The mortgage crisis has led us to the brink. When interest rates are low it encourages greed. But governmental policies also contributed to this mess.
In 2003 Sarbanes-Oxley enacted “mark to market,” a major variable in this debacle. It seems straightforward. Banks must value loans and investments at liquidation value which works in normal times. But this is not a “normal time”. Mortgages were repackaged in Collateralized Mortgage Obligations (CMO’s). Currently 94 percent of Americans are paying mortgages on time. The problem is that these securities are now illiquid. Banks must mark the securities at zero, despite that most are paying. Banks must put aside capital to cover these paper losses reducing funds available for loans, causing costs to rise in the form of higher interest rates and/or less generous terms. This clause was recently modified. The Democrats ordered federal mortgage giants to accept sub-prime/Alt-A loans for the first time. This was part of a socialistic plot to redistribute income beginning with the Community Reinvestment Act of 1977.
This led to the meltdown of Fannie Mae and Freddie Mac. With large amounts of accounting fraud, they began unraveling six years ago. These pillars of the housing market historically purchased only “documented loans”. Democrats argued that poor people couldn’t be asked to provide the same information as everyone else.
When errors surfaced, the Republican’s sprang into action. Senate Bill S-190 (2005) sought strong oversight and a return to documentation. Democrats Senators Barak Obama and Joe Biden helped to kill this bill, preventing a vote on it. A bill’s sponsor was John McCain. This is not the first time a Republican tried to fix this quagmire. In 2001, Secretary of Treasury John Snow and Alan Greenspan tried. The current Banking Committee Chairman Barney Frank called it “hysteria”. Who were the Democrats protecting? I’m sure it had nothing to do with favorable home loans received by nine influential Democrats or that out of 535 congressional members Barak Obama has received more contributions from the Freddies that all but one. His campaign also utilized the former FNMA CEO’s Frederick Raines ($91 million payout) and James Johnson.
Although the final bill will contain abhorrent unintended consequences, its underpinning is sound. The $700 billion figure represents 5 percent of outstanding mortgages. This is approximately equal to the current default rate. Presently there are no buyers for these securities. The Treasury plans to buy them at a discount to real value. Currently a buyer has to worry about being able to sell the security quickly in order to reap a profit (or else mark it to zero). A governmental entity is under no such pressure and can liquidate them in orderly fashion (hopefully). Once a purchase happens a market will be established and then the markets will “unlock”. Banks will make a profit from the mark to market price of zero, providing fresh funds that could be loaned. By buying the loans at a discount, the taxpayers hopefully can be repaid. Possibly only a portion of the funds will be needed. This occurred in the Savings and Loan crisis’s (1980’s). The bill should have excluded Christmas trees. Will this work? No one knows, but it is our best hope.