It’s not sensible to lend a lot of money to someone who has little or no regular income and who also has few if any assets. The reason it’s not sensible – for those readers not well-acquainted with financial matters – is that if the borrower has no income he will be hard put to meet his payments on the loan, and if he has no assets, the lender will have nothing to get his hands on in the event that the borrower’s lack of income causes him to fall behind on his repayment schedule.
It will therefore come as a great relief to many – nay, surely all — readers to know that in the United States of America, the regulations governing mortgage loans make it quite clear that the lending bank must determine whether a would-be borrower has the capability to repay any loan it may offer him. In passing, we note that the rules also state that “creditors and mortgage brokers are prohibited from coercing a real estate appraiser to misstate a home’s value”. However, that sense of relief may dissipate on learning that the regulations in question were adopted and announced by the Federal Reserve Bank on July 14, 2008 – i.e. Monday of this week, about one year after the subprime crisis blew open. The key feature of the subprime crisis – and of the much wider credit crisis still evolving – was that banks lent (and still lend) large sums to many people, without making any effort to ascertain their financial status, situation and prospects. Indeed, the marketing of ‘non-doc’ loans, in which the borrower was not required to furnish documentary evidence regarding salary, financial assets or other relevant information, was rampant in the boom years of 2005-2007.
The only thing you can say about the extraordinary fact that only now, when all the horses have bolted into the wild blue yonder and the damage is well and truly done, has the Fed seen fit to close the stable door — is ‘better late than never’. But any lingering sense of relief might turn to disappointment on learning that the Fed’s action this Monday was based on a law passed in 1994 the avowed purpose of which was to protect consumers in the area of mortgage lending. And that disappointment might be replaced by shock, or even anger, on discovering that these new regulations will take effect not on July 15, say, or at least on August 1 this year – but rather on October 1, 2009. Yes, that’s nine, not a misprint. Read the whole announcement at http://www.federalreserve.gov/newsevents/press/bcreg/20080714a.htm.
There is a Talmudic adage that says that ‘it’s not the mouse that steals, but the hole that steals’. The meaning is that the perpetrator of the crime is not the sole guilty party, or even the primary one. The facilitator of the criminal event, even if this was by failing to do what he could and should have done, is more guilty. In the context of modern financial markets, that means that the regulators are more to blame for the collapse of financial institutions they oversee than the persons who actually took the actions that led to that collapse, whether by putting the money in their own pockets or lending it recklessly to others (and getting a bonus for their efforts).
There is a huge debate raging in the US and around the world as to who was responsible for the credit crisis. Many have spoken and written (including this column) about the explosion of unconstrained greed that characterised the late lamented housing boom. In this view, the lenders, the agents, the investment bankers and the other intermediaries are all to blame. Indeed they are. But the deliberate turning of a blind eye by the Greenspan Fed – deliberate, because Greenspan believed as a matter of doctrine that all regulation is bad and that the markets should be left to police themselves – and other federal agencies under the Bush Administration was the primary factor and, we would argue, the more serious moral failing.
Greenspan has mercifully departed, leaving the whole mess to his successor, Ben Bernanke, whilst the Fed as an institution is systematically acquiring more power and more authority, as a matter of deliberate policy on the part of Treasury Secretary Henry Paulson. It remains to be seen whether President Obama, if he wins in November, has what it takes to understand and then act upon the understanding that the Fed as currently structured and staffed is not the solution but part of the problem. The major part.