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America in Fiscal Crisis

The Community Redevelopment Act (CRA) was signed into law by president Jimmy carter in 1977. This act required that banks make credit available to all communities and was in response to charges of "red lining" in which it was alleged that banks refused to provide loans to certain geographic areas based on their racial and or ethnic makeup. While there was no specific hard regulation requiring banks to make risky loans, compliance was often evaluated when banks sought to either merge or expand their operations. In 1995, President Bill Clinton promulgated new regulations for CRA which required that banks maintain data on race, income and location. The new regulations also allowed "community groups" such as the Association of Community Organizations for Reform Now (ACORN) to challenge a bank's compliance with the act by filing complaints with regulatory agencies when a bank sought to expand. Thus many banks began to make loans to people who would normally not qualify. This often included no income verification, no money down, loans which included closing costs, jumbo mortgages, etc. These risky loans would became known as subprime loans.

The Federal National Mortgage Association (Fannie Mac) and Federal Home Loan Mortgage Corporation (Freddie Mac) were created by congress (1968 & 1970) and are considered financial service corporations which are federally chartered but privately owned. These corporations were founded to increase liquidity to the credit markets by providing credit to targeted sectors of the economy such as the housing market. Neither corporation were backed by the U.S. government. Beginning in 1995, these corporations began purchasing subprime mortgage backed securities. Bear Sterns was one of the first investment banks that began purchasing these securities. These financial institutions made money by guaranteeing the loans. 

Contrary to recent claims, the creation of these new financial securities had nothing to do with the passage of the Gramm-Leach-Bliley (GLBA) Act of 1999. This Act of congress repealed the Glass-Steagall Act of 1933 which kept a wall of separation between insurance companies, investment banks and commercial banks. After the repeal, several financial institutions merged forming large financial holding companies such as Citi-bank and AIG. What actually effected the push for subprime backed securities was a single provision of GLBA; in order to be able to move forward with a merger, the financial institution had to receive a satisfactory rating relating to compliance with the CRA. This also helped create Credit-default swaps which were financial instruments that guarantee bonds or securities. The insurance company AIG provided these type of securities. These credit-swaps accounted for more then 45.5 trillion dollars worth of bonds and securities.

in 2002, congress enacted sweeping accounting reforms in light of major corporate scandals involving off balance sheet transactions. The legislation was known as Sarbanes-Oxley (SOX). The legislation applied to all publicly traded corporations but did not apply to private corporations. Corporations such as Enron, WorldCom falsified their financial statements with the facilitation of their accounting firm Arthur Andersen. When these firms went bankrupt, thousands of investors lost millions along with thousands of jobs. Several CEO's were convicted of fraud and went to prison. Both Fannie Ma and Freddie Mac were exempted from SOX.

Franklin Raines who was Vice-Chairman of Fannie Mac from 1991-1996 and was CEO from 1999-2004, changed the way executives were awarded bonuses. Instead of receiving bonuses based on profitability, bonuses were awarded based on the amount of money investors held in "affordable mortgages". This helped fuel the acquisition and sale of subprime mortgage backed securities which led to an increased demand for housing.

With more demand then supply, housing prices skyrocketed. As the prices increased, so did inflation. This led to higher interest rates. As more then 90% of the subprime mortgages were adjustable rate mortgages, the result was higher interest rates thus higher monthly mortgage payments. Coupled with higher gas prices, many of the mortgages defaulted. As foreclosures increased, more houses went on the market. With higher inflation, people stopped buying homes. With more houses on the market and weak demand, housing prices dropped reducing the owner's equity. As Fannie Mae and Freddie Mac were unable to guarantee these worthless loans, several banks began to collapse. When AIG was unable to meet its commitment for the credit-swaps, AIG teetered on bankruptcy. This caused a cascading effect throughout the financial markets which constricted liquidity and ability of financial institutions to obtain credit. Without government intervention, the fiscal ramifications were daunting, a possible collapse of our economy.

In order to free up the credit markets, the federal government took several steps; a takeover of Fannie Mac & Freddie Mae providing them with 200 billion dollars, inject hundreds of billions into the credit markets, provide an emergency loan to AIG, move to take over Washington Mutual Bank, push for mergers of other weakened banks and enact a plan to purchase significant amounts of the subprime mortgages. This effort will take time. As more and more of the subprime loans are purchased, market liquidity should improve and our economy.

In 2003, the Bush Administration called for the creation of a new agency within the treasury department that would have sweeping oversight powers over Fannie Mae and Freddie Mac. Senator Chris Dodd (D-Conn.), current Chair of the Senate Banking Committee, Congressman Barney Frank (D-Mass.), Current Chair of the House Banking Committee Barack Obama (D-Illinois) and other congressional democrats opposed the legislation. In 2005, John McCain sponsored the Housing Enterprise Regulatory Act of 2005 (S-190) which would have increased regulation of Fannie Mae & Freddie Mac. The legislation was blocked by democrats. When it was introduced again in 2007, it was again blocked. Chris Dodd was the number one recipient of contributions from Fannie Mae-$165,400 and Barack Obama received $126,349. Both Franklin Raines and Chris Dodd received below market rate mortgage loans from County Wide Financial which has since gone bankrupt.    

Americans have lost millions of dollars in the stock market and in their 401k plans. Public employee pension systems will  require hundreds of millions of dollars in taxpayer funds as they have a defined benefit plan. Many state and local governments will lose tax revenues requiring increased taxes or spending cuts. Thousands of jobs have been lost and more jobs are on the line. More foreclosures may result. The only change we have is what's left in our pockets. The who to blame has been answered.  

 1-Buycks-Roberson v. Citibank Fed. Sav. Bank Fair Housing/Lending/Insurance Docket / Court 94 C 4094 ( N.D. Ill. ) FH-IL-0011).