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Wednesday, July 8, 2009

The CRA, Fannie Mae, and the Democrats: A Conspiracy Too Good To Pass Up

I first heard about the Community Reinvestment Act sometime in late 2008. When I first heard commentators come on major networks like Fox News and assign it as the most significant blame for the mortgage crisis I was stunned. I have spent the last nearly seven years in the mortgage business. If the CRA was such a factor, why hadn't I heard of it before? As I learned more about it, I started to understand why it became such a popular cause celebre.

The CRA hits almost all conservative so called erogenous zones. First, it is exactly the sort of social engineering that conservatives hate. The CRA set up a quota system for banks to follow for providing loans in the inner cities. Furthermore, the CRA was created under Jimmy Carter. It gets even better for Republicans. It was updated and made more powerful under Bill Clinton. That was the politically philosophical trifecta. Not only could conservatives blame the entire financial crisis on government interference and social engineering but they could also tie it two of their least favorite leaders, Bill Clinton and Jimmy Carter. This wasn't merely a chance to wage a philosophical battle over the issue of the day, but it was a chance to bloody up the legacy of two hated presidents.

Things only got better from there. Next we found out that the CRA was used by the federal government toward mortgage giants Fannie Mae and Freddie Mac. We found evidence that CRA pushed both into "sub prime". This was absolutely marvelous because we soon learned that Fannie/Freddie were much more tied to Democrats than Republicans. We further learned that John McCain and George Bush tried to reform Fannie/Freddie in 2004-2005. This now infamouse Youtube video was discovered.

As if there wasn't enough for conservatives to get excited about, they finally had the clincher. Who was a major recipient of CRA...ACORN, La Raza, and other demonized left wing groups.

The Clinton administration's get-tough regulatory regime mattered so crucially because bank deregulation had set off a wave of mega-mergers, including the acquisition of the Bank of America by NationsBank, BankBoston by Fleet Financial, and Bankers Trust by Deutsche Bank. Regulatory approval of such mergers depended, in part, on positive CRA ratings. "To avoid the possibility of a denied or delayed application," advises the NCRC in its deadpan tone, "lending institutions have an incentive to make formal agreements with community organizations." By intervening—even just threatening to intervene—in the CRA review process, left-wing nonprofit groups have been able to gain control over eye-popping pools of bank capital, which they in turn parcel out to individual low-income mortgage seekers. A radical group called ACORN Housing has a $760 million commitment from the Bank of New York; the Boston-based Neighborhood Assistance Corporation of America has a $3-billion agreement with the Bank of America; a coalition of groups headed by New Jersey Citizen Action has a five-year, $13-billion agreement with First Union Corporation. Similar deals operate in almost every major U.S. city. Observes Tom Callahan, executive director of the Massachusetts Affordable Housing Alliance, which has $220 million in bank mortgage money to parcel out, "CRA is the backbone of everything we do."

In addition to providing the nonprofits with mortgage money to disburse, CRA allows those organizations to collect a fee from the banks for their services in marketing the loans. The Senate Banking Committee has estimated that, as a result of CRA, $9.5 billion so far has gone to pay for services and salaries of the nonprofit groups involved. To deal with such groups and to produce CRA compliance data for regulators, banks routinely establish separate CRA departments. A CRA consultant industry has sprung up to assist them. New financial-services firms offer to help banks that think they have a CRA problem make quick "investments" in packaged portfolios of CRA loans to get into compliance.

It's absolutely true. For years, ACORN would shake down local and regional banks in order to get them to do more low income loans in "compliance with the community reinvestment". In fact, ACORN turned compliance enforcement of this act into a major cottage industry for itself and a source of serious funding. We even found out that George Soros had ties to the CRA. The conservatives had found their holy grail of blame for the crisis. Every single enemy, ideological and personal, could be blamed all at once for the crisis.

So, you have folks like Karl Rove, Dick Morris, Thomas Sowell, and Thomas Woods all in unison blaming the CRA. Sean Hannity brings up the CRA everytime the crisis is discussed. They state it as fact, and it has become an almost cult like narrative among conservatives.

For instance, I was at a gathering of conservatives late last year when this subject was brought up. One individual insisted that the Fannie/Freddie were responsible for the sub prime crisis. The problem with this hypothesis is that it takes a rudimentary view of "sub prime". Back in the beginning of 2007, the sub prime crisis swept through the niche and caused banks like New Century, First Franklin, WMC, and Fremont (among dozens of others) to fail nearly all at once. None of these banks had anything to do with Fannie/Freddie. In fact, they were called sub prime because they sold their loans to entities other than Fannie/Freddie (who's loans we all called prime) How could Fannie/Freddie be responsible for their failure? What media referred to as "sub prime" and what the industry referred to as "sub prime" were two entirely different things. The banks that all failed at the beginning of 2007 all sold their loans to entities that had nothin to do with fannie/freddie. More than that, banks like Fremont, First Franklin, etc. weren't even under the guidance of the CRA. None of these entities created any loans to meet that criteria because they weren't under its control. That was of little consequence because the narrative had already formed for conservatives.

Conservatives were also not to be bothered with little insignificant issues like numbers and logic. For instance, at its height the CRA accounted for 3% of all loans. How could it have such an effect if it accounted for so little of the overall pool. Second, the CRA applied to retail banks. (the banks you walk into) The crisis was mostly created at wholesale banks. (the banks that use mortgage brokers) Wholesale was the nexus of most of the "toxic" loans that were created and lead to the crisis. Remember, a lot of folks put most of the blame on mortgage brokers. Well, mortgage brokers work exclusively in wholesale. Those institutions weren't under the perview of CRA. Keep in mind, some banks have both a wholesale and retail department, but they are totally separate. So, it's hard to imagine that the policies of one would have much of an effect on the other.

Of course, logic and raw numbers are entirely unimportant in a conspiracy theory. That's what this is. In order to believe that the CRA is responsible for all this, one would have to believe that this obscure law brought the entire financial system down all while no one noticed. One would have to believe that it influenced the decisions of mortgage professionals all over the universe of mortgages even though it itself accounted for only a fraction of the total loan pool. The financial crisis was largely caused by financial institutions that weren't even governed by the CRA and yet it still somehow influenced their behavior. This conspiracy is like most conspiracies. It makes sense on the surface. It's only once the facts are fully examined that holes are found all over. Don't tell conservatives though because it makes for a great story.

Here is my white paper on the crisis.


Anonymous said...

So what caused it then?

Anonymous said...

The Role of Government Affordable Housing Policy in
Creating the Global Financial Crisis of 2008
JULY 7, 2009

mike volpe said...

there's my white paper. I pin most of the blame on the Fed.

Anonymous said...

Two issues you're missing. When banks were pressured to make sub-prime loans, they were willing to make a few to avoid law suits, but they wouldn't risk too many for rational fear of bankruptcy. Enter Freddie Mac and Fannie Mae to buy them up and keep the sub-prime trad mill running at top speed.

Secondly, mark-to-market pricing. M2M says the bank's ledgers have to list assets at what their value was at that particular time, not when they had matured much later.

Thanks the Wall Street's ability to come up with ever more complicated financial instruments, many of the sub-prime loans were sliced, diced and pureed with other regular mortgages, into portfolios, that were sold around the world.

When the sub-prime bubble burst, even though it was only 3% of mortgages, no one knew where exactly in these complicated financial instruments, that 3% of bad loans resided. Even though 97% of the financial instrument were sound, there was no way to separate the 97% "good" from the the 3% "bad." Which means no one wanted to touch them least they get saddled with the bad mortgages and get shafted on the good ones.

Enter mark-to-market. When no one wanted these complicated instruments - and for good reason - their current market value price could not be calculated, which meant their value was essentially zero. Enter the crash of banks that counted these instruments as their assets. Suddenly, they were broke, needed money fast, so started reeling it in where ever they could.

And as with any house of cards, yank out the wrong one and the entire thing came crashing down.

The real problem with the CRA was it used the implied threat of government force to invert a mortgage lender's primal instinct to avoid sub-prime loans in order to avoid the risk of bankruptcy. The federal government actually made it more of an incentive to make bad loans, knowing they could be repackaged and sold by Wall Street with Fannie & Freddie picking up the left overs.

Had the federal government stayed out of it altogether, the real risk for mortgage lenders would have relied on their primal incentive, to remain solvent, and the mess could have been avoided altogether.

But of course, people unable to secure standard mortgages was considered proof of discrimination, and busy body politicians, always on the hunt for victims to defend (and voters to bribe), couldn't resist this scam, because it was just too easy for them to force it on the mortgage industry.

The lesson is simple, keep government out, and let market forces - the incentive to avoid bankruptcy in the first place - dictate the actions of the financial market.


mike volpe said...

total nonsense Ed.

AGain, the banks that failed at the beginning of 2007, WMC, Fremont, etc. weren' making "sub prime" loans to Fannie Mae. Fannie had nothing to do with it.

Second, we knew exactly where they were, the were Home Possible and My Community loans. These were the two loans created for CRA. We knew exactly where they were and they were all Fannie/Freddie.

The Sub prime MBS had nothing to do with those two.

Anonymous said...

Sorry Mike, no. Mark-to-market pricing. It didn't matter who originated the loans, the tipping point was who had their asset sheets loaded with them when the bell rang. They very well may have changed hands multiple times before landing in the pockets of those who failed, in who knows what form, mutual funds, what ever. Think of it as macabre musical chairs.

The problem with the so called "toxic assests" is they could not be untangled from the 97% of good mortgages in a timely matter. Think back to the first TARP bailout. The idea was to buy these instruments from the banks, replacing the M2M zero value assets with government supplied money, let the government hold them long enough to sort them out, then deal with the 3% bad loans and sell off the 97% good loans, and hopefully even make a profit.

But then along came GM & Chrysler, to make things look worse for Bush the dems refused to give Bush his bailout money, so TARP was diverted to Detroit, and the rest is, as they say, history.

As for the specific institutions you are referring to, I don't know, they may have had other issues, I'm not familiar with them, I'm referring to the over all government enforced market failure, which isn't a market failure at all, its a government failure.

As for me, I blame both political parties. The democrats may have been hawking these policies as vote getters, but republicans were in the driver's seat and could have put an end to it anytime they wanted. They chose to turn a blind eye, no doubt, because they thought they would benefit politically.

The over all moral, keep government out of people's business they have no business in, and we'll all be better off.


VinceP1974 said...

Such lazy sloppy thinking.

No Conservative attributes the enormity of this situation to CRA or even just to subprime.

Any conservative who took the time to even find out about these things is looking for fact , not some flimsy appearance of fact so that they could falsely accuse certain people of things.

(We're not Leftists after all)

The role of CRA was to get the chain of events rolling.

The CRA was only the beginning of policy making that defied economic reality. Once CRA's Unreality became standard banking procedure, other bits of Unreality followed. And eventually you get to the Free-For-All that became the mortgage market in the mid 00s.

CRA was the crack in the foundation of sound lending practices. It led people to believe that economic reality could be suspended to political aims.

With the Foundation cracked, it was only a matter of time before all new construction onto that house of cards would collapse.

mike volpe said...

Let me take both at once. First, no conservative but Darrell Issa apparently who just concluded exactly what you claim no conservative concludes.

Thomas Woods, in his book Meltdown blames CRA as the number one culprit. The same is true of Sowell. Sean Hannity turns its blame into a broken record.

The fact is that CRA was the catalyst to nothing. The industry barely paid attention to it. Most of the problems were in a part of the industry that wasn't even governed by it.

As for mark to market, in my white paper I address mark to market's role, but to blame it for the crisis is nonsense. It was the gasoline on a lit flame. As I have said over and over, loose money policy got everything started.

VinceP1974 said...

Sowell is in perfect agreement with what I said.

Maybe I'll put it another way... the CRA was the first experiement in putting political agenda ahead of industry standards.

So when we blame CRA what is being blamed is the government mandating economic unreality. And the CRA is the start of it.

It was the ideas that created and expanded the CRA that is being blamed. This thinking paved the road all the way to collapse.

That is my understanding of what is meant by the critique of CRA and way people say that it was the cause.

It's blamed because it was first in line of many stupid decisions that destroyed mortgage lending standards.

Maybe someone on "my side" can chime in and explain how they see it.

mike volpe said...

It's one thing to critique CRA, but quite another to make it anymore than the 99th most important reason for the crisis. Folks like Sowell turn CRA into something it isn't because it allows conservatives to attack liberal ideals. That's just looney. The CRa lead to nothing. The reasons for the mortgage crisis had to do with things that had absolutely nothing to do with the CRA.

Again, most of the loans that are a problem were done by entities outside of the perview of the CRA. The CRA was at its height 3% of the mortgage market. yet, you claim that CRA lead to this. That's nonsense.

This was a bubble. It was caused by bubble mentality. That wasn't caused by some obscure law that no one knew about.

VinceP1974 said...

You argue agianst i'm not saying , So i wonder if you willfully choose to ignore it when I say that CRA was simply the opening act of other acts to come that led to the collapse.

That means I am not blaming the CRA for a majority of the behavior that followed it's misuse. Just that it was the CRA that initiated the events.

The fundamental economic error was the issuance of loans that would never be paid back.

If all of the economic activity that occurred been based on loans that were sound, there would be no problem.

The mortgage world used to work. There is roughly a 100 years of mortgage stability.

Something led from that to where we were in 2005. Something had to come first in line that led to A to Z. The CRA was first. That is why it is "blamed".

What is really to blame is the philosophy behind it.

That philosophy was that Economic Reality can be mandated against by Congress and alternate reality architected in the name of Social Justice.

The Democrats are clearly to blame for the destruction of the mortgage industry's ability to properly assess risk in the issuance of these loans and their mutation and trade in the secondary market.

You seem to want to have it seem as if I'm saying nothing other than CRA has culpability. That beyond the CRA , nothing else has substantial relevence.

I am not saying that. I agree with your depiction about CRA's proportion.

You can't deny that CRA was step 1. And you can't say that I am giving primacy to the CRA as the overwhelming factor. I am not saying that.

Yet you deny the CRA has anything to do with anything.

Like I said before, it's the thinking and philosophy of the behind the CRA that is the most responsible happen.

Once they were able to get away with their CRA economical suicide policy they moved onto other areas like a wrecking ball to the foundation.

The cause of the crisis is bad loans.

Bad loans started with CRA but did not end there.

You accuse others of some ideological zeal... to me it's just simple chronology. I think a person who refuses to acknowledge these basic facts is the one being ideological.

The financial damage that CRA itself caused is insignificant , it's the legal damage that is significant. That it was a precedent in the string of actions that destroyed standards that is important.

If you want to dismiss CRA.. fine. The next culpret is whatever new policy of standards weakening was next in the chain. And that would be the flawed report about alledged racist loan denials published by the Boston Federal Reserve in 1992.

VinceP1974 said...

By the way, the Housing Bubble started in the 90s. Before the FED poured fusing hydrogen atoms on the situation.

mike volpe said...

The housing bubble did NOT start in the 1990's. That was a separate bubble that had its crash and it was a much smaller bubble.

Again, CRA affected nothing. In the 1990's CRA loans accounted for fractions of one percent. They were a catalyst to nothing. They were nuisance that banks had to deal with. They didn't affect anyone behavior in any loan besides the ones they were meant to serve.

All those that make the argument that you all make have closed exactly zero loans. I would dare anyone to find any person that was in the industry while all of this occurred that would agree with you. The only people that agree with you are political commentators.

The CRA is a boogeyman created by conservatives to blame liberal policies for the crisis.

There is no logical reason to believe that a bill started in the 1970's. Updated in the 1990's had any effect on things that happened in the early part of 2000's.

To ignore the role of the fed, which has a lot more effect on our economy, simply because that doesn't fit into your ideology is pure nonsense.

Again, the federal reserve lowered the fed funds rate to below one percent. That was done at a time when the only industry that was moving was real estate. Banks poured money into real estate. They had more money than loans. So, they created more loans. The more loans they created the better the loans and real estate did. So, they kept getting progressively more aggressive. They kept doing this until they crossed over and began creating irresponsible loans.

That's much more logical than some obscure law that no one in the industry even knew about being the catalyst.

VinceP1974 said...

I recommend reading a report issued by the Fed which puts the date of the beginning of the bubble firmly in 1998.

You're showing yourself to be reflexively in opossition to information that would conflict with what is now a clear ideologicaly position on your part.

Before pointing out the speck in someone's eye, you should take notice of the log in your own.

Page 2
The boom showed its first beginning in 1998 with real (inflation-corrected) home price increases first exceeding ten percent in a year on the west coast, in the glamour cities San Diego, Los Angeles, San Francisco and Seattle. The incipient boom then attracted only moderate attention since it was confined to the west coast and the cumulative price gain was still not dramatic. But the boom quickly spread east, with 10% one year real home price increases appearing in Denver and then Boston in 1999. These cities kept on appreciating at a historical rate.

mike volpe said...

First, this is the same Fed that I blame for creating the crisis. Second, did you read your own report.

"The boom showed its first beginning in 1998 with real (inflation-corrected) home price increases first exceeding ten percent in a year on the west coast, in the glamour cities San Diego, Los Angeles, San Francisco and Seattle. The incipient boom then attracted only moderate attention since it was confined to the west coast and the cumulative price gain was still not dramatic. But the boom quickly spread east, with 10% one year real home price increases appearing in Denver and then Boston in 1999. These cities kept on appreciating at a historical rate."

In 1998, what was happening? That was the height of the internet boom. Of course, west coast cities like San Fran, SAN FRANCISCO, the place where most of the internet companies were centered, had a real estate boom. Of coruse, they did. That's where everyone was moving 1998. Did you notice how all the cities mentioned as booming in 1998 were also cities that were recipients of the internet boom?

Do you want to know another reason why Seattle and San Francisco had their real estate market boom in 1998? It's because those were the cities that most benefitted from the internet boom which was in full effect in 1998.

There's a huge difference between a real estate boom in cities that were home to the other boom, the internet boom, and one that spread to the rest of the nation.

This sounds like a totally self serving report.

jon said...

Plenty of blame to go around... It isn't worth trying to apportion how much goes to CRA.

The point is that stupid ideas were tried and failed. I remember Franklin Rains being all giddy about (IIRC) things like no income verification loans and no down payments.

And might as well blame people for buying into the hype and getting themselves into McMansions that they could not afford. This of course was perpetuated by none other than Greenspan lowering interest rates to make money cheap and ride the bubble of people borrowing themselves to beyond the hilt.

Now we compound it by trying to bail out all the crap by printing money like there's no tomorrow.

I think the dollar has already lost something like 40% of its value in less than 10 years. Wait until the current lunatic (doubling?) M1 surge hits home in a few years.

I am surprised the same Washington Statist geniuses haven't passed legislation limiting gravity to help out the obese.