With all of the complicated versions of solving the banking (and housing, since they are conjoined twins), I think that I have a simpler one that might actually work. Since I am a scientist rather than an economist, I would appreciate feedback from those who are economists, if you have a better idea.
As I understand the current situation, the real problem is centered on falling real estate values, and the loans that were converted into derivatives that were hard to trace. The reason for this was greed, and if there had been proper regulation and oversight by the government, this would not have happened. I put the full blame on the Bush administration, who advocated deregulation and less oversight at every breath. The same might be said about the Madoff situation, or even the peanut product one.
That is now sort of irrelevant, but will be important in future to prevent similar things from occurring again. I advocate very tight regulation of financial firms, and severe criminal and civil actions against those who violate good regulations.
The right wingnuts are blaming this on Jimmy Carter and Bill Clinton, who indeed wanted to open up the housing market to folks. But they are disingenuous, since there were still lending standards in place then. I bought two houses in that era, and had to pass some pretty strict financial muster, but I went for a low interest rate, and never bought more house than I could afford.
Thanks to Senator Gramm and the rest of the Republicans, real banking and speculative ventures became one and the same. Real banking is supposed to be sort of stodgy, and make money on the pace of the turtle, slowly but surely. Speculative ventures, like investment banks and hedge funds tend to be more like the rabbit, making huge sums (or losing them) very rapidly. Until just a few years ago, they were separate entities and did not intrude on each other's territories. But Gramm and the Republicans rammed through a law that blurred that distinction.
All of a sudden, our stodgy banks were able to offer other, more "lucrative" investment devices. They could broker stocks, bonds, derivatives, and other questionable "investment" schemes, with the guise of being insured by the FDIC, although most of them were not, but the name of the bank made it seem so.
So what happened? Real estate became the target of fortunes for the folks selling contracts. Every time a contract changes hands, someone makes money. Untold billions of dollars were made by selling questionable mortgages, wrapped up in "no risk" packs, to even bigger banks. This all was OK, because, for a fee, a third party would insure them against loss. Of course, most of those insurers are bankrupt now, so they are not help.
The result was a "bubble" in real estate prices, and the unrealistic expectation that any property that anyone bought would increase in value in double digits forever. Well, think tulip bulbs. (Hit Wikipedia for that history, I am sure that there is an entry, but I have not looked for it).
First, there was a little bit of concern that some folks, who had been given mortgage deals that could never been fulfilled ("No down", "no documents", for two) to get insurance from the third parties. That fueled the fire.
Then the brokers went into a frenzy. There were so many millions, neigh, billions, of dollars to be made that good lending practice landed on the parking lot after being thrown out of the top floor of the lending institutions. They mixed them with other investments, and sold derivatives that were "insured", to major investment houses, and then the insurers went belly up soon (I try never to end a sentence with a preposition).
This is what we have now. Real estate inflated prices are because of speculation made possible by damned old Gramm, and a compliant Congress and Administration. Now the money has fled from it.
How do we fix it? It is simple. Here is my proposal.
First, no more bailout money for anyone or any company for 90 days to allow real accountants to sort some of this out to make some sense. If GM has to fold, sadly, so be it. The automobile manufacturing capacity will come back, with other owners. Also allow 90 days for folks who are having trouble paying their mortgages a bit of time to renegotiate with their lenders.
Second, pump the stimulus money into local projects (the definition of "local" depends, but I am thinking roadwork, bridges, and sustainable energy projects).
Third, audit every cent of the stimulus money. I am not opposed the maglev train from Las Vegas to Anaheim, but want to know who gets it. I want the suppliers and the workers to get the lion's share, not the admistrators.
Forth, for the sake of God, institute better laws and oversight to prevent this, the Madoff crimes, Enron, and other dishonest and thieving entities much more difficult to exist. Of course we will never eliminate the dishonest, but we can TRY!
Fifth, punish the guilty ones who are responsible for this debacle. I am not talking about the floor trader, just doing her or his job, but the ones that well knew that this was not sustainable. They need to go to prison, and all of their assets defaulted to the Treasury.
Sixth, use those forfeited assets to buy down the principal for the loans that honest folks took out for homes that depreciated. I am not talking about the ones that were gaming the system, but rather the folks that were buying a home to occupy, improve, and, perhaps someday, sell for retirement money. That is not a dishonest goal. But the vultures have caused the property values to contract, because they caused them to inflate in the first place. To hell with them.
Epilogue: I have had more comments on this diary than almost any that I have ever written, even the Pique the Geek ones that take many hours to research before posting. I am astonished. This was just sort of an out of hand, common sense sort of set of thoughts. Perhaps I should not put so much thought into Pique the Geek, because of the rule of diminishing returns. Warmest regards,
Doc
Any comments, especially from economists, are welcome.
Warmest regards,
Doc