Tuesday, May 20, 2014


It’s the silly season again. The 2014 election cycle is upon us and both political parties are staking out their respective rhetorical positions on subjects ranging from Obamacare to the War on Women. Regardless of the hot topic de jour, the debate will undoubtedly narrow down to an exchange of broad accusations instead of a presentation of specific, supportable solutions. But that is the unfortunate style of politics that we have come to expect.  Having said that there will always be some sliver of truth underlying the basis for an attack on either political party. There is one attack that has been a mainstay of the Democrat party for the last six years and that is:

George W. Bush was responsible for the 2007-2008 financial crisis and the ensuing recession!”  

That is absolutely a false premise that needs to be put to bed once and for all. It is a feeble excuse given up by politicians and talking heads who have no other explanation for the tepid economic recovery of the last six years.  In fact the 2007-2008 financial crisis and the ensuing recession was a result of excessive risks taken on by the financial markets. The increased risk level was not an overnight creation…it had its roots in legislation reaching back to the Jimmy Carter administration.

The Housing and Community Development Act of 1977 (CRA) can be and should be viewed as a natural extension of the Civil Rights movement of the Sixties. It was passed as an attempt to circumvent a commercial bank and savings association practice known as redlining where inner city neighborhoods were denied equal access to bank lending.  The concept was noble, but as with everything a central government tries to “fix” the law of unintended consequences emerged.

Over the next sixteen years the CRA underwent a number of changes including a major reform change under George H. W. Bush following the savings and loan crisis of the 1980’s. A major change occurred under the Clinton administration with the enactment of the Federal Housing Enterprise Financial Safety and Soundness Act of 1992 wherein Fannie Mae and Freddie Mac (government sponsored agencies that purchase and securitize mortgages) where required to devote a portion of their lending to support affordable lending…in other words, to relax their credit standards. The door was now opened for more aggressive mortgage lending. Now leap ahead to 1998.

Sanford ‘Sandy’ Weill, Chairman of the Travelers Group was building his financial empire. He wanted to expand his financial reach into commercial banking and had his eye on Citicorp. Only the provisions of the U.S. Banking Act of 1933, better known as the Glass/Steagall Act stood in his way. Weill and John Reed, Chairman of Citicorp, took their dilemma to Robert Rubin the then Secretary of the Treasury under Bill Clinton. Rubin, a Goldman Sachs alumnus, a supporter of financial services expansion convinced Clinton the merger would be good for the country. In order, however, to facilitate the merger the provisions of Glass Steagall has to be waived. Clinton agreed and a waiver was granted effectively weakening the act..

The story didn’t end there. Rubin, seizing the moment, argued that the times had changed and it was time for banks to be allowed to take on more risk.  In order for that to happen simple waivers would not do...the act had to be repealed. Clinton agreed and endorsed the repeal of Glass Steagall. The repeal was crafted by three Republicans and was named the Gramm-Leach-Biley Act. In 1999 it passed the Senate by a 90 to 8 margin (two not voting) and in the House by a 362 to 57 margin (15 not voting).

In the meantime, lurking behind the political and legislative backdrop was the slow, but inexorable, shift from traditional risk management techniques to the more aggressive speculative markets envisioned by Rubin and others. A Democrat Congress in President Reagan’s last year pushed through a reform requiring Fannie Mae and Freddie Mac to meet an “affirmative obligation to facilitate the financing of affordable housing for low and moderate housing families. The floodgates were about to open.  Robert Rubin joined the Clinton administration in January 1995. Interestingly, one month later, the Office of Housing and Urban Development (HUD) issued a requirement that Fannie Mae and Freddie Mac meet certain mortgage purchase goals each year…government now firmly in the business of determining the allocation of economic resources.

 Over the years, the two Government Sponsored Agencies (GSE’s), Fannie Mae and Freddie Mac, were encouraged to lower their conforming loan standards and to participate in the expanding securitization market. Existing financial institutions and newer non-traditional mortgage lenders like Countrywide Credit exploited the relaxation of time tested lending norms and aggressively marketed new mortgage packages…higher loan to deposit ratios, deceptive teaser rates and the granddaddy of them all…the low/no documentation loan. These new loans soon became the bread and butter for Fannie Mae and Freddie Mac…underwrite the loans, package them, sell them off, make a profit and walk away. Until 2003!

Securitization was in full bloom. Lenders of all shapes, sizes and questionable ethics rushed to satisfy the demand for this new ‘tulip’ phenomena. No sooner than the ink was dry on the mortgage document than the loan was embraced by Fannie Mae and Freddie Mac and packaged for resale. Distribution of the ‘packaged’ mortgages was facilitated by institutional and retail intermediaries (brokers) through the issuance of CMO’s (Collateralized Mortgage Obligations). Retail clients loved it because of the attractive income feature and the perceived safety of the investment. Institutional investors, read hedge funds, loved it because they believed they could leverage a sure thing to increase their returns.

The Bush presidency was greeted with an economy decimated by a recession resulting from the bursting of the dot-com bubble and the monumental tragedy of the September 11, 2011 attacks on the Twin Towers in New York City. Little did he know that another deadly virus was already working its insidious way through the American financial system…the ‘new normal’ credit acceptance guidelines.  Relaxed regulatory requirements, low post-recession interest rates and the risk taking environment championed by Rubin and others created a feeding frenzy across the nation.   The housing bubble and the overly aggressive financial instruments that encouraged it was in full bloom. Here is where I part company with the legion of Bush bashers looking for an excuse to give cover to the Obama administration’s failure to bring the country out of a housing bubble induced recession.

From 2001 through 2007 the Bush administration recognized the dangers of a rapidly expanding risks that were emerging in the mortgage and derivatives market. In September 2003, despite continued warnings from the Bush Administration, Barney Frank (D-MA) the ranking member of the House Financial services Committee issued this statement   “these two entities – Fannie Mae and Freddie Mac – are not facing any kind of financial crisis…”. One month later, Senator Thomas Carper (D-DE) joined Representative Frank in opposing GSE reforms saying “If it ain’t broke, don’t fix it." While the Democrats were feverishly defending the aggressive housing programs advanced by the Clinton administration the savings and loan financial apple was rapidly beginning to rot.

In Bush’s Fiscal Year 2005 Budget he once again recognized the growing threat to financial stability of the housing market. “The administration has determined that the safety and soundness regulators of the housing GSE’s lack sufficient power and stature to meet their responsibilities, and therefore…should be replaced with a new strengthened regulator.”  Once again Rep. Frank objected and accused the Bush administration of creating an “artificial issue,” He didn’t stop there. Addressing the Mortgage Bankers Association conference, he said

 “people tend to pay their mortgages.  I don’t think we are in any remote danger here. This focus on receivership, I think, is intended to create fears that aren’t there,” 

In effect, he implicitly embraced the concept of no documentation, no down payment loans and their evil offshoot, predatory lending. The Secretary of the Treasury pressed the issue in April 2005 stating 

“Events that have transpired since I testified before this Committee in 2003 reinforce concerns over the systemic risks posed by the GSEs and further highlight the need for real GSE reform to ensure that our housing finance system remains a strong and vibrant source of funding for expanding homeownership opportunities in America. Half-measures will only exacerbate the risks to our financial system."

In July Minority Leader Harry Reid entered the fray rejecting legislation reforming GSE’s… 

"...while I favor improving oversight by our federal housing regulators to ensure safety and soundness, we cannot pass legislation that could limit Americans from owning homes and potentially harm our economy in the process."

Another year passed, housing prices were soaring through the roof and individuals were flipping houses for quick profits (shades of the dot-com bubble).  Once again, George Bush called for a reform package for Fannie Mae and Freddie Mac. Senate Committee on Banking, Housing and Urban Affairs Christopher Dodd (D-CT) ignore the warnings telling Bush to “immediately reconsider his ill-advised position.” President Bush continued his push for reform in 2007 with the Congress in full control by the Democrats. The early months of 2008 brought forth more of the same as President Bush pushed for more reform while the Democrats pushed against them.

Finally in 2008 as foreclosure rates continued to climb, President Bush went to Congress again and in July, Congress, recognizing that Fannie Mae and Freddie Mac were failing, passed reform legislation. True to form, Senator Dodd trotted out a mea culpa for his failure to recognize the problem…

why weren't we doing more, why did we wait almost a year before there were any significant steps taken to try to deal with this problem? I have a lot of questions about where was the administration over the last eight years." 

Despite all of the facts to the contrary, the Democrats have hung on to this contrived mantra to this very day. All of which brings me back to the original false premise…

George W. Bush was responsible for the 2007-2008 financial crisis and the ensuing recession!”  

The international financial house of cards began its inevitable descent into hell on April 2, 2007 when New Century Financial Corporation, a leading subprime mortgage lender filed for Chapter 11 bankruptcy.  The rest is history. One by one, once formidable financial institutions; Bear Stearns, Indy Mac, Lehman Brother’s Holdings, Washington Mutual and Wachovia among others; fell like dominoes.  Financial services giant, AIG managed to survive the apocalypse thanks to the intervention of the New York Federal Reserve Bank headed by Timothy Geithner. The stock market was in disarray as bank stock prices plummeted and their dividends slashed to preserve capital. The grand experiment by Carter, Rubin and Clinton had backfired and the Democrats needed a scapegoat…so they blamed it on Bush.

That's my story and I'ms sticking by it!