Wednesday, July 14, 2010

A Note on causes of the current financial crisis

I will make some notes of my own, as an attorney who formerly was in-house counsel for a sub-prime lender, and who now represents lenders in foreclosure and bankruptcy cases. Being a Democrat, that gives me something of a unique perspective.

To my knowledge, government NEVER "caused" or otherwise gave incentives to lenders, esp. non-bank lenders, to make sub-prime or otherwise risky loans. That is a conservative urban myth. Lenders made such loans BECAUSE IT MADE THEM MONEY TO DO SO.

Prior to massive de-regulation which allowed insurance companies to become investment houses, hold mortgages, and also bet against them, all of the risk factors were separated, creating real market incentives to minimize risk. Along came deregulation, and the scene of insurance companies with excess capital deciding to become lenders (Conseco is one slightly non-apropos example). Risk evaluation went out the window with the discovery of marvelous tools of greed called derivatives. Then you had insurance on the derivatives (credit default insurance) and turned both of those into items that could be traded, mostly without regulation or even market oversight. Even derivatives were re-packaged into derivatives of derivatives, and NO ONE KNEW WHAT THEY WERE WORTH OR WHAT THE RISK WAS. In short, they were selling empty air, making valuable trade items out of bad loans with an unknown default rate.

It's more complex than that of course, but that gives an idea. To get a better notion, read the current best-seller "The Big Short". So, lenders could make any sort of bad loan, without documentation in many cases, and sell it for high value with no risk to themselves. It was the AIG's and Bear Stearns and Goldman Sachs of Wall Street that turned this into a global mess out of pure greed.

For the conservatives who are against any sort of government regulation of just about anything, the reality of this is their worst nightmare. Their dogma caused the current financial mess, and they cannot admit it, even to themselves.