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Monday, March 16, 2009

Moral Financial Responsibility

As I saw 'House of Cards' yesterday, a documentary produced by CNBC about the sub-prime mortgage crisis, one theme kept recurring in my head - moral financial responsibility. The participants were home owners who are now foreclosed or are on the verge of losing their homes, officers who eagerly sought these people and offered loans, Wall St executives who packaged those loans and sold it far far away, institutions that bought those financial derivatives and finally Alan Greenspan, the ex-chairman of America's central bank.

After 9/11 Bush urges everyone to go shopping. China has been buying U.S treasury bonds left and right, the Federal Reserve has a relaxed lending standard all in effect making credit dirt cheap. The banks just wanted to dole out loans to anyone who would nod their heads. And nod, many did. A black woman from Southern California said "As I stepped out of church, these two guys came to me and said 'Your home loan is approved'. And I thought 'Hallelujah, it's a miracle' ". She bought it. One Mexican immigrant said it was his American dream to own a home and he didn't have to produce his tax papers or salary certificate. Just state his income and his loan was approved. Another family with 4 kids wanted to jump early on the home-owner bandwagon as the prices were skyrocketing.

The going was good. As the house prices kept going upward, these people refinanced their loans and built a swimming pool, bought furniture, paid off credit card debts, refurbished their backyard….. Had anyone sane seen this footage in 2006, it would still have been obvious that this was an accident waiting to happen. Buyers just assumed that their home equity is a balloon that'll never pop and they could live a comfortable life by not moving their butt, but by just refinancing their home loans. Wall St was ravenous, because small credit unions and municpalities and city mayors all over Europe who fully didn't understand what a CDO is or how safe/risky they were, just eagerly piled them up. As long as someone was buying, why stop selling, thought the financial engineers at Wall St. Eventually, sub-prime guys and the CDO buyers were slapped. As their house value collapsed and their mortgage loomed they realized they can't make their ends meet. The fine prints in their loan agreements were now emboldened - they had signed on to conditions that they weren't aware of previously.

This bubble and the growth associated with it is based on magical mathematical models. Nothing was invented or produced that could sustain growth. It was pure consumption made possible by the Chinese & Fed on the assumption that home values can only go North. Alan Greenspan said that he believed banks would regulate themselves in their own interest. As we now know, they were blinded by greed. He said that if he had raised the interest rate thereby choking the flow of credit, it would essentially have killed the economic engine and brought the unemployment rate to 10%, to which the Congress would definitely have not agreed. The SEC was on the sidelines when it should have been an active player monitoring and regulating. And the rating agencies stamped AAA on almost any derivative.

The black woman said "I'm stupid, but they (lenders) are guilty". No dear, you're not just plain stupid, you're humongously stupid, monumentally stupid, criminally stupid. Spend less than you earn - is that so whacky? Borrow money only if you can repay - is it nonsensical? If you're making the biggest investment of your life, like buying a home, why not read the fine prints in the mortgage document? The Wall St executive said, when asked if he felt guilty for making money on stupid people "No. Nobody put a gun to their head and asked them to sign the papers." That's right, but that also spotlights his moral blackhole. It's like raping a woman who is blind, deaf and mute.  'If you can easily get away, why not do it?' was his attitude.  Technically, he can't be blamed as what he was doing was absolutely legal.
I'm no economist and reading the contradictory opinion pieces in the business section scares me.  The market has lost trillions of dollars in just a year.  The U.S government along with many European governments have intervened to stabilize their financial institutions.  One school says that we haven't printed enough money to get us out of this mess.  The other school says that we should have allowed the correction to happen and by artificially injecting cash we're trying to give birth to another bubble.  One economist says this is a great time to set course for innovation in green energy, revolutionize health care, reform education and that's precisely what the Obama administration is doing.  Another economist says that we're going to inflate ourselves into a worthless dollar.  In the middle of all this, the Chinese premier said that he's a little bit concerned about the value of his colossal foreign reserves.  If China decides to dump them for it's infrastructure development, the world will be sloshed with U.S dollars that could lead to a currency collapse.
This severe crisis not only haunts those like the personally irresponsible woman and the morally irresponsible Wall St executive, but also Mr.Joe who has always lived within his means and made prudent decisions. Because of the credit crunch, he has lost his job and he's forced to default on his home loan.  Growing up in a middle class family in India, my parents included me in financial discussions when I was 15. Since I knew what my dad brought home and how much we spent a month, many of my dreams that my friends were living remained a dream to me.  I learned to say no to myself.  Knowing that I will have to live with the consequences of my decisions drives me away from driving home a Lexus though my savings and income and credit history allow me.  I hope one of the outcomes of this crisis is that those who had plans for their future paychecks will now take it slowly and start doing something that every American a couple of generations before did: save.

5 comments:

ohmsdeeps said...

Very Nice analysis Prasad.
Ohm

Prasad Venkataramana said...

Thanks Ohm.

Scanning through responses by angry and bitter tax-payers in NYT, I found this:
This is the worst idea I have ever heard. Let them fail. Every one of them. Any bank (or insurance company) not strong enough to stand on its own two feet, should go the way of the Wooly Mammoth.

I have no sympathy for these banks. They have been sucking me and millions of other working class workers dry for years with their complicated charades, which include holding transactions until we overdraft are accounts. They have made hundreds of billions off this overdraft technique and now I am supposed to feel sorry for them?

Uh uh. They pay themselves like jackrabbits and drunken sailors and now I am supposed to foot the bill? No.

Why should this generation try and stave off a depression that is inevitable only so that the next will suffer even greater harm.

We are in this mess because of financial engineering by the corporations. Now we are witnessing the greatest financial engineering job of all time by the government.

It is all a hoax.

Freehit said...

I wouldn't be surprised if a gene is identified that controls financial responsibility/living within one's means and the Asian/Indian population found to be possessing that gene in hyperactive mode. Greed + recklessness is a deadly cocktail.

Rajkumar. B said...

Hi Prasad,

A very good analysis !

My mother often quotes a Thirukkural which goes like,

Aagaru Ala-vitta-dhayinum kaedillai
Pogaru Agalaa kadai

A rough translation below;

Aagaru means "source". It is okay if the source is small - no problems about that (meaning of first line). But make sure that the way where the things (money) go is not a wider one (meaning of the second line).

I am always in awe, about Thirukkural and the wisdom of Thiruvalluvar. For whatever situation one faces in life, there is an apt Thirukkural for it. It is more amazing if you think that it is around 2000 years old.

May be, we should all learn a thing or two from our parents and elders who are definitely wiser than us.

Regards
Rajkumar. B

Prasad Venkataramana said...

Freehit,
Yes, I agree. After a long slumber Indians have started consuming, but not anywhere near the Americans.

Rajkumar,
Thirukkural is mostly common sense. And common sense is not all that common.