeaching him or removing The Fed's authority to engage in these sorts of "transactions". The Fed may be an independant Central Bank but when it "stretches" the boundaries of its powers granted by Congress in a crass attempt to bail out its "buddies" at the expense of every American its parent must show up and administer a spanking.
Mortgage lending must be regulated so that an "upside down" loan cannot be originated. The simple fact of the matter is that the "round trip" costs on a real estate transaction are approximately 15%, with 12% of that being Realtor commissions. Therefore, down payments must be at least 15% so that at closing the bank is not in an immediate negative equity position. A 15% down payment requirement (I advocate 20%) reduces leverage to approximately 6.5:1, which is plenty for anyone. At the current 3% that FHA requires, leverage is 33:1, or five times the maximum safe amount. Back end ratios must be capped at 36% and all loans must be fully documented, with the only allowed exceptions being high-net-worth individuals - those who can fully document net worths in excess of $2 million. If the rich wish to speculate (and possibly lose big), let them. Protect the rest of America and bring housing prices down to sustainable levels so we stop screwing American families.
Americans and Congress must stop spending more than they make. This is no longer optional. The idea that The American Consumer can simply "withdraw" the equity from his or her home and spend it as a means of "keeping up" is ethically and financially bankrupt. That Congress continues to spend the money collected for Social Security and Medicare, replacing it with IOUs that there is no chance the government can actually repay, as the example that our government puts forward for our citizens to model their financial lives after, is equally bankrupt.
Bluntly - we are out of time to dilly-dally around.
Either we act or the market will do so for us.
