More Wealth Re-Distribution: Taxpayers to Banks

[EJ]

iTulip just got off a call sponsored by the Center for American Progress. Today they issued a report titled "Helping Families Prepare for the Rise in Subprime Mortgage Foreclosures" (pdf) by CAP's Almas Sayeed. Old news on the housing market for iTulip readers, but the part quoted below aligns well with our long standing prediction that ultimately taxpayers are going to pay to clean up the Risk Pollution left by banks who have externalized the risk of bad loans by dumping it into the financial markets, thus making the business of selling high risk loans profitable.

The most toxic risk pollutants are the first to seep up, related to sub-prime loans, but soon enough risk pollution will spraying out of every fissure in the financial system.

Let's guess how this is going to go: The Wall Street Investment banks and commercial banks that sold the mortgage backed securities get to keep the fees they earned, the drug addicts and old ladies the lenders went after as borrowers get stuck with loans they can't pay–not to mention Joe and Jane home owner who got talked into a badly structured loan because it was more profitable for the lender–and as with the S&L Crisis of the early 1990s, the tax payer gets stuck with the tab.

While policymakers examine the causes of the current crisis and consider legislative and policy-based solutions to prevent such a trend in the future, it is also critically important to consider ways to stem this rising tide of foreclosures. Given the crisis that may affect communities, policymakers should consider swiftly strengthening state and federal programs that help prevent home foreclosures.

While all states have homeownership and foreclosure prevention counseling, only a handful of states sponsor mortgage assistance programs that help qualifying families in danger of falling too far behind on their mortgage payments due to a sudden loss of income, illness or death in the family. Increased federal assistance could expand these programs and enhance those foreclosure prevention programs that do not provide loans. Among the steps policymakers should consider are:

• Federal grants to expand and enhance current mortgage assistance and foreclosure prevention programs and low-interest mortgage assistance to eligible borrowers.
• Federal funds to target key cities and states facing the highest risk of mass foreclosure.
• Provisions to ensure federal agencies assess the effectiveness of each program every three years.
• Strengthen programs that aid families while their mortgage contracts are renegotiated or the property is sold on the market so that the homeowners’ credit ratings are salvaged, allowing for the possibility of future homeownership.

This paper details why the steps briefly outlined above would help ameliorate the current rise in foreclosures. The paper will first examine the causes of the crisis and then look at the structure of state-funded foreclosure prevention programs to illustrate how cost-effective federal support for these programs—particularly in key states—could help families facing foreclosure stay in their homes.

While foreclosures are sometimes unavoidable, it is in the best interests of our communities and overall economy to support those who have embraced homeownership and work to prevent foreclosure. After all, homeownership is an important step in the creation of stable and secure communities. Yet, homeownership is also a step that is especially difficult to take for those without access to traditional home lending products. When assets and wealth are better distributed and families are more financially secure, this, in turn, enhances opportunities for everyone and contributes to the country’s overall economic security.

AntiSpin: In other words, taxes and more taxes and more Federal debt. The folks over at CAP have their hearts in the right place, but the approach of using taxpayer money to solve the foreclosure problem is misguided. That only encourages the banks to do it again. I have a better idea. How about this time Goldman Sachs, J.P Morgan, Merrill Lynch, Citibank, BoA, et al, clean up their own mess and pay for the bailout instead of taxpayers? Sure, the cost might put some of these banks out of business, but who cares? Other better run banks will take their place.

The other news organizations on the call were New York Times, LA Times, etc. Judging by the questions, the MSM seems symapethic to the taxpayer bailout approach. Looks like iTulip and a few others are going to have to lead the charge to make sure the Risk Polluters pay their fair share.

Otherwise, get ready for a lot more of this:

Senate Weighs Aid to 2.2 Million Subprime Borrowers
March 13, 2007 (Bloomberg)

U.S. lawmakers will have to consider providing aid to about 2.2 million subprime mortgage borrowers who are at risk of defaulting and losing their homes, Senate Banking Committee Chairman Christopher Dodd said today.

"The impact of losing 2.2 million homes I suspect will be in a lot of areas of our cities and towns that are already pretty hard hit, so we clearly want to look at that and legislate,'' Dodd, a Democrat from Connecticut, told reporters in Washington after a speech to the National League of Cities.

[snip]

Federal aid "would come at a cost,'' said Douglas Duncan, chief economist at the Mortgage Bankers Association. ``It has to be paid for and the question is would the 34 percent of homeowners who have no mortgage be willing to pay taxes to support the bailout of people who traditionally have not managed credit well?''

Again, the issue is framed the wrong way. The problem is not one set of taxpayers bailing out another, it's taxpayers bailing out the banks that made money selling the loans.

[jk]

1. what does anyone know about put provisions allowing the purchasers of mbs to require the originator to take back non-performing paper? obviously, the purchasers of new century paper are going to be stuck, but are the goldmans, citis and morgans of the world on the hook at all here?

2. eric, were you able to raise your point about "the boyz" on the call? if so, what was the reaction?

[EJ]

1. what does anyone know about put provisions allowing the purchasers of mbs to require the originator to take back non-performing paper? obviously, the purchasers of new century paper are going to be stuck, but are the goldmans, citis and morgans of the world on the hook at all here?

2. eric, were you able to raise your point about "the boyz" on the call? if so, what was the reaction?

Not much point. The New York Times trades as NYT and Dow Jones company as DJ.

[jk]

as you say, not much point. the problem with trying to get the perpetrators and accessories to pay is that they're rich! i.e. they are big contributors to both parties, with lots of political muscle. meanwhile the politicians can grandstand on their heartfelt sympathy with people who got over their head, sacrifice a few peripheral institutions like new century, et al, and answer the question: "how do you spell relief?" P-R-I-N-T! and generate fees of some kind, i'm sure, for goldman, citi and morgan. [i don't believe in conspiracy theories, but sometimes i'm not sure what difference it would make.]

[fraserjr]

I actually wrote a Senator an email today for the first time in my life. I am not sure what good it will do, but seeing as Senator Dodd from CT wants to provide funding for the estimated 2.2 Million people who are going to foreclose on thier homes and put on the backs of other like myself is ver disturbing. I am curious to see what one of his interns will write me as a response, if I get any at all.

The gist of the email was that while I am 26 and with a combined income with my girlfriend could have walked into any subprime lender in Northern Virginia and walked out with a 500k loan, I probably would not have qualified for anything over 300k through a traditional 30 year 20% down traditional. So rather than conforming to the irrational exuberance exhibited over the last 5-10 years, I sat the market out waiting for prices to return to the historical mean. Now however, I will pay the tax burden of other who were unfortunate enough to get a subprime loan, get a homeowners taxbreak, and maybe even take out a HELOC, while I "wasted" my money renting.

All while the government and administration looked the other way as the lenders were allowed to give out these risky loans to basically anyone who wanted one. Thats what I get for not joining the "homeowners society".

I guess it pays more to just do as all the other sheep and let the government bail me out. Foolish me.


P.S. Sorry about the rant. :mad:

[miju]

hey guys, do not confuse your correct analysis of the situation with your desire or revenge.
1) if you do not liketmarket pratices, when they come to exageration, vote and change your political leaders to bring a new way of managing the economy
2) GS, ML and so on ..have contributed to the economy thanks to taxes they had to pay on their record profits
3) Do not worry, CDO's failure and loose lending to Hedge funds will affect directly their PxL soon and their shares will drop as well. The market punishes the poor unfortunately but punishes the rich as well when they became crazy

[EJ]

hey guys, do not confuse your correct analysis of the situation with your desire or revenge.
1) if you do not liketmarket pratices, when they come to exageration, vote and change your political leaders to bring a new way of managing the economy
2) GS, ML and so on ..have contributed to the economy thanks to taxes they had to pay on their record profits
3) Do not worry, CDO's failure and loose lending to Hedge funds will affect directly their PxL soon and their shares will drop as well. The market punishes the poor unfortunately but punishes the rich as well when they became crazy

miju, Nothing to do with revenge. It's a matter of free market principles. As capitalists, we do not believe that Socialism for banks works. Banks should not be protected from their folly by taxpayers and government largess. They should be held to account for the risks they take, just like any other business. If they screw up, they should allowed to fail.

Of course, they will not be allowed to fail. No one has the political will to raise taxes, so the federal deficit wil simply grow some more. We can hope that Paulsen & Co. can head back to Asia and the Saudis again and say, "Put it on my tab!" and they say, "Ok" again.

Also, from a political standpoint, when the rich are punished, they become less rich. When the middle class is punished, they become poor. Seems unlikely to me that millions of baby boomers are going to take being poor lying down. They will demand a retirement in the lifestyle to which they have become accustomed.

jk, I asked the Senior Economist Christian Weller on the call if he agreed with the Shiller/Case estimate of a 15% - 30% decline in housing prices in major markets over the next 5 years and he replied that decline is consistent with their models.

[DemonD]

hey guys, do not confuse your correct analysis of the situation with your desire or revenge.
1) if you do not liketmarket pratices, when they come to exageration, vote and change your political leaders to bring a new way of managing the economy
2) GS, ML and so on ..have contributed to the economy thanks to taxes they had to pay on their record profits
3) Do not worry, CDO's failure and loose lending to Hedge funds will affect directly their PxL soon and their shares will drop as well. The market punishes the poor unfortunately but punishes the rich as well when they became crazy

As to point 1:

South Park has it right. Every election you are basically voting for either a Giant Douche or Turd Sandwich. Except those lucky few who get to vote for Ron Paul. As bad as Bush is, everyone I know who voted for Bush was like "Well, I didn't like Bush, but c'mon - John Kerry?" And I have to admit, they have a point, and although I do think our country would be better off with Kerry, it just kind of goes to show how unorganized the Dems were to lose that election by not having a better candidate and/or not marketing him well enough.

Point 2:

Their record profits which were built upon the backs of many millions of wage earners who deal with ever rising prices without commensurate rises in wages, or out and out losing their jobs to outsourcing, mergers, and shady LBO's. Raise the lower and middle classes and you generate a lot more wealth creation and therefore tax basis than just a few rich people who are probably good at taking that money, spending it on a lamborghini, and claiming that as a tax deduction.

Point 3:

Many of "the rich" have set up offshore accounts and avoid the loss of wealth that happens to the average American, and further what EJ said about the rich becoming slightly less rich and the middle class becoming poor.

Is there any possible way we can do something to convince our congress to not bail out these effed borrowers and effed lenders? It sickens me to think that our taxpayer money or currency devaluation will go to help these people. Talk about entitlements. Ugh.

[miju]

correct on point 3. buton point 2 do not forget that a lot of people beneficiate from the good results of the big Inv banks. And do not forget that shareholders have beneficiated as well. Who are shareholders ? you, me, pension funds ....

[Rajiv]

Who are shareholders ? you, me, pension funds ....

That is not quite correct. From U.S. Wealth Distribution Data (1998) at the height of the dot com boom

Household distribution of common stocks in 1998 (i.e. who "owns" the corporations and gets profits). Note that in 1998, only 48.2% of Americans owned any stock at all (either directly or though mutual funds, 401k-type defined-contribution plans) and only 36% of Americans owned stocks worth more that $5000.

Percent of owners	Net stocks	Cumulative Percent	Cumulative stocks
Top 0.5%	37.0%	Top 0.5%	37.0%
Next 0.5%	10.7%	Top 1%	47.7%
Next 4%	27.2%	Top 5%	74.9%
Next 5%	11.3%	Top 10%	86.2%
Next 10%	9.8%	Top 20%	96%
Last 80%	4.1%	All 100%	100%

[miju]

Rajiv,
fair enough, but 49.8 % is half the US population. this is not exactly plutonomics. at this level social benefits are not negligible and we cannot conclude that only a few persons are the only beneficiaries. So if one request that bank shares should drop as a penalty on the mismanagement of the lending policy one should not forget that all sharedholders will suffer throug their direct or indirect investments. And if shareholders are not happy with that they have to become active during AGM and propose thange in the management

[Rajiv]

we cannot conclude that only a few persons are the only beneficiaries. And if shareholders are not happy with that they have to become active during AGM and propose change in the management

In fact looking at the data, I come to exactly the opposite conclusion. The top 1% own 50% of the shares. The top 5% own 75%. So 50 % of corporate earning benefits accrue to 1% of the population, and 75% to 5% of the population

The votes you have at the AGM meeting is the number of shares you hold. So small shareholders have NO voice or influence on the management of a corporation, and they can demand nothing! Only thing they may do is to file a shareholder suit, and that is not feasible unless you are already rich. A corporation is not a democracy (one shareholder, one vote.) It is a capitalistic instrument -- which means one dollar, one vote! So if you are rich you have more votes than if you are poor. The proportion of "capital votes" is reflected in the "Average household wealth by wealth class" table. I am copying it below

Average household wealth by wealth class (in 1998 dollars):

Wealth class	Average wealth of class
Top 1%	$10,203,700
Next 4%	$1,441,200
Next 5%	$623,500
Next 10%	$344,900
Next 20%	$161,300
Next 20%	$61,000
Next 20%	$11,000
Last 20%	-$8,900

[Rajiv]

The latest -- The State of Working America 2006/2007

[Finster]

In fact looking at the data, I come to exactly the opposite conclusion. The top 1% own 50% of the shares. The top 5% own 75%. So 50 % of corporate earning benefits accrue to 1% of the population, and 75% to 5% of the population.

This might be an ancillary point, but statistics like these are usually abused for political demagoguery. They may be true, but the conclusion implied by those who cite them may be dangerously misleading.

One example: If the top 50% of the shares are owned by 1% of the population, that suggests that 50% of the shares are owned by 99% of the population. More significantly, those in the lower 99% of the population may only own 50% of the shares, but to those individuals, their share interest may be crucial to their future livelihood.

Every mainstream financial advisor from the corner of Wall and Broad to the corner drugstore has been telling people for years that they must invest in stocks to secure their future retirement. That has actually been for the most part good advice given that interest rates, and by extension savings yields, have been as a matter of public policy so low as to make traditional saving near fruitless. As a result, the very same Joe and Jane Sixpack that the class warfare enthusiast purports to speak for, if he is successful in reducing the returns to "the wealthy", are squarely in his crosshairs.

[Rajiv]

One example: If the top 50% of the shares are owned by 1% of the population, that suggests that 50% of the shares are owned by 99% of the population. More significantly, those in the lower 99% of the population may only own 50% of the shares, but to those individuals, their share interest may be crucial to their future livelihood.

Doing a little bit of arithmetic, I find that 75% of stock ownership is in the hands of 5%. Therefore 45% (~48.2% who own any stock minus ~5%) own 25%. Also only 36% owned stocks worth more than $5000. Doing ABC analysis, I will avow that the 12.2% owned only about 5% of the stock, while 31% owned about 20%. I would say it is unlikely that the livelihood of people owning $5000 or less of stock depended on that stock ownership.

However, I will accept it for a fact that stock ownership does in fact contribute substantially to the wellbeing of about a quarter of the population. However, if the Banks that are in trouble were allowed to fail, the major burden would be on the upper 1-5%. In order to ameliorate the burden on the small investor, who would indeed be hit harder (as a percentage of their total wealth) The distribution of the proceedings after the liquidation of bank assets could be constructed such that the smaller investors received a greater compensation than larger investors. There is a precedent for this in the way FDIC works ( with an upper limit, nominally, I believe is $100,000 of deposits)

Also, My highlighting the disparity in wealth ownership, is not so much out of a spirit of class warfare, but rather to show that there exist huge disparities in the power wielded by the rich (top 0.5%) compared to 80% of the population in the social structure of a society that is considered to be a democracy. That was the point of the later part of my reply to Miju.

[grapejelly]

slightly different take on the subject, Clif Droke has an interesting public essay:

You may remember back in 1999 in the days and weeks leading into the fateful “New Millennium” of Jan. 1, 2000. So many people were expecting the lights to go out worldwide, figuratively and literally. Worst-case scenarios and an “Apocalypse Now!” mentality abounded. Yet as the fateful date drew near it became obvious that the so-called Y2K Crisis wouldn’t materialize because the stock market was making all-time highs right up until the last trading day of 1999. Had the powers-that-be foreseen a genuine Y2K collapse they would have cashed out well in advance of the date and in so doing cracked the markets big time. A strong stock market in the face of a supposed “crisis” generally means the crisis is overblown, at least as far as its ability to severely impact the economy.
Could the scare stories over the sub-prime lending debacle be the final wash-out phase of the U.S. housing market correction? I think it could be. It’s certainly typical of past wash-outs of bear markets and as usual the mainstream press is doing a stellar job of exaggerating the negatives and trying to scare the country out of its collective wits. They’ve got everyone and their brother-in-law running for the cellar screaming “The sky is falling, the sky is falling!” You can’t pick up any newspaper without seeing it plastered all over the front page in big, bold headlines. An Internet friend sent me the following example from the front page of the St. Paul (MN) Pioneer Press:

SUBPRIME MORTGAGE MELTDOWN

It doesn’t get much more bearish than that! I take this barrage of pessimistic headlines to be a contrarian indicator that the worst has already been discounted by the markets and it shouldn’t have that great of an impact on the national economy.

It almost convinced me that all is good and not to worry! I do feel rather sheepish to have gone along with the herd...

[Finster]

Doing a little bit of arithmetic, I find that 75% of stock ownership is in the hands of 5%. Therefore 45% (~48.2% who own any stock minus ~5%) own 25%. Also only 36% owned stocks worth more than $5000. Doing ABC analysis, I will avow that the 12.2% owned only about 5% of the stock, while 31% owned about 20%. I would say it is unlikely that the livelihood of people owning $5000 or less of stock depended on that stock ownership.

However, I will accept it for a fact that stock ownership does in fact contribute substantially to the wellbeing of about a quarter of the population. However, if the Banks that are in trouble were allowed to fail, the major burden would be on the upper 1-5%. In order to ameliorate the burden on the small investor, who would indeed be hit harder (as a percentage of their total wealth) The distribution of the proceedings after the liquidation of bank assets could be constructed such that the smaller investors received a greater compensation than larger investors. There is a precedent for this in the way FDIC works ( with an upper limit, nominally, I believe is $100,000 of deposits)

Also, My highlighting the disparity in wealth ownership, is not so much out of a spirit of class warfare, but rather to show that there exist huge disparities in the power wielded by the rich (top 0.5%) compared to 80% of the population in the social structure of a society that is considered to be a democracy. That was the point of the later part of my reply to Miju.

I think stocks are important for more than 25% of the people. Between stock owned directly in IRAs, 401ks and indirectly through pension plans, it's a lot of people that are adversely affected if stocks turn out bad, especially persistently. And of course this doesn't even take into account the role the public corporation - which is capitalized largely through stock - plays in providing the employment that so many people have and produces so much of the goods and services they use.

Not that I would shed a lot of tears for those banks if they failed. Probably some banks should fail, and regardless shareholders ought to he holding reckless managements to account. If there is never any adverse consequence from irresponsible business practices, you will just have that much more irresponsible business practice.

We need to remember how we came to this. Back in 1994 or thereabouts, we had the Mexican peso crisis, or so it was called. There was a bailout, and it probably saved some institutions from failing that perhaps ought to have. People learned from the experience that if you mess up bad enough, the government and the Fed will help you avoid the worst of the consequences. This changes the risk/reward equation - risk is usually what balances investors pursuit of reward - and the lengths to which they will go. People naturally puruse reward a little more aggressively when they percieve the risk to be mitigated. This is often called "moral hazard". I don't think it is mere coincidence that it was in 1995 that the stock market went into a five-year bull run culminating in what must have been the biggest asset bubble of all time.

It happened again circa 1998, with the Asian currency and LTCM crises. Again, investors learned that the consequences of imprudent actions wouldn't be proportional. Returns would accrue to the risk taker, but risk would be socialized.

Then even when the stock market did what comes naturally when things get too far out of hand, and we experienced the most severe bear market since 1929-1932, the Fed rode to the rescue again with Greenspan's "emergency" 1% Fed funds rate and prolonged "accommodation". It was much too prolonged, and the "removal of accommodation" much too gradual and predictable. There was so much easy money in the system lenders were practically falling over themselves to loan it to anybody with a pulse. So we traded one bubble for another. Meanwhile, tariffs had been aggressively cut for about three presidential adminstrations, so much of that newly created money borrowed by Joe and Jane homeowner just poured out over the world as if the country were a sieve. As a result, that immense monetary stimulus did comparatively little for the domestic economy, while China got high as a kite. And now Americans are finding themselves short on cash, while they have to compete for resources like oil with billions of other people up to their necks in expatriated US dollars.

[Rajiv]

Read this article by James Petras - Global Ruling Class: Billionaires and How They “Made It” - and then tell me why the world is not being set up for class warfare?

While the number of the world’s billionaires grew from 793 in 2006 to 946 this year, major mass uprisings became commonplace occurrences in China and India. In India, which has the highest number of billionaires (36) in Asia with total wealth of $191 billion USD, Prime Minister Singh declared that the greatest single threat to ‘India’s security’ were the Maoist led guerrilla armies and mass movements in the poorest parts of the country. In China, with 20 billionaires with $29.4 billion USD net worth, the new rulers, confronting nearly a hundred thousand reported riots and protests, have increased the number of armed special anti-riot militia a hundred fold, and increased spending for the rural poor by $10 billion USD in the hopes of lessening the monstrous class inequalities and heading off a mass upheaval.

The total wealth of this global ruling class grew 35% year to year topping $3.5 trillion USD, while income levels for the lower 55% of the world’s six-billion-strong population declined or stagnated. Put another way, one hundred millionth of the world’s population (1/100,000,000) owns more than over three billion people. Over half of the current billionaires (523) came from just three countries: the US (415), Germany (55) and Russia (53). The 35% increase in wealth mostly came from speculation on equity markets, real estate and commodity trading, rather than from technical innovations, investments in job-creating industries or social services.

[grapejelly]

interesting paper Rajiv. My research shows that inflation results in certain people having access to vast amounts of cheap borrowed money, and using this money to buy up assets. Inflation robs savers, wage-earners and retirees. So the gap increases between rich and everyone else. Ultimately it is the middle class that becomes (or stays) poor, or at least poorer than they would have been absent inflation.

Inflation lets borrowers access money below the rate of inflation and buy up assets. Those who cannot buy up assets with borrowed money at these low rates fall further behind.

[Rajiv]

Ultimately it is the middle class that becomes (or stays) poor, or at least poorer than they would have been absent inflation.

From my previous post

Prime Minister Singh declared that the greatest single threat to ‘India’s security’ were the Maoist led guerrilla armies and mass movements in the poorest parts of the country

These armies are being led, not by the poor, but by the middle class - and they recruit not only from the poor, but extensively from the middle class, that is feeling increasingly deprived.