Wherein I provide extemporaneous commentary on how your planet’s economy nearly died in 2007-08, how this was the outcome of nearly 30 years of willful but at first well-meaning policy, that had a perfectly predictable end game that the smart peeps felt perfectly prepared to ride out…and so far, their arrogance has yet to be disabused.
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For all of the 1990s and well into the 2000s, the real value of residential real estate hardly appreciated at all. This situation bothered serious people who were in the business of making serious coin selling real estate, building real estate, writing real estate loans, providing said real estate with furniture, appliances, lawn care and other utilities and so on.
Concerns were that unless we maintained the historical 7% annual real home value appreciation trend that had been in place in the USA since the invention of the USA, that it might be a sign that – horrors – we’d entered a phase where the housing market was relatively efficient (supply meets demand rather nicely), that real cost of homes would first flatten (they had) and then like computers and cars and the cost of the Internets start to decline.
Weird things started happening; it became more cost effective for ever younger and less affluent buyers to buy homes than to rent apartments. This development, well underway by the early 1990s, was taken as a good move because American dream and we won the Cold War and capitalism kicks ass and delivers 30-minute pizza. Boo yah.
Let’s dig a bit deeper. What, really, are the biggest costs of buying a home through a loan? Let’s put it another way: Over time, which do you pay more of, principal or interest? For the home itself, or the cost of financing the purchase?
Answer: It depends on the interest rate, how much of a down payment you plop down, and how long a duration (term) of loan you’re talking about.
From about 1981 onward to the present day: interest rates dropped, dropped some more, dropped again, and again, and again. You can run this chart by nominal rates or modify them with an inflation adjustment but you will come up with the same trend – an inexorable decline from rates north of 13% prime lending rates to today’s 3%-handle loans.
This did three big things over time:
1. It brought a LOT more people in range of purchasing big ticket items that, in real terms, stayed the same cost. So long as salaries and wages kept improving, yay.
2. It made debt a LOT more attractive than saving to the working stiff – hey, rates are low. Why rent when you can move into a home you own today? This trade-off of “getting now” rather than “doing without” affected a wider range of consumption choices as well. Again fine, so long as the working schmoe kept working and could keep paying the credit bills (no medical emergencies, no personal life disruptions, no layoffs, hey life is predictable, right?)
3. It made a LOT of money for various agents in the loan origination supply chain – the more people came into the credit market as consumers of debt (borrowers, debtors), the merrier.
And for a time it was a virtuous cycle of macroeconomic win: Consumers benefited from easing credit terms. Boom. They bought more stuff so producers of ‘stuff’ made more sales. Boom. They needed more people to make said stuff (cough, outsourcing) and to sell and deliver and market same (those jobs boomed in the 1990s and stuck around until the invention of insourcing). Kind of a boom. People paid taxes so budget surpluses. Boom. A quiet consequence of all this debt issuance was a weakened dollar but that meant exports were cheap and therefore helped out. Boom again.
So now you have a world where home loan rates are in the single-digit range. 7-9% in the mid 1990s, on the glide to 4-6% rates by the early 2000s. Not even the early 2000s recession did much to slow down the real estate market. Construction and real estate (and of course building things that go “boom” literally) were the strongest performers during early the Bush years.
Brace yourself: Everyone in the serious circles was relieved we had gotten out of the Internet bubble and back into “real” things like…home finance…WMD prospecting in Iraq…and Sharia law enforcement. Okay, I made that one up but you get the picture; our leadership community earnestly thought it had re-centered its priorities…and then proudly asserted a mandate to start meddling.
The Bush-era meddling tendency extended to home financing in several ways – the regressive tax rate structure, heavy use of the Fed’s power to influence interest rates (make credit even easier to obtain, that is, if you have a job or are a corporation) and signing off on well-meaning (maybe) relaxation of longstanding credit review and down payment “skin in the game” practices.
All this was done to kick-start the virtuous cycle of the 1990s economy and dash any crazy talk that Democrats in charge is good for the economy and multiple major wars is bad for the same. No statement captures the prevalent attitude of the time toward debt than Dick Cheney’s famous quote that “deficits don’t matter”. Quite the contrary. When you are running two big wars plus a dozen odd jobs across the planet, intentionally deep-sixing any pretense of shooting for a balanced budget by cutting revenues AND engaging in aggressive monetary policies that heavily incentivize the private sector to bet heavy on debt leveraging… well. You’re not exactly a budget/deficit hawk…unless you mean someone bullish on deficits. And our former leadership in the White House was very much that.
So how did it play out? Oh, let’s see…
Consumers benefited from the easiest credit of all time - savings rates flirted with going negative at one point. They bought more stuff … after they regrouped on bills that they had fallen behind on. Then producers of ‘stuff’ made more sales. Those producers did not need more people to make said stuff (those jobs already gone) and the most excellent expansion of H1B visa use made the entire planet into a talent pool. These jobs boomed – and were shared generously with the world. Salaries and wages in many roles not only flatlined but dropped. But, hey, we had new shopping opportunities at big box stores such as Wal-Mart so that helped save a few pennies here and there… for a while. Until entire towns died and, as we know much later, even the Wal-Marts die off.
So we had kind of a recovery. Slow and halting; employment if not average pay improved. People paid taxes but not as much – and with the wars, public debt ballooned and, being public debt, will keep ballooning on a lag (due to now-ending wars) for some time to come.
Oh – and though inflation was officially nothing at all, because the dollar quietly lost its exchange value against major foreign currencies you saw the cost of necessities jack up tremendously.. or has that $4-5 gallon of milk always been with us? Anyone? Buehler?
So what happened to houses during this phase of official awesome in the mid 2000s? Why, their prices soared, even tripled in some markets.
Wait, wut? Yep, they tripled in price in some markets such as in Florida, Texas, the lower Mountain West states (including Nevada) and of course California.
What fueled this increase? Was everyone suddenly much richer, much more credit worthy and much more of a mind to get thee hence into a new home?
More like the pool of officially eligible home buyers was vastly expanded once small down payments (or none at all) became kosher with the regulators and competitive practices for lenders and, last but not least, the credit rating agencies like Moody’s and Standard & Poor’s signed off as ‘second regulators’ on the practices.
Yet, despite the ‘undeserving brown home buyer’ jingo that still raises its bigoted head, most people finding themselves under water were, among other things, white. And fairly well off. And adopting a trendy tendency to buy homes at the high end of their budget tolerance level.
Why do such a thing? Because, one, they could with interest rates and lending practices being what they were… and in main still are. Because of the multi-decade long incentive to “get now” that home a family might otherwise move into later. Not because people are decadent and stuff but because cheap credit, like a drug, was pushed on them from above.
And because of the effects of said easy debt on both public and commercial practices, many people with stagnant paycheck growth did what they had to, including go into debt, to keep up modest (at best) standards of living. But it’s always easy to kick the poor for the crime of trying to make ends meet, so I doubt this evil practice will stop anytime soon.
But the biggest short-run incentive for people to buy homes and buy big was that from roughly 2002-2007 you simply could not lose by buying a home, almost anywhere on Earth. Not America – but the entire planet. The real estate market had become that commoditized. It was a speculative bubble, we know that now… but the reason so many so-smart people fell in with it was that they treated the ‘home gold rush’ as a correction of decades of sluggish real home value appreciation. All the smart guys in the room honestly felt they knew when to quit, when to walk away from the table and slow things down.
I can put together a strong argument that the banking and finance sector actually did know the level at which average home prices had matched up with the very long-term 7%/year trend or, if aggressive, the likely overshoot point past which staying in the game was a really bad idea, because of looming widespread credit default risks once home values started sagging.
And even this did not kill the world. It would have… sucked. Home prices would have drop, oh, a quarter or even a third in some markets. There definitely still would have been a recession, a big one, since people where going home-shopping everywhere. Some banks would have folded. There would have been bailouts.
But what came a percent or two away from permanently maiming if not ending global financial civilization as you know it were hedges piled on to protect against the risk everyone knew – KNEW – was coming: credit default disaster.
So, since everyone “got theirs” – first their profits, then their hedges – everyone kept pushing debt. Whenever the hairs on their necks rose a bit past comfort, they’d go grab even more insurance.
Which was fine…except the very first companies to fold due to the 2007-09 financial crisis were credit insurance companies – the so-called monolines like MBIA and Ambac.
And the most threatened after that? The canaries in the RMBS coal mine? Why, those would be the largest, purest holders of commercial AAA-grade RMBS bonds: insurance companies.
One particular company, AIG, saw the demand for credit default protection booming far beyond the existing monolines' capacity to cover. That would be AIG. So AIG, on top of its huge credit default risk from its own investments, started assuming the pay side of credit default swaps.
Credit risk management was not AIG's main forte; by October 2008 it was apparent it was never going to be AIG's core competency.
And that is when the financial crisis went from being a Wall Street problem to being a Main Street problem.
The Great Recession had its origins in things that started almost 30 years sooner, trend that for a short while in the nineties worked very well but depended on unsustainable conditions of ever-decreasing interest rates. Low rates are short-run nice (like having a Wal-Mart in town) but the presence of both eventually hurts returns and wages, all the while making life-by-credit-card first attractive and then a necessity. Then the money runs out, the wheels fall off and - oops – things really get unpleasant.
We, as a society, made things worse when we tried to have 1990s Recovery 2.0 But Let Tax Cuts Pay For It. Less taxes, more wars, more debt for all, all paid for on the huge planetary line of credit hypothetically provided by 17 previous years of unrealized home value appreciation, crammed into five years. Oh, and then hedge bets, to make money off the schlubbs and the government when the inevitable bubble burst happens.
Yep. It’s safe to say we got all sorts of played… and it’s been an ongoing play since this TC diarist was in junior high school.
And now we are in Recovery 3.0 But We Got Ours So Who Cares.
The proper response is to be well and truly pissed off.
TOP COMMENTS
March 7, 2013
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From Another Grizzle
this was such a perfect and true image from SpotTheCat, I cracked up when I saw it.
from Kaili Joy Gray's diary, Fox 'News' Chief Roger Ailes Says...
From Noddy
dov12348 knows how to keep a secret on Kaili Joy Gray's diary Democrats re-re-reintroduce Equal Rights Amendment... but, shhhhh, don't tell anyone.
They can make me do Top Comments til my fingers bleed; I'll never tell. - CSK
From BeninSC:
'Flagged' by native, this comment by Keith930 summarizes why it's often difficult to get anything done in a government with as much Republican representation as we suffer in this country. Eric Holder is understandably frustrated!
From tofumagoo:
This comment by mmacdDE succinctly describes how to get single payer passed in Congress, found in Jed Lewiston's front pager.
From ME
RonV Hooks us up with a map of Constitution Free Areas of the United States.
Basically, two out of three Americans lives within 100 miles of the land or sea borders of the country. In these area, under existing law, the Fourth and Fifth Amendments no longer exist. Oops. - CSK
Elsewhere, the most excellent Navajo discusses how everyone in the Bay Area is cool, except for that guy :)
And webranding might as well live in my town from his description of local politics
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TOP PHOTOS
March 6, 2013
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