The Financial Crisis

by Joyce Clark

This didn't start a few weeks ago. It didn't start under George W. Bush's reign, although he didn't do anything to stop it years ago. He didn't find his veto pen until what - the last year? It may have started under the reign of Clinton but likely he also just failed to take action.

The first Bush and Reagan cut taxes and our tax receipts grew beyond all expectations. If you cut taxes for those willing to risk large sums to get income, you get more investors and net tax receipts go up. With the increased tax receipts the congress-critters got drunk and spent like drunken sailors. (I know about drunken sailors.)

Prior presidents Carter, Ford, Tricky Dicky, and Johnson did little to help our financial systems - they either did nothing even when we had hostages in Iran and other countries were seizing our ships, or they were only interested in growing their own power. That is the problem with absolute power, it corrupts absolutely. It is a rare congress-critter who cares about anything other than his own re-election and his own power. They generally can't get into their positions without being corrupted along the way. Congress in general has the most responsibility, over the years, to see that our financial system stays secure. It is congress that must pass revenue and spending bills, they should also be the watchdogs.

This financial crisis started with a community organizer in Chicago, and many others like him, who thought that the poor, the black, the non citizens, and others who could not afford to buy houses were somehow entitled to own houses anyway. Laws were passed that required banks to make risky loans. The banks did what they had always done - they kept the good loans for themselves and sold off the risky loans. There weren't a lot of risky loans and real estate kept going up, but more laws were passed as part of creeping socialism and the banks got more creative about repackaging bad loans and selling them.

All was fine as long as the greater fool theory held up. The greater fool theory is that if I'm enough of a fool to buy this property at this price, I will be able to find a greater fool to buy it for an even greater price, when I want or need to move on. There were ways to buy real estate with stated income, liar loans, 110% financing. People were able to buy multiple homes on pure speculation and flip them. Some got stuck with them and are now bankrupt.

Vast amounts of farm land were paved over to provide more room for ever more houses. Ten years ago the price of lumber was twice what is is today. Now more lumber mills are closing. The price of grains has skyrocketed because we didn't want to drill our own oil and we used food grains for fuel. Real estate prices continue to drop like there is no end in sight. However, they are not making more land and we are making more people, so all real estate has some value. That value will be found.

There is a thing called FASB, the Financial Accounting Standards Board, that governs how accounting can and should be done. For as long as I can remember, and I've been around for a long time, FASB required that assets be valued at their purchase price less depreciation allowed or taken. Land can not be depreciated. Thus many old companies like large banks, Hewlett Packard, Intel, IBM, General Motors etc. have to value things they may have purchased a hundred years ago at the purchase value of the land only because the purchase price of the buildings has long since been depreciated to zero. Think of Manhattan, Chicago, San Francisco, etc. I won't go into detail because it gets complicated. But real estate bought and held for a very long time on an old company's books is valued at little or nothing when its real value is huge. However, this undervalued asset is a long term investment, and could not be used in any case to cover a short term obligation.

A big contributing part of the current crisis is a relatively recent FASB rule that assets must be marked to market. This had little effect while the real estate boom continued and mortgages could be marked at face value, but as the foreclosures snowballed the mortgages could not be sold and banks had to value them at little or nothing. It is absurd that a $500,000 house on 1/2 an acre of land is worth nothing, but there is little market right now.

Another thing not considered is the great number of mortgages that are paying as agreed but can not be sold at this time. A house in Detroit is worth very little. The same house here in Oregon or in San Francisco is worth nearly full value. Mortgages that are performing should be marked to almost full value, mortgages that can be renegotiated at a lower interest rate or a lowered amount of debt can and should be valued at the debt owed on them.

All mortgages that banks can no longer sell to other banks are being valued at nearly worthless. These are the junk mortgages the Fed is to buy under the rescue package for about 20 to 30 cents on the dollar. At those prices many other investors would be willing to buy them and the banks would be happy to buy them back soon.

This mark to market rule must be changed. The LIBOR rates, rates that banks use when lending to other banks, are at record highs approaching 5% for 3 months while the Fed discount rate is 2%. There is no cash available to keep the system liquid. When one financial institution points out that another financial institution doesn't have enough current capital, the customers run and draw their money out.

It isn't that the institutions weren't sound, they just didn't have enough cash right now. We could have watched all the financial institutions fail as in the great depression. Instead, the Fed is taking action. We saw what happened when the congress-critters failed to act until a week to 10 days too late. It wasn't just Wall Street, it was jobs, IRA accounts, 401-k's, small businesses failing. Many people stopped buying altogether. Those of you who still own stock in any form should remember that you only lock in your loses by selling. If you hold even a year or two, you will have a lot more. Also an excellent chance to buy at near lows.

The government's action guarantees new bank debt, gives an unlimited guarantee on bank deposits for small business accounts, and allows the Feds to buy commercial paper from banks. It also allows the Fed to buy shares in banks but these are preferred shares paying 5% for I think the next 5 years and then it goes up to 9%. As the crisis eases, the banks will prefer to buy this stock back. This is a temporary thing and not a nationalization of the banks. There are also rules about the pay their executives can get and no golden parachutes are allowed, also a claw-back of certain payments to executives made recently.

Pay attention who you vote for! For the most part, vote the rascals out! When was the last time we had someone come out of near obscurity, was a pretty good speaker, adored by the world press, had the ability to mesmerize lots of people, and no one knew exactly what he would do? Could it have been the late 1930's? Could it have been Adolph Hitler?

As I recall, that didn't work out so well.....

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