In "Dreams from my Father", Barack Obama offered an admonition from Reverend Jeremiah Wright: "white folks greed runs a world in need." Those words, taken from a sermon by Reverend Wright, reflected a world view hostile to capital markets, influencing the man who would eventually become the 44th President of the United States. It was a perspective heavily focused on racial and class tensions.
Barack Obama's two autobiographical sketches are instructive because he comes out of the same school of thought which, much earlier, enacted policies eventually leading to the greatest economic catastrophe since the Great Depression of the 1930s. While those policies were not started by President Obama and he suffers no direct blame for them, his adherence to that school of thinking also shackled him intellectually speaking, from recognizing the true cause of the economic downturn.
People from the same ideological school as President Obama believe Capitalism is synonymous with greed. There is little debate over whether greed exists in Capitalism. Greed, however, is not a characteristic of Capitalism. Greed is a human quality. It would be folly to think one could eliminate greed by limiting or even eliminating Capitalism. Human beings are greedy: from the most ardent Marxist, to the dyed in the wool collectivist, to the free market capitalist to the average person. Of all economic models, only Capitalism in largely free markets under democratic governments, recognizes greedy motives for what they are and seeks to direct those impulses toward more productive social outcomes. All other economic models either ignore greed as a human characteristic entirely, or they hold it is not a part of an individual's makeup, indivisible from each one of us.
Politicians Fixed Blame, not Problems
In the Wall Street debacle of 2008 and 2009, politicians focused popular anger on "Wall Street greed" and away from any hand they may have played with bad policies. Was Wall Street greed really the problem? It's long been said that Wall Street operates on two emotions: greed and fear. That didn't change suddenly in 2008 or any year before it or since. What then, caused the catastrophe we now refer to as "The Great Recession"?
To this question, we should apply a simple and obvious principle: that those who control a system are entirely responsible for its outcomes. People who operate in a system and abide by its rules are not accountable for the outcomes the system generates. They are bound by the system. They are confined by its rules and act in accordance with those rules. Only those who own the system, who set the rules and standards by which actions are taken, should be accountable for the outcomes of the system. It is in this light, that we should conduct the post-mortem regarding the causes of The Great Recession.
For seven decades, commercial banking and investment banking were mandated by law to be conducted separately. The law separating them, referred to as Glass-Steagall, was enacted in 1933. It was decided at the time, that the cause of the Great Depression and the stock market crash of 1929, resulted from commercial banks taking on too much risk. The Glass-Steagall Act forced commercial banks out of the investment banking business. That law remained in effect until it was repealed by President Bill Clinton, with the help and support of both parties in the House and Senate.
The repeal of the Glass-Steagall Act in 1999 accelerated a process already in motion, where banks again, assumed greater risks. Unlike the stock market speculation of the 1920s, banks were now speculating in real estate, condoned, encouraged and supported by two government sponsored entities (GSE), Fannie Mae and Freddie Mac, with the blessings and support of the Congress and several Presidents.
Warnings in 1999
In September, 1999, The New York Times reporter Steven A. Holmes warned, "In moving, even tentatively, into this area of new lending, Fannie Mae is taking on significantly more risk, which may not pose any difficulties during flush economic times. But the government-subsidized corporation may run into trouble in an economic downturn, prompting a government rescue similar to that of the savings and loan industry in the 1980's." At the time, nothing was done because the real estate market was enjoying rising home prices due in part, to the artificially high demand for home mortgages created by the Community Reinvestment Act.
Bush Era Attempts at Regulatory Control
Upon entering office in 2001, the Bush Administration began raising red flags almost immediately. In April of 2001, the 2002 Bush Budget request included the following statement:
"The size of the mortgage giants, Fannie Mae and Freddie Mac is a potential problem because financial trouble in either one of them could cause strong repercussions in financial markets."
In 2003, the Bush Administration upgraded their warning about Fannie and Freddie, calling it a "systemic risk" that could spread beyond the housing sector.
On September 10, 2003, the Bush Administration pushed Congress to create a new federal agency to "regulate and supervise" Fannie and Freddie. Treasury Secretary Snow in testimony before Congress said,
"We need a strong, world class regulatory agency to oversee the prudential operations of the GSE's (Fannie & Freddie) and the safety and soundness of their financial activities." Treasury Secretary John W. Snow
The ranking member of the House Financial Services Committee, Barney Frank, D-MA rejected Secretary Snow's assertions, saying: "Fannie Mae and Freddie Mac are not in crisis." Frank went so far as to further encourage Fannie and Freddie to do MORE to get low income families into homes. Homes it later turned out, they were unable to afford.
"The more people exaggerate the threat of safety and soundness, the more people conjure up the possibility of severe financial losses to the Treasury, which I do not see. I think we see entities which are fundamentally sound financially and able to withstand some of the disaster scenarios. And even if there were a problem, the government doesn't bail them out. But the more pressure there is there, then the less I think we see in terms of affordable housing." Barney Frank (D) Mass.
The Bush bill was blocked by the House Democrats.
2004 - Accounting Scandal at Fannie and Freddie
In late 2004, an accounting scandal was revealed at Fannie Mae and Freddie Mac that resulted in the resignation of Franklin Raines, the CEO of Fannie Mae. One of the issues discovered and largely unreported was manipulation of the financial results in order to maximize executive bonuses at both firms.
The Government Sponsored Enterprise (GSE) Subcommittee of the Financial Services Committee held hearings on the newly discovered irregularities. During the hearings, every single Republican called for stricter regulatory control. Every Democrat not only rejected the call for stricter controls, but actually attacked the regulator himself, even going so far as to allege racial bias. Members of the Congressional Black Caucus were especially vitriolic with the regulator.
Maxine Waters, D-Ca said "we are trying to fix something that isn't broke." She characterized Franklin Raines as an "outstanding leader." Raines was responsible for the accounting scandal, which was orchestrated with his direct involvement. Waters even targeted the regulator: "What we need to do is focus on the regulator. And this must be done in a manner so as not to impede the affordable housing mission. A mission that has seen innovation flourish. From desktop underwriting to 100% loans."
Greg Meeks, D-NY addressed the regulator: "I am pissed off at you because if it wasn't for you, we wouldn't be here in the first place." Essentially, Meeks was accusing the regulator of doing his job. Meeks further accused the regulator of having an agenda to eliminate Fannie and Freddie, but never showed the sub-committee any evidence to support that charge. Meeks went on to question the competence of the regulator, but it was Meeks and others who stripped the regulatory body of much of its necessary authority in the first place, effectively immunizing Fannie and Freddie from oversight.
Lacey Clay, D-MO played the race card with the regulator by stating, "This hearing is about the political lynching of Franklin Raines....I get the feeling that the markets are not worried about the safety and soundness of Fannie Mae as the regulator says that it is."
Even Franklin Raines himself, testifying before the sub-committee made one of the most irresponsible and shocking claims that was so profoundly ridiculous, it defies common sense. All lending institutions are required to hold about 10% of their capital in reserve. The reserve is intended to provide a buffer in the event loans go bad. And this is for prime loans which happen to carry the lowest risk. Raines and Fannie Mae dealt heavily in sub-prime loans, which carry more risk, yet, Raines staunchly defended Fannie maintaining only a 2.5% reserve, saying, "these loans are riskless." Today, Franklin Raines is a free man and lives a life of luxury, paid for by the American taxpayer.
2005 - FED warns of practices at Fannie Mae and Freddie Mac
In February of 2005, Fed Chairman, Alan Greenspan sounded the alarm after Fannie Mae admitted gross material accounting errors. He said, "Enabling these institutions to increase in size, and they will once the crisis in their judgment passes, we are placing the total financial system of the future at substantial risk."
In April of 2005, Chairman Greenspan said, "If we fail to strengthen GSE regulation, we increase the possibility of insolvency in crisis."
These are unambiguous words from a typically cryptic and ambiguous man. Still, Democrat politicians leaped to the defense of Fannie and Freddie. Senator Charles Schumer, D-NY said, "I think Fannie and Freddie over the years have done an incredibly good job and are an intrinsic part of making America the best housed people in the world. If you look over the last twenty or whatever years, they've done a very, very good job."
2006/7 - The last chance to head off disaster
In May of 2006, Senator John McCain (R-AZ), tried to introduce legislation that would improve the regulatory control over Fannie and Freddie. On May 26th he said, "The sheer magnitude of these companies and the role they play in the housing market...the GSEs need to be reformed without delay."
The bill passed out of committee on a straight party line vote, but the Senate did not vote on the bill because Senate Republicans were not confident they had the votes for passage. A Democrat Senator from Illiniois named Obama voted against the bill in committee.
In 2007, McCain reintroduced his bill, but in the 2006 mid-term elections, Democrats had retaken control of the Senate. Committee Chair, Chris Dodd, D-CT would not permit debate on the bill. Any hope of reform had been killed. Dodd would later be implicated in the Countrywide scandal and is retired from office at the end of 2010.
Fannie and Freddie: A Case of Political Corruption
The corruption at the top
Barack Obama has intimate connections with Fannie and Freddie. During his 2008 Presidential run, Obama hand picked Jim Johnson, a former CEO of Fannie Mae to help him choose an vice presidential running mate. Johnson had experience doing the same thing for John Kerry in 2004. Johnson was forced to resign as part of the VP vetting committee when it was learned that he was implicated in the Countrywide scandal, as well. Franklin Raines also served as an economic adviser to Obama during the campaign.
Another fact that has been lost over the intervening years: Barack Obama received four times the campaign contributions from Fannie Mae in a single year, more than any Senator had received cumulatively over the previous 20 years.
In January of 2010, Obama sought to create a "Financial Crisis Responsibility Fee" on financial institutions that were recipients of TARP money. The tax was a 0.15% fee on the liabilities of those firms to retrieve the bailout money. As Obama said it, "We want our money back, and we're going to get it." Facts are stubborn things, however. At the time he said it, only one bank had not completely paid the Feds back, with interest. These institutions would be taxed to the tune of $120B over ten years, but who was exempt from this?
The President and his Congressional cohorts, carved out exceptions for all of his allies and campaign contributors. Namely, Fannie Mae, Freddie Mac, GM and Chrysler. Taxing a lending institution's liabilities severely depressed lending to the public. Most Americans who tried to get mortgage loans after 2009 know how difficult it can be, even with impeccable credit scores. This tax is one reason for that difficulty.
How politicians 'regulate' Fannie Mae and Freddie Mac
Unlike the Inspectors General for other government agencies, Congress sets the budget for the regulator in charge of oversight of Fannie and Freddie. This is of great concern because Inspectors General are normally permitted to set their own budgets, independent of Congress, as a way to avoid undue influence from the agency being regulated. In the case of Fannie Mae and Freddie Mac, politicians have had an almost symbiotic relationship with those agencies and are heavily influenced in favor of allowing them to operate in an environment of minimal oversight. That minimal oversight has already led to a major catastrophe, yet it continues to this very day.
As Franklin Raines once told shareholders, "we manage our political risk." That risk management comes in the form of high paying executive and board positions, campaign contributions and lobbying.
When Congress passed the Sarbanes-Oxley Act, which was intended to create more reliable corporate accountability in the wake of the Enron collapse, Congress explicitly exempted Fannie and Freddie from the law. Again, Congress opted for less accountability from Fannie and Freddie rather than more.
The unreported financial disaster - post takeover
Since the Feds took control of Fannie and Freddie in 2008, astronomical losses mounted until 2012, when both returned to profitability. Still, before the bleeding stopped in 2012, Fannie Mae and Freddie Mac lost nearly $250 billion dollars, all backstopped by the US taxpayers. As politicians have stood in the way of effectively regulating both entities, risks remain and there are no assurances whatsoever that another catastrophe will not occur again.
Incredibly, even though Congress passed the Dodd-Frank Financial Regulatory Reform bill, placing a mountain of regulatory restraints on banks and other financial institutions, not one word in that bill of several thousand pages ever addressed the ongoing issues at Fannie Mae and Freddie Mac.
What Can We Conclude?
The chain of events that led to a worldwide recession in 2008 and 2009 was a system wide failure. It has been said, "Success has many fathers, but failure is an orphan." The Great Recession, however, did have a predicate. The failures, missteps, corruption and lack of political will exhibited by the Congress and three Presidential Administrations, set in place policies, without which there would have been no financial and economic collapse. The prudential administration of economic policy and the proper oversight of Fannie Mae and Freddie Mac could have prevented much of the gross speculation in the real estate market. Furthermore, it is difficult to imagine how the inordinate level of speculation in real estate would have been possible were it not for the enabling event: the repeal of Glass-Steagall.
The bottom line is, government policy is what caused the Great Recession. Government policy driven by corruption, cronyism and greed of the politicians and government officials themselves.