US Economy

[a_majoor]

Uh oh:

http://pajamasmedia.com/blog/the-2011-tax-tsunami/?singlepage=true

The 2011 Tax Tsunami
What exactly will change should the Bush tax cuts expire?
November 18, 2010 - by Gary Wickert
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The midterm elections are over, and the results can be summed up in one word: change. The Obama agenda has been rejected, as has government-run health care. Also turned back was any effort to fundamentally transform the United States. Americans witnessed a total rejection of fiscal recklessness and sent a clear message to Washington: handle our finances just like everyday Americans handle their own finances. Also big losers on November 2 were big government and the divisive two Americas approach — haves vs. have-nots, rich vs. poor, white vs. black. The American voter reminded the White House and the Democratic Party that we are all Americans.

A gain of more than 60 seats in the House represents the biggest such gain since 1948. Yet the gravest of dangers here is for Republicans to read the election tea leaves as a pat on the back for them. It wasn’t. November 2 was a simple bipartisan message sent by voters along a wide political spectrum: Stop spending and keep government out of our lives. Keep taxes low. Get government out of the way of job creation. Lest we forget, the election of 2008 spanked Republicans for precisely the same misdemeanor: spending money we don’t have. Budgets transcend politics; they either balance or they don’t.

Conservatives now have a daunting task ahead of them, and very few tools with which to accomplish it. With a Democrat-controlled Senate and a lame-duck president in the Oval Office, Republicans are heading to a knife fight wielding a spoon. In less than three months, the largest tax increases in U.S. history will take effect, and most people don’t even realize it. These massive tax increases will take effect on January 1, 2011, and the same folks who can’t understand why spending a trillion dollars on pork-laden government projects, union dole-outs, and ACORN doesn’t create private sector jobs are clueless as to the devastating effect these historic tax increases will have on our economy in 2011. Despite the midterm victories we enjoyed, the tax tsunami is coming.

Instead of freezing government employment, freezing growth in discretionary spending, vetoing every spending bill choked with earmarks, working to regain an effective line-item veto, and extinguishing wasteful government programs, the White House has the veto power and will undoubtedly use it. Our president’s strongly held political religion firmly believes that the new taxes and even more government spending is necessary to fix a $1.4 trillion deficit which the White House itself created and to reduce a national debt which the White House itself worsened.

We’ll undoubtedly be treated to more of the Bush blame game. Forget for a moment that Bush held average unemployment at 5.3%, saw the strongest productivity growth in four decades, and witnessed robust GDP growth. Set aside the fact that he oversaw this growth despite an inherited recession, 9/11, Hurricane Katrina, and wars in Afghanistan and Iraq. Focus instead on the simple fact that the last budget that a Republican Congress had control over had a deficit of approximately $162 billion dollars — a large number to be sure, but not so large that the Democrats and our “progressive” president couldn’t expand it in under two years by nearly a factor of ten. Under the Obama administration and with the Democrats in complete and total control, we have record debt, record deficits, record unemployment, record underemployed, record foreclosures, record bankruptcies, and soon, record tax increases.

Thinking Americans will recall that the Bush tax cuts of 2001 were in response to the recession of 2001 and helped pull the country out of its morass in only eight short months. The cuts now being blamed by our president for our predicament were George Bush’s version of Barack Obama’s stimulus plan, with one important distinction. Instead of creating a handful of temporary government jobs and subsidizing the expansion of unions and government, Bush slashed tax rates, boosted the child tax credit, increased the standard deduction for married couples, and increased contribution caps for a variety of savings programs. Thinking Americans will also recall that it was Democrats who made these tax cuts possible.

On May 26, 2001, Sen. Ben Nelson (D-NE) was one of a dozen Democrats to rally behind President George W. Bush’s Economic Growth and Tax Relief Reconciliation Act of 2001, the tax cut package that underscored the administration’s plans for job growth. It received the support of 58 senators. Without the Democrats who recognized the economic and revenue boost value of the tax cuts, the cuts would not have passed. Two short years later, Bush again cut taxes with the help of some of the same Democrats now trying to blame the cuts for our economic woes. The Jobs and Growth Tax Relief Reconciliation Act of 2003 passed with precisely the 50 votes it needed to become law (Vice President Dick Cheney cast the deciding vote). That too was passed with the help of Democrats.

The cause and effect phenomenon of tax cuts resulting in increased federal tax revenues is difficult to figure out only for those who have never run a business, met a payroll, or read a balance sheet. It was, in fact, one of the most famous Democrats in history who memorialized why this is. In the January 1963 Economic Report of the President, John F. Kennedy set into motion the “Soak-the-Rich Catch-22″ currently frustrating the Obama regime when he said:

    Tax reduction thus sets off a process that can bring gains for everyone, gains won by marshalling resources that would otherwise stand idle — workers without jobs and farm and factory capacity without markets. Yet many taxpayers seemed prepared to deny the nation the fruits of tax reduction because they question the financial soundness of reducing taxes when the federal budget is already in deficit. Let me make clear why, in today’s economy, fiscal prudence and responsibility call for tax reduction even if it temporarily enlarged the federal deficit — why reducing taxes is the best way open to us to increase revenues.

But the Democratic Party long ago stopped being the party of JFK, who today would be somewhere to the right of George W. Bush. Barring a Democratic epiphany, the largest tax hikes in the history of America will soon take effect courtesy of an unpopular president and a Congress with a 14% approval rating. They will hit a listing American economy in three tsunami-like waves beginning on January 1, 2011.

Americans for Tax Reform has summarized the Democrats’ scheduled tax hikes in three separate tidal waves, the first of which will hit shore on January 1, 2011:

    First Wave

    Bush Tax Cuts Expire. Congress didn’t even have the strength of character to stay and vote on extending the Bush tax cuts before running home to protect their professional political careers. These tax cuts all expire on January 1, 2011. Thereafter, the top income tax rate will rise from 35% to 39.6%, the same rate at which two-thirds of small business profits are taxed. The lowest rate will rise from 10% to 15%. All the rates in between will also rise. Somewhere I seem to recall a promise about tax cuts for 95% of “working families.”

    Higher Taxes on Marriage and Family. The “marriage penalty” (narrower tax brackets for married couples) starting with the first dollar of individual income. The child tax credit will be cut in half from $1000 to $500 per child. The standard deduction will no longer be doubled for married couples relative to the single level. The dependent care and adoption tax credits will be cut.

    Death Tax Returns. 2010 is a great year to die; there is no death tax. For those dying on or after January 1, 2011, however, there is a 55% top death tax rate on estates over $1 million. A person leaving behind a home and a 401k could easily pass along a death tax bill to their family.

    Higher tax rates on savers and investors. The capital gains tax will rise from 15% this year to 20% in 2011. The dividends tax will rise from 15% this year to 39.6% in 2011. These rates will rise another 3.8% in 2013.

    The second wave — summarized by Joan Pryde, senior tax editor for the Kiplinger letters — will follow closely on the heels of the first.

    Second Wave

    Obamacare will be the focus of congressional wrangling over the next two years, but it is unlikely to be repealed in that time. There are over 20 huge and completely new taxes contained within the new health care law which was hurried through Congress without being read and passed against the will of the American people. Several will first go into effect on January 1, 2011.

    They include:

    The “Medicine Cabinet Tax.” Under Obamacare, the ability to use pre-tax dollars from health savings accounts, flexible spending accounts, or health reimbursement accounts to purchase non-prescription, over-the-counter medicine will be a thing of the past.

    The “Special Needs” Kids’ Tax. There will be a new cap on flexible spending accounts of $2500 where there currently is no limit. This will hit parents of special needs children particularly hard. Tens of thousands of parents with special needs kids currently use FSAs to pay for their kids’ educations — which can add up to tens of thousands of dollars per year.

    The HAS Withdrawal Tax Hike. The health care bill Nancy Pelosi told us we’d have to pass to see what was in it increases the additional tax on non-medical early withdrawals from a health savings account from 10% to 20%, disadvantaging them relative to IRAs and other tax-advantaged accounts, which remain at 10%.

    The third wave will ensnare an additional 28 million Americans and countless small businesses.

    Third Wave

    The Alternative Minimum Tax and Employer Tax Hikes. The AMT, which was originally intended simply to make sure that wealthy taxpayers didn’t use tax shelters and other tactics to avoid having to pay any taxes at all (a good start for an argument for a flat tax), affected nearly 4 million families last year. Starting in 2011, it will affect over 28 million families. According to the leftist Tax Policy Center, Congress’ ineptitude and failure to index the AMT will result in an explosion of AMT taxpaying families, each of which will have to calculate their tax burdens twice, and pay taxes at the higher level.

    Small Business Expensing Is Slashed and 50% Expensing Disappears. Obama doesn’t understand that small businesses can normally expense (rather than slowly deduct, or “depreciate”) equipment purchases up to $250,000. This will be cut down to $25,000. Larger businesses can expense half of their purchases of equipment. In January of 2011, all of it will have to be “depreciated.” The effect is a huge tax and an additional expense to the businesses which create jobs.

    Tax Benefits for Education and Teaching Slashed. The deduction for tuition and fees will no longer be available. Tax credits for education will be limited and teachers will no longer be able to deduct classroom expenses. Coverdell Education Savings Accounts will be cut, as will employer-provided educational assistance. The student loan interest deduction will be disallowed for hundreds of thousands of families.

    Charitable Contributions From IRAs Disappear. Under current law, an IRA can contribute up to $100,000 per year directly to a charity without penalty. This contribution also counts toward an annual “required minimum distribution.” Not any more, thanks to a compassionate and ultra-liberal Congress.

    The Health Care Tax That Wasn’t. Remember when your president told you straight-faced that when Americans are required to obtain health insurance or pay a penalty it wasn’t a tax? He lied. In defending the Obamacare mandate in court, Obama and his army of lawyers are now defending the requirement as an exercise of the government’s “power to lay and collect taxes.” How’s that hope and change working out for everybody? I thought everybody making less  than $250,000 per year wouldn’t see an increase in their taxes.

The last thing our struggling economy needs is higher punitive taxes. Cutting taxes increases tax revenues — something most Democrats can’t seem to get their minds around. President Ronald Reagan crushed the recession of the early 1980s by strictly adhering to “supply-side economics” and reducing government spending, reducing income and capital gains marginal tax rates, reducing government regulation of the economy, and controlling the money supply to reduce inflation. Our president is doing just the opposite.

Arthur Laffer is a noted economist and the creator of the Laffer Curve — a graph depicting how federal tax income increases as tax rates decrease up to an optimum beyond which income declines. According to Laffer, 2011 will be the economic equivalent of 2012 in the recent movie of the same name. This tsunami of tax increases will devastate American businesses and will likely be followed by every economist’s nightmare, a double-dip recession — a recession followed by a short-lived recovery, followed by another recession. The promised recovery of 2010 will instead feature a return to recession, stripping mainstream economists of any remaining credibility and perhaps making 2011 the worst economy in U.S. history.

According to Laffer, “Tax rate increases next year are everywhere.” Laffer says the coming hikes — coupled with the prospect of rising prices, higher interest rates, and more regulations next year — are causing businesses to shift production and income from 2011 to 2010. In other words, 2010 income will be inflated above where it otherwise should be and 2011 income will be dramatically lower than it otherwise should be. Not surprisingly, the nine states without an income tax are “growing far faster and attracting more people and businesses than are the nine states with the highest income tax rates.”

History bears this out. A 2004 U.S. Treasury report reveals that many taxpayers took wages and bonuses early — to the tune of more than $15 billion — in order to avoid the ill effects of Bill Clinton’s massive 1993 tax increases. At the end of 1993, these same individuals re-shuffled wages and bonuses one more time to avoid the 1994 increase in Medicare taxes.

History also reveals similar behavior after Reagan’s delayed tax cuts — which were passed in 1981 but didn’t become effective until 1983 — caused a massive hiatus in economic growth in 1981 and 1982. The GDP flatlined and the unemployment rate climbed well over 10%. In 1983, when the tax breaks kicked in, the U.S. economy exploded, with real growth reaching 7.5% in 1983 and 5.5% in 1984. We will see exactly the opposite phenomenon in 2011.

Yet it isn’t just the tax increases that will kill jobs and small businesses. A survey from the National Association for the Self-Employed shows that businesses will experience a 1,250% increase in the amount of tax-related paperwork required of them in 2012 — kryptonite for small businesses.

The new conservative majority in the House of Representatives has a task of Herculean proportions staring them in the face. The fallout from the coming tax storm will be a crash in tax receipts of monumental proportions, even higher deficits, and more record unemployment. If you thought the Obama “recovery” of 2010 was bad, just wait until 2011.

Gary Wickert is a board-certified trial lawyer, living in Cedarburg, Wisconsin with his wife and two sons. He has a political column in Reality News and has been an op-ed contributor for Ozaukee County's News Graphic as well as a feature writer for several Wisconsin magazines. He is also the author of several legal treatises on a variety of subjects and currently serves as supervisor in the town of Cedarburg. In 1980, Gary finished second to Mr. T in NBC's nationally-televised "America's Toughest Bouncer" hosted by Bryant Gumbel.

The 2012 elections will probably revolve around taxes and economic growth. Look for reprises of Ronald Reagan's speeches among all the candidates.

 

[a_majoor]

Taxation is not the only issue:

http://www.washingtonpost.com/wp-dyn/content/article/2010/11/18/AR2010111806073.html

Strangling innovation with red tape

By Morris Panner
Friday, November 19, 2010

As a Democrat whose politics are undeniably liberal on social issues, I lamented the outcome of the midterm elections. But as an entrepreneur with two software start-ups under my belt, I couldn't help but celebrate - and more than a little. As the fall campaigns wore on, I had found myself listening closely to the Tea Party, nursing the hope that its message would push both major parties to change the way they do business.

To understand my motivation, pick up the November issue of Washingtonian magazine. The annual Salary Survey notes on Page 81 that top trade association leaders (industry lobbyists) make multimillion-dollar salaries to "keep tabs on what the federal government was doing or might do."

These outsize earnings are symptomatic of a disease that is slowly killing the American economy. We are creating so much regulation - over tax policy, health care, financial activity - that smart people have figured out that they can get rich faster and more easily by manipulating rules on behalf of existing corporations than by creating net new activity and wealth. Gamesmanship pays better than entrepreneurship.


 
It is always hard to start a business. It is especially hard to start an innovative business, one that will foster a new technology or business method. Incumbent players in a market have an inherent advantage: Momentum counts for a lot, and it takes tremendous effort to get customers comfortable with a new product - or even to hear about it in the first place.

Given the difficulty of starting a company from scratch, and how economic activity is generated today, you can start to see why, if you were a rational market actor, you would be trying to get a piece of the government action.

The combined expenditures of federal, state and local government are rapidly taking over our economy. At the beginning of President Obama's term, government spending made up 35 percent of gross domestic product. Now, it is up to almost 45 percent, which puts us seventh among advanced economies.

And the Obama administration's new regulatory initiatives make this considerably worse in subtle ways.

The two largest pieces of legislation enacted in the past two years - health care and financial reform - are very vague. Take the new Consumer Financial Protection Bureau. It has a broad mandate to protect us from financial abuse, but when it comes to the actual implementation, the Brookings Institution wrote that unelected regulators will decide "almost everything" about how the organization works.

This is highly dangerous to innovation, which depends on clear and transparent rules. The more complexity, the more incumbents are favored. They have the capital to participate in complicated regulatory proceedings. They can hire high-priced lobbyists to present facts in a light most favorable to them. The more incumbents are favored, the harder it is for new companies to gain traction.

For a preview of what a complex regulatory process looks like, consider our tax system. The World Bank ranks the United States 62nd in the world in terms of how easy it is to pay taxes - and with a 16,000-page tax code, this is no surprise. In 2009 and 2010, Capital Tax Partners, a leading lobbyist representing Goldman Sachs, Apple and others, earned about $20 million in fees, according to the Center for Responsive Politics.

So, what is to be done?

From an entrepreneur's perspective, we need a national campaign to create transparency in our legislation and a national moratorium on the creation of commissions, regulators and czars. It is time for Congress to do the hard job of saying what lawmakers mean in clear and easy-to-understand language.

It is also fair to hold our leaders to a standard of transparency. We should reject bills that are thousands of pages or that delegate vast authority to unelected regulators.

Entrepreneurs are in an unusual situation. We are staunchly pro-business, believing that new ideas properly implemented can change the world.

Yet we are hardly represented by the business lobbying interests in Washington. Like most Americans, I recoil at the fact that the man who runs the U.S. Chamber of Commerce earns about $3.9 million a year. He doesn't represent me.

The next two years will be a critical time to see whether all the promises of a more transparent America are realized. If not, maybe it is time to create an entrepreneurs party, where wealth and value creation are prized above rule manipulation and influence peddling.

The writer is chief executive of TownFlier, a software company dedicated to improving digital communication and collaboration.

 

[Kirkhill]

And thus the reason for the failure of Obama's attempt to implement FDR's public works strategy (a strategy at least as old as the Pharaohs - beer, bread and a roof in exchange for pyramids to nowhere).

FDR didn't have to contend with his well-meaning successors attempts to create Utopia by instituting Environmental Review Committees.  He just built highways and dams, and clear cut forests, by presidential fiat.  The shovel was always ready.

 

[a_majoor]

For people who think the TEA party movement is frightening, this is even worse:

http://gonzalolira.blogspot.com/2010/10/coming-middle-class-anarchy.html

The Coming Middle-Class Anarchy

Update I, below. Update II, below. Update III: The denouement of Brian and Ilsa’s story can be found here.
 
True story: A retired couple I know, Brian and Ilsa, own a home in the Southwest. It’s a pretty house, right on the manicured golf course of their gated community (they’re crazy about golf).
 
The only problem is, they bought the house near the top of the market in 2005, and now find themselves underwater.
 
They’ve never missed a mortgage payment—Brian and Ilsa are the kind upright, not to say uptight 60-ish white semi-upper-middle-class couple who follow every rule, fill out every form, comply with every norm. In short, they are the backbone of America.
 
Even after the Global Financial Crisis had seriously hurt their retirement nest egg—and therefore their monthly income—and even fully aware that they would probably not live to see their house regain the value it has lost since they bought it, they kept up the mortgage payments. The idea of them strategically defaulting is as absurd as them sprouting wings.
 
When HAMP—the Home Affordable Modification Program—was unveiled, they applied, because they qualified: Every single one of the conditions applied to them, so there was no question that they would be approved—at least in theory.

Applying for HAMP was quite a struggle: Go here, go there, talk to this person, that person, et cetera, et cetera, et cetera. “It’s like they didn’t want us to qualify,” Ilsa told me, as she recounted their mind-numbing travails.
 
It was a months-long struggle—but finally, they were approved for HAMP: Their mortgage period was extended, and the interest rate was lowered. Even though their home was still underwater, and even though they still owed the same principal to their bank, Brian and Ilsa were very happy: Their mortgage payments had gone down by 40%. This was equivalent to about 15% of their retirement income. So of course they were happy.
 
However, three months later, out of the blue, they got a letter from their bank, Wells Fargo: It said that, after further review, Brian and Ilsa had in fact not qualified for HAMP. Therefore, their mortgage would go back to the old rate. Not only that, they now owed the difference for the three months when they had paid the lowered mortgage—and to add insult to injury, they were assessed a “penalty for non-payment”.
 
Brian and Ilsa were furious—a fury which soon turned to dour depression: They tried contacting Wells Fargo, to straighten this out. Of course, they were given the run-around once again.
 
They kept insisting that they qualified—they qualified! But of course, that didn’t help at all—like a football, they were punted around the inner working of the Mortgage Mess, with no answers and no accountability.
 
Finally, exhausted, Brian and Ilsa sat down, looked at the last letter—which had no signature, and no contact name or number—and wondered what to do.
 
On television, the news was talking about “robo-signatures” and “foreclosure mills”, and rank illegalities—illegalities which it seemed everyone was getting away with. To top it off, foreclosures have been suspended by the largest of the banks for 90 days—which to Brian and Ilsa meant that people who weren’t paying their mortgages got to live rent free for another quarter, while they were being squeezed out of a stimulus program that had been designed—tailor made—precisely for them.
 
Brian and Ilsa are salt-of-the-earth people: They put four kids through college, they always paid their taxes. The last time Brian broke the law was in 1998: An illegal U-turn on a suburban street.
 
“We’ve done everything right, we’ve always paid on time, and this program is supposed to help us,” said Brian. “We follow the rules—but people who bought homes they couldn’t afford get to squat in those McMansions rent free. It would have been smarter if we’d been crooks.”
 
Now, up to this point, this is just another sob story of the Mortgage Mess—and as sob stories go, up to this point, it’s no big deal.
 
But here’s where the story gets ominous—here’s where the Jaws soundtrack kicks in:
 
Brian and Ilsa—the nice upper-middle-class retired couple, who always follow the rules, and never ever break the law—who don’t even cheat on their golf scores—even when they’re playing alone (“Because if you cheat at golf, you’re only cheating yourself”)—have decided to give their bank the middle finger.
 
They have essentially said, Fuckit.
 
They haven’t defaulted—not yet. They’re paying the lower mortgage rate. That they’re making payments is because of Brian: He is insisting that they pay something—Ilsa is of the opinion that they should forget about paying the mortgage at all.
 
“We follow the rules, and look where that’s gotten us?” she says, furious and depressed. “Nowhere. They run us around, like lab rats in a cage. This HAMP business was supposed to help us. I bet the bank went along with the program for three months, so that they could tell the government that they had complied—and when the government got off their backs, they turned around and raised the mortgage back up again!”
 
“And charged us a penalty,” Brian chimes in. The non-payment penalty was only $84—but it might as well been $84 million, for all the outrage they feel. “A penalty for non-payment!”
 
Nevertheless, Brian is insisting that they continue paying the mortgage—albeit the lower monthly payment—because he’s still under the atavistic sway of his law-abiding-ness.
 
But Ilsa is quietly, constantly insisting that they stop paying the mortgage altogether: “Everybody else is doing it—so why shouldn’t we?”
 
A terrible sentence, when a law-abiding citizen speaks it: Everybody else is doing it—so why don’t we?
 
I’m like Wayne Gretsky: I don’t concern myself with where the puck has been—I look for where the puck is going to be.
 
Right now, people are having a little hissy-fit over the robo-signing scandal, and the double-booking scandal (where the same mortgage was signed over to two different bonds), and the little fights between junior tranches and senior tranches and the servicer, in the MBS mess.
 
But none of that shit is important.
 
What’s really important is Brian and Ilsa: What’s really important is that law-abiding middle-class citizens are deciding that playing by the rules is nothing but a sucker’s game.
 
Just like the poker player who’s been fleeced by all the other players, and gets one mean attitude once he finally wakes up to the con? I’m betting that more and more of the solid American middle-class will begin saying what Brian and Ilsa said: Fuckit.
 
Fuck the rules. Fuck playing the game the banksters want you to play. Fuck being the good citizen. Fuck filling out every form, fuck paying every tax. Fuck the government, fuck the banks who own them. Fuck the free-loaders, living rent-free while we pay. Fuck the legal process, a game which only works if you’ve got the money to pay for the parasite lawyers. Fuck being a chump. Fuck being a stooge. Fuck trying to do the right thing—what good does that get you? What good is coming your way?
 
Fuckit.
 
When the backbone of a country starts thinking that laws and rules are not worth following, it’s just a hop, skip and a jump to anarchy.
 
TV has given us the illusion that anarchy is people rioting in the streets, smashing car windows and looting every store in sight. But there’s also the polite, quiet, far deadlier anarchy of the core citizenry—the upright citizenry—throwing in the towel and deciding it’s just not worth it anymore.
 
If a big enough proportion of the populace—not even a majority, just a largish chunk—decides that it’s just not worth following the rules anymore, then that society’s days are numbered: Not even a police-state with an armed Marine at every corner with Shoot-to-Kill orders can stop such middle-class anarchy.
 
Brian and Ilsa are such anarchists—grey-haired, well-dressed, golf-loving, well-to-do, exceedingly polite anarchists: But anarchists nevertheless. They are not important, or powerful, or influential: They are average—that’s why they’re so deadly: Their numbers are millions. And they are slowly, painfully coming to the conclusion that it’s just not worth it anymore.
 
Once enough of these J. Crew Anarchists decide they no longer give a fuck, it’s over for America—because they are America.
 
Update I:
 
The Center for Public Integrity has a story, written by Michael Hudson this past August 6, that shines a light on the issue of perverse incentives of the HAMP program. These perverse incentives came to light because of a whistleblower, a former employee of Fannie Mae, filing a lawsuit. Fannie Mae was so keen on being perceived as a money-maker, after the Federal government bailout, that the aid programs passed by the Congress and signed by the President were turned into profit centers.
 
The former executive, Caroline Herron, recounts:
“It appeared that Fannie Mae officers were focused on maximizing incentive payments available to Fannie Mae under various federal programs – even if this meant wasting taxpayer money and delaying the implementation of high-priority Treasury programs,” she claims in the lawsuit. 
Herron alleges that Fannie Mae officials terminated her $200-an-hour consulting work in January because she raised questions about how it was administering the federal government’s push to help homeowners avoid foreclosure, known as the Home Affordable Modification Program, or HAMP.
Herron further alleged that “trial mods” were implemented regardless of eligibility of applicants, so that Fannie Mae would be eligible for Federal government bonuses.
 
Ms. Herron’s testimony in fact proves Ilsa’s suspicion that there was a scam at bottom. As Mr. Hudson writes, “Herron charges that Fannie Mae continued in headlong pursuit of ‘trial mods’ even though it knew that many had little chance of becoming permanent. [. . .] Fannie preferred doing trials, Herron alleges, because it was eligible to receive incentive payments from the Treasury Department.”
 
So in the pursuit of these perverse incentives, people who did not qualify for HAMP were enrolled in the program. And when their “trial mods” were up after 90 days, they would be notified that they didn’t qualify—regardless of whether they in fact did qualify, as in the case of Brian and Ilsa.
 
All so as to be perceived as a profitable operation, worth having been bailed out. All so as to be perceived as “returning America’s money”.
 
As of February, 2010, of the over one million homeowners’ mortgages under HAMP auspices, 83% were “trial mods”. One would assume that those 850,000 homeowners would also be assessed an $84 penalty for non-payment.
 
$84 times over 850,000? You do the math.
 
Update II:
 
This post seems to have struck a nerve—by the number of hits it’s gotten, it’s number 2 on my list of most viewed posts, with a bullet. By the number of comments it’s generated, it’s the undisputed number one.
 
But a lot of the comments seem very negative towards Brian and Ilsa personally, which I’ve found surprising. A lot of the comments seem to say, basically, “They had it coming, for buying at the top of the market.” Or else, they seem to say, “They deserve it, trying to take advantage of the system.”
 
First of all—as I thought I made clear early in the piece—HAMP would not change the principal of Brian and Ilsa’s mortgage: It would only extend their payment period, and refinance the loan with the now-lower interest rate, so as to lower their monthly payments. Brian and Ilsa would still owe more money than their house was worth, but at least they’d be paying less money per month.
 
Second—and an issue I debated quite a bit before publishing the post—I didn’t highlight the fact that, in order to qualify for HAMP, one of the conditions was that one of the homeowners had to have a medical event which had required large out-of-pocket expenses.
 
In the case of Brian and Ilsa, both of them had had such medical expenses: Ilsa for breast cancer, which has since gone into remission, Brian for cardio-vascular problems, which have also been cured, though at great cost.
 
I didn’t highlight these medical issues because I wasn’t trying to write a sob story—I was trying to write a piece describing a middle-class couple who are throwing in the towel.
 
I thought I had made it clear that Brian and Ilsa were not trying to have someone else pay for their misfortunes—they would still own an underwater house. But they would simply be paying for it over a longer period of time, with a slightly lowered mortgage interest rate, and therefore having to pay less out of their monthly income.
 
The vitriol of some of the comments, however, was surprising in its need to find blame with Brian and Ilsa.
 
There were elements of class envy, certainly, but I think for the most part, there was a kind of projection-and-denial going on: If salt-of-the-earth, always-follow-the-rules people are getting screwed with, then maybe the screwing that I’ve been getting as of late isn’t normal either—and maybe I should be fighting back, instead of accepting my lot.
 
By claiming that Brian and Ilsa “had it coming, and should accept their fate”, maybe those commentators are trying to explain away—to themselves most of all—why they have been screwed with, yet are doing nothing about it.
 
Just a thought.

 

[tomahawk6]

The Tea Party isnt anything to fear."The people should never fear their government, the government should fear its people".
If anyone ever bothered to read the history of how the Bolsheviks and Nazi's came to power we see them today in the US.

“Make the lie big, make it simple, keep saying it, and eventually they will believe it”

Adolf Hitler

 

[jhk87]

And......Godwin!

 

[Kirkhill]

I'm pretty sure that McCarthy trumps Hitler thereby nullifying Godwin.

Back to your corners gentlemen and lets keep it a nice clean fight.

 

[a_majoor]

More regulatory failure, and the root causes:

http://pajamasmedia.com/ronradosh/2010/11/30/how-obamacare-and-an-old-red-union-betrayed-its-poorest-workers/?singlepage=true

How ObamaCare and an Old Red Union Betrayed Its Poorest Workers
November 30, 2010 - by Ron Radosh
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ObamaCare’s unintended consequences continue to grow. A little over a week ago, in a Wall Street Journal article written by reporter Yuliya Chernova, readers learned that “one of the largest union-administered health-insurance funds in New York is dropping coverage for the children of more than 30,000 low-wage home attendants.” Why did this happen? The union and its health fund, that of local 1199SEIU United Healthcare Workers East, an affiliate of the SEIU (Service Employees International Union), “blamed financial problems it said were caused by the state’s health department and new national health-insurance requirements.” (my emphasis)

That last line refers, of course, to the new requirements mandated by the Obama health care law that would, among other things, supposedly guarantee health care for all uninsured children. Now, the SEIU affiliate told its members last month “that their dependents will no longer be covered as of Jan. 1, 2011.” That means 6000 children of the poorest workers covered by this SEIU local will lose their current coverage, which they previously enjoyed as part of the union’s health benefits for its members.

The union’s health provider, a firm called Fidelis Care, would no longer cover employees, since the union had what its officers called a “dramatic shortfall” between employee contributions to the fund and premiums charged by Fidelis Care. The union had pooled contributions from several home-care agencies and then bought insurance from Fidelis.  As union officials explained to its members, the “new federal health-care reform legislation requires plans with dependent coverage to expand that coverage up to age 26,” and that meant the union’s “limited resources” that were evidently already stretched “as far as possible” would now require extended benefits that “would be financially impossible.”

To put the double-speak more plainly, ObamaCare made health care impossible to provide for its members — the poor and the working-class that supposedly the new ObamaCare was meant to benefit. The reality, Mitra Behroozie, executive director of the union’s benefit and pension funds, explained, was that the union fund already faced a $15 million shortfall in 2011 that would only grow larger if workers’ children were to be covered.

Because of ObamaCare, New York State now required the fund to participate in what is called the Family Health Plus Buy-In Program, which since 2008 was supposed to give the poor state assistance to buy health care coverage. But instead, as Behroozie put it, “they raised insurance rate increases without any increase in funding, and then cut Medicaid funding to the same workers nine times in the last three years.”  The State of New York, however, replied that it did not force 1199 to buy into any plan, and that the union’s actions had been its own choice.

Part of the problem, the Fidelis head explained, is that the covered workers who will no longer have insurance for their dependents are home health-care workers and attendants, who get sicker than most people because of where they work. In other words, the insurer loses when he gives these people health care premiums, which is why they raised their rates by 60%! Yet employer contributions remained constant, so the benefit fund responded by cutting the roles of eligible members. So while the big unions like the UAW get special deals to exempt them from new rules that hurt their relatively well–off union members, the ones that lose are the hardest working and lowest paid health-care attendants, whose rates go up and whose children now lose any health insurance.

As we all know, this union, an SEIU affiliate, was among the largest to fight during the election for the agenda of the Obama administration, and in particular, to support the new health care legislation.

There is also another ironic component that has not been noticed, and hence, I am bringing this to the attention of PJM readers. The local whose members are now suffering is the descendant of the most well-known Communist-led union in the New York City area — the original Local 1199 of the Drug, Hospital and Health Care Employees, originally created as a small drugstore workers’ union by the Red labor leader Leon Davis decades ago.

Writing in the New York Times Book Review on September 24, 1989, political reporter Joe Klein (now of Time magazine), called its members “the humblest of all laborers, the bed-pan carriers, the bottle washers and laundrymen” who were “overwhelmingly black and Hispanic.” Of course, they still are in our present times. Hence back in the heyday of the civil rights movement of the 1960s, they took to the streets in a series of dramatic strikes that led to organizing success and major press coverage. Klein comments about them:

“But there was a more subtle romance at work here as well: the organizing of the hospital workers was the last dance for the generation of… tough-guy labor organizers-many of them Communists-who had helped create the C.I.O. in the 1930’s and were then purged when the Cold War began.”

Klein notes accurately that its first professional organizers, Leon Davis, Elliott Godoff and Moe Foner, were among those who survived what they called a “witch-hunt”  by, as Klein puts it, “hiding out in a small ‘progressive’ pharmacists’ local, and who represented the most benign face of a malignant ideology.” The top man, Davis, Klein notes, was fortunate to stage these strikes at a moment in New York City’s past when “the state was flush and willing to pay for the contracts he won.” Strikes would be called, hospitals would say they faced chaos and closure if demands were not met, and the state treasury would step in with cash to cover the new high bills.

Now, so many years later, New York State is even in worse shape than it was in the 1970s, when the arrangement first began to fall apart. As for the union, which then faced a major split between its original Marxist-Leninist leaders and a new group of black nationalists, Klein notes:

“Mr.Davis had constructed the union in a classic Marxist-Leninist fashion, with a strong central ‘politburo’ and a weak assembly of union delegates. He handpicked his successor, …whom he groomed for many years and expected to control after formally relinquishing his title.”

As so often happened, things did not work as the union’s top old commissar hoped. The new leader had different plans, and she moved quickly to purge the old Reds out of the leadership, and the rest of that group’s supporters. As time passed, that leader would also be replaced. One thing remained constant .. the SEIU was still on the left fringe of the union movement, and remained so as part of outgoing head Andy Stern’s SEIU, which eventually took it over. As Klein concludes his review of a book about the union, “The story of 1199 remains a metaphor…for the sad journey of American Communism, a twisted paternalism that ultimately lacked sufficient faith in the workers it sought to serve.”

So add my own conclusion to Joe Klein’s old one: Andy Stern’s SEIU, the well-known ACORN partner and most radical of the public sector trade union movement, still knows how to work for a supposedly beneficial universal health care program, which in reality means worse health care for the many and great health care for the wealthy, who can opt out of the system and buy whatever medical care they need at the highest fees possible. Promising health care for all and especially the poor, its own union moves to hurt its own poorest members, blaming the development on the very health care program they worked for and supported, and that has led health insurance premiums to skyrocket.

It is indeed another travesty in the sad journey of American radical trade unionism, brought up to date for the 21st century.

Poor working people with few resources might be forced out of the labour market in order to get some sort of coverage, or various other work arounds might be attempted as the market works to match supply to demand. Black markets and the underground economy are examples of markets achieving equilibrium by exiting the control of the State. The undesirable consequences of underground economies are really part and parcel of relinquishing the State in order to meet your demand [or supply an unmet demand if you are on that side of the market]. No State also means property rights, rule of law and neutral arbitration of disputes are no longer available as well.

 

[Nemo888]

American house prices are falling again.
http://www.economist.com/blogs/dailychart/2010/12/house_prices?fsrc=scn/fb/wl/dc/doubledip

 

[a_majoor]

Attempts to keep the housing bubble have failed (the invisible hand has wrestled the grasping hand of government to the ground), several sources seem to agree the US housing market is overpriced by @ 20%.

Once again, we have a choice; short sharp shock as the market is allowed to clear non performing assets, or (best case) a lost decade as the financial system has to drag these non performing assets around. I suspect the debt crisis and unfunded liability crisis will force everyone's hands; when people and governments start dumping real estate assets in a desperate attempt to raise cash, the market will rapidly reach equiibrium.

 

[jhk87]

Perhaps when the US economy stops being bloated and distorted by truly idiotic levels of military spending (often used as a form of transfer payments,) the competitive spirit will return once again.

 

[Edward Campbell]

Perhaps when the US economy stops being bloated and distorted by truly idiotic levels of military spending (often used as a form of transfer payments,) the competitive spirit will return once again.

A very valid point, and it (chopping some expenditures) is one of the things Secretary of Defence Robert Gates has been trying to do for years (including during the Bush administration) but too many useless, wasteful, indeed harmful programmes have too much political support. It is an system of alliances of some admirals and generals and some legislators and some industry leaders that support (or oppose) some projects. Eisenhower was, indeed, prescient: there is a "military industrial complex" and its influence, based on applied self interest, is massive.

My guess is that, eventually, but probably later rather than sooner, DoD will pay it's share of the costs of economic sanity.

 

[a_majoor]

We had better start preparing:

http://biggovernment.com/prahe/2010/12/10/economic-storm-clouds-on-the-horizon/

Economic Storm Clouds on the Horizon
by Paul A. Rahe

The experts charged with determining when recessions begin and end tell us that the latest of these unpleasant events ended a while ago. Technically, they are no doubt right. But that does not mean that the economic crisis we have been facing is over. I suspect that we have thus far only seen its first act. The drama to come may be far, far worse. To see why, one must recognize that economic downturns come in two different forms.

The economists who study recessions tend to think about them in turns of the business cycle – and rightly so, for in most cases it is the business cycle that produces the downturn. In the course of such a cycle, boom builds upon boom and bust upon bust. It is a bit like a game of crack the whip. Downturns occasioned by the business cycle are caused by overproduction. When businesses have more stock than they can sell, they stop producing and lay off workers. The workers laid off and no longer getting paychecks cut back on their consumption, and this in turn reduces the demand for goods and services and causes other businesses, which find their products and services no longer as much in demand, to curtail their efforts and lay off another set of workers. And so the recession grows, building on itself, until some businesses find that they have underproduced or underprovided for the services in demand. Then, the same process takes place in reverse with stepped-up production and a stepped-up provision of services requiring stepped-up employment, which occasions more consumption requiring another round of stepped-up production and provision of services and a further increase in employment and so forth – until production and provision once more overshoot demand. In the absence of perfect knowledge, human beings living in commercial societies are fated to suffer from an oscillation of this sort – between boom and bust.

When Barack Obama became President, his economic advisors appear to have been on automatic pilot and to have taken it for granted that this was the sort of recession that they were up against. And so they opted for a remedy that – if applied in the proper fashion, at the proper time, and  in the proper amount – might serve to hasten an economy’s recovery from a recession occasioned by the business cycle. That is, they sought to prime the pump – to increase consumption by artificial means, to borrow money from the future, put it in the pockets of certain citizens, and hope that they would spend it right away and thereby put others back to work.

Such was, at least, their pretense. In practice, of course, the so-called “stimulus bill” was a targeted measure – a massive pay-off designed to reward the public-sector employees and unionized workers involved in infrastructure construction who make up core constituencies within the Democratic Party and to do so at the expense of those whose taxes the Democrats intended in the future to raise. Obama’s advisors did not worry much about the manner in which the “stimulus” was to be applied, its timing, and amount, however. For they took it for granted that the expenditures would do no immediate damage to anyone and that the economy would bounce back quickly in any case, as it always does when the downturn is caused solely (or at least primarily) by the business cycle.

But, of course, this did not happen. The economy did not bounce back. On 10 January 2009, Christina Romer – Chairman of President Obama’s Council of Economic Advisors – predicted that, if the so-called “stimulus bill” were passed, it would save 3.5 million jobs, that unemployment would stay below 8%, and that joblessness would quickly decline from that level. In the twenty-three months that have passed since Romer made this prediction, we have lost something like 3.5 million jobs, unemployment has climbed to about 10%, and it has not appreciably declined from that level. The chart posted below, which first appeared on Business Insider and on Calculated Risk, illustrates nicely the difference between the ordinary course of a recession and the course taken by our most recent downturn.

The only defect of this chart is that it fails to capture the full level of distress. To the 15.1 million Americans seeking employment (the basis for putting it at 9.8%), one has to add, as Irving Stelzer recently pointed out, the 2.1 million who have given up looking for work and the 9 million who have been kept on but only part-time. What the chart does show, however, is that we are not experiencing an ordinary downturn.

There is, as it happens, another type of recession not rooted so firmly in the business cycle, which you might call it a fiscal recession. The last one we experienced in the United States began in 1929, and it was a doozy. Fiscal recessions are a function of the level of indebtedness. The one in 1929 was preceded by an extended period in which the Federal Reserve Board, supported by the Secretary of the Treasury, followed an easy-money policy. Interest was low; money was lent to all and sundry on easy terms; home-buyers and consumers took out loans they could not manage; and investors with borrowed money took great risks in attempts to make a quick buck. Bubbles appeared; and when the stock market finally crashed and the unemployment rate went up, the number of bankruptcies was legion. Those able to manage their debts concentrated on paying them down; and, for a good long time thereafter, Americans were very, very reluctant to take on debt.

This is not the whole story, to be sure. After the crash in 1929, the Federal Reserve Board kept interest rates high; Herbert Hoover and the Republican Congress increased taxes and tariffs; and Franklin Delano Roosevelt and the Democrats compounded thereafter the damage that their predecessors had done by sustaining their policies and by raising taxes further. In all other respects, however, the current downturn is more like the Great Depression than it is like any recession subsequent to World War II.

One other qualification deserves mention. No recession is ever purely fiscal, and even in recessions produced by the business cycle, those who have taken on excessive debt or who have lent foolishly go bankrupt. I have been speaking in terms of ideal types. What one needs to focus on right now, however, is the fact that policies which might help to turn around an economy suffering a downturn rooted primarily in the business cycle will backfire if that downturn is chiefly caused by an excess of indebtedness – which is precisely what is happening right now.

Between them, Alan Greenspan and his successor Ben Bernanke – with the support of two Presidents from different parties and a series of Secretaries of the Treasury appointed by both Presidents – ran an easy-money policy for something like two decades. In the process, home-owners, consumers, investors, states, and municipalities ran up massive debts that they had little hope of paying off.  Under George W. Bush, the federal government did so, on a lesser scale, as well; and then, under Barack Obama, the federal government did so on a scale unprecedented in peacetime.

We have now been left holding the bag. Something like 2.1 million houses are in foreclosure. States like Illinois, New York, and California are insolvent. And the powers that be have colluded in delaying the day of reckoning. The banks have not yet fully recognized their losses; the real estate market has not cleared; and nothing has been done to balance the budgets of some of our largest and most important states. In the meantime, Barack Obama and his party have lead the federal government into what economists call a fiscal trap.

In the next couple of years, the banks will have to face the music, and those houses will be dumped on the market – which will drive housing values down further and encourage those who find that they owe more than their houses are worth to join the millions who have stopped paying their mortgages and, in effect, abandon ship.

In the next couple of years, as Walter Dean Burnham has recently argued, Illinois, New York, and California are going to have to declare bankruptcy, give their bondholders a haircut, cut salaries and benefits, and let go a great many public-sector workers.

Moreover, in the near future, as Lawrence Lindsey has recently pointed out, interests rates are going to rise, and the federal government is going to find the cost of servicing its debt harder and harder to sustain.

These are separate matters,  but the odds are good that the second housing crash, the recognition of state insolvency, and the fiscal crisis of the federal government will coincide. To date, everything that the Obama administration has done has served only to delay the arrival of our day of reckoning and deepen the fiscal crisis on the horizon. If the unemployment rate is not coming down, it is because employers see through the charade and are intent on not getting caught short when the entire structure comes tumbling down.

The next few years are going to be grim, and those in charge do not inspire confidence. Would you entrust your welfare to Jerry Brown, Andrew Cuomo, Pat Quinn, and Barack Obama? We have to hope, however, that these men wake up, swallow their preconceptions, and without delay move decisively in the direction of balancing the budgets of California, New York, Illinois, and the United States.

I myself very much doubt that they will do so. Unless these men – our President above all – demonstrate qualities that they have never before evidenced, we are in for a truly terrible ride. There is only one silver lining; and welcome though it might be in ordinary circumstances, it is hardly worth the cost. Politically, this means that Barack Obama is likely to be remembered for having done to the Democratic Party what Herbert Hoover did to the Republicans.

 

[a_majoor]

US economy by the numbers:

http://www.americanthinker.com/2010/12/the_economic_legacy_of_the_fou.html

The Economic Legacy of the Four-Year Democratic Congress (American Thinker)

By Yossi Gestetner
From early 2007 through the end of 2010, the Democrats had strong Majorities in -- and control of -- the US House of Representatives and also the U.S. Senate. Both are chambers where laws and policies that affect the economy are created and shaped.

The following table shows how the Democrat Congress performed on average during its four year tenure, vs. the average of the previous four years, 2003 through the end of 2006, when Republican were at the helm:

Issue/Topic

Democrats

Republicans

Jobs by Year - Average

-1,583,000

+1,672,000

Jobs by Month - Average

-131,916

+139,333

Unemployment Rate - Average

7.48%

5.3%

Budget Deficits - Avrage

$1.143 Trillion

$285 Billion

Dow (DJIA)

0.13% (0.53 Total)

11.04%

S & P 500

1.29%

15.02%

FDIC Bank Closures - Average

79.2

1.75

Following are the numbers in more detail (2010 statistics will need to be adjusted with the close of December. However, the general picture won't change much anyway.):

Non-farm Payroll by Year:

2003 = 87,000;

2004 = 2,047,000

2005 = 2,496,000

2006 = 2,060,000.                  Four Year Total Republicans: 6,690,000 Jobs GAINED.

2007 = 1,078,000

2008 = 3,623,000 Minus

2009 = 4,740,000 Minus

2010 = 951,000                      Four Year Total Democrats: 6,334,000 Jobs LOST!

Take note that the 2009 Stimulus "Could have been worse" year, was indeed worse than the previous year, by 1.1 million more jobs lost.

****

Unemployment Rate by Yearly Average (calculated by dividing in twelve the total monthly Unemployment Rate):

2003  5.99;

2004  5.54;

2005  5.08;

2006  4.61;

2007  4.61;

2008  6.37;

2009  9.28;

2010  9.66

****

Budget Deficits (The Fiscal Years starts three months into the previous colander year, such as FY 2007 was drawn up during 2006 with a Republican Congress). Numbers are in Billions except when indicated otherwise.

FY 2004 = $412

FY 2005 = $318.7

FY 2006 = $247.7

FY 2007 = $162                      Total Added Republican Budget Deficits: $1.140 Trillion.

FY 2008 = $454

FY 2009 = $1.416 Trillion

FY 2010 = $1.294 Trillion

FY 2011 = $1.41 Projected by the White House, July 2010

Total Added Democrats Budget Deficits: $4.574 Trillion!

NOTE: If I hear a Republican say one more time that "we lost our way" on spending, I'll be tempted to jump ff the Tappan Zee Bridge in NY. I'll take a Republican Congress for the next 100 years, four times faster than a Democrat Congress.

                                                      ****

Dow Jones Industrial Average Annual Returns

2003 = 25.32%

2004 = 3.15%

2005 = 0.61% Minus

2006 = 16.29%                                    Total Four Year DJIA Republican Growth: 44.15%

2007 = 6.43%

2008 = 33.84% Minus

2009 = 18.82%

2010 = 9.12% as of the Close Friday 10/3/10.          Total Four Year DJIA Dem Growth: 0.53%

                                                  ****

S&P 500 Index Annual Returns

2003 = 28.72%

2004 = 10.82%

2005 = 4.79%

2006 = 15.74%                                    Total Four Year Republican S&P Growth: 60.07%

2007 = 5.46%

2008 = 37.22%  Minus

2009 = 27.11%

2010 = 9.81% as of the Close Friday December 3, 2010.      Total Four Year Democrat S&P Growth: 5.16%

                                                  ****

FDIC Banks Closures as reported by the FDIC

2003 = 03

2004 = 04

2005 = No Bank Failures

2006 = No Banks Failures                    Total in Four Republican Years: Seven.

2007 = 03

2008 = 25

2009 = 140

2010 = 149 and counting                    Total in Four Democrat Years: 317!

The author can be reached via email yossi@yossigestetner.com

Page Printed from: http://www.americanthinker.com/2010/12/the_economic_legacy_of_the_fou.html at December 09, 2010 - 07:59:20 AM CST

 

[Nemo888]

Labour market efficiencies and globalization have worked their magic. Many years ago I went to community college and took a job from a guy in Dallas on graduation. I felt lucky to get such a good job. Then two years later a very good engineer from one of India's most prestigious universities took my job after I trained him. I worked for less than the dude in Dallas. The much brighter and better educated engineer from India thought the 24,000$ USD salary he was receiving was excellent. That's when I joined the Army. At least that could not be outsourced. (Blackwater and Armour Group, lol. I was wrong about that too.)

I see one way of getting America working again. Real unemployment is hitting 22%. Devalue the dollar by massive quantitative easing  or whatever method is the least obvious. When the 46K US$ salary declines in value to that of the 1 million Rupee salary of the Indian engineer(24K USD currently) the jobs will inevitably come back.  When we return to the global labour rate we will be competitive again.  This is what globalization was supposed to do. Level the playing field.

 

[a_majoor]

Worth readng: http://mercatus.org/sites/default/files/publication/Truth%20and%20Consequences.Polski.Nutter.12.20.10.pdf

 

[a_majoor]

The fact that the economic recession was caused by regulatory failure isn't a surprise to anyone who pays attention, but here are the various factors laid out in one place (lots of diagrams at the link):

http://www.american.com/archive/2010/december/how-government-failure-caused-the-great-recession

How Government Failure Caused the Great Recession
By Mark J. Perry and Robert Dell
Wednesday, December 22, 2010
Filed under: Government & Politics, Economic Policy

The interaction of six government policies explains the timing, severity, and global impact of the financial crisis.

Today we see how utterly mistaken was the Milton Friedman notion that a market system can regulate itself. We see how silly the Ronald Reagan slogan was that government is the problem, not the solution . . . I wish Friedman were still alive so he could witness how his extremism led to the defeat of his own ideas.

— Economist Paul Samuelson (January 2009)

The people on Wall Street still don't get it. They're still puzzled—why is it that people are mad at the banks? Well, let's see. You know, you guys are drawing down 10, 20 million dollar bonuses after America went through the worst economic year that it's gone through in decades, and you guys caused the problem.

— President Barack Obama (December 2009)

The banking crisis that began in August 2007 shocked markets and precipitated the Great Recession. To fully explain the banking crisis, one must account for its timing, severity, and global impact. One must also confront a startling historical contrast. If we define “banking crisis” to mean bank failures and system losses exceeding 1 percent of a country’s gross domestic product (GDP), we find that in the period 1875-1913, a period of marked expansion in international trade and capital flows comparable to the last three decades, there were only four banking crises worldwide.1 By contrast, in the period 1978-2009, a period of much more extensive bank regulation, central bank intervention, government protection of depositors and other bank creditors, and government control of mortgage markets, about 140 banking crises occurred worldwide. Of these, 20 were more severe than any crisis from the earlier period of 1875-1913, in terms of total bank losses as a percent of GDP.

Leading financial economists such as Charles Calomiris have argued that a necessary condition for a banking crisis is government policy that distorts the micro-incentives of banks. Likewise, University of Chicago scholar Richard Posner has argued the banks that got into trouble during the recent crisis were simply taking “risks that seemed appropriate in the environment in which they found themselves.”2

In the period 1978-2009, about 140 banking crises occurred worldwide.
But then why didn’t a banking crisis erupt sooner—say, in the recession years of 1990-1991 or 2001-2002? What changed in recent years that led to business risk-taking capable of wrecking the U.S. housing market and the U.S. banking system and other banking systems throughout the world? Further, why were prudent credit practices reasonably maintained in credit card and commercial mortgage securitization in recent years, but wholly abandoned in residential mortgage securitization?

Some economists have criticized securitization as an inherently flawed business model, particularly since the process of securitization involves a “long chain” of players with “information asymmetries.” The buyer of the mortgage or security typically knows less than the seller. But many of the financial institutions involved in subprime securitization (e.g., Citigroup) held portions of their own securitizations, and they have for decades been securitizing credit card loans without major debacles. Calomiris has observed that even during the subprime boom, banks aggregating credit card loans for securitization and investors in securitizations closely examined the identity of originators, their historical performance, the composition of portfolios, and changes in composition over time.3

In contrast, from 2003 until the middle of 2007, the demand for subprime loans and securities proved extremely insensitive to changes in borrower quality and loan structure. There was dramatic new entry into subprime mortgage origination in 2004-2006 as many “fly-by-night” originators offered newer, riskier mortgage products to new customers and homeowners. Yet these new entrants were able to raise funds for origination on terms comparable to those governing originators with longer track records and who were continuing to originate more proven, lower-risk products.

Likewise, since the early 1990s, commercial property mortgages have been securitized just like home mortgages. Throughout most of the residential housing boom from 2000-2006, there was also a boom in commercial real estate values (see chart below). The two real estate bubbles are not directly comparable, because the residential housing downturn was associated with immediate erosion in property market fundamentals and spikes in mortgage default rates. In contrast, the initial decline in commercial property values—which occurred some 18 months after the housing peak—was mostly due to increased risk aversion in the capital markets. Commercial property fundamentals stayed strong in most markets and commercial mortgage default rates remained at historic lows until well after the onset of the recession. The housing bust, the banking crisis, and the recession brought down commercial real estate—not the other way around.



Yet from 2002-2007, the intensely competitive commercial mortgage-backed securities (CMBS) business became dysfunctional at times and lenders frequently complained of “too much money chasing too few good deals.” Declining long-term Treasury rates and falling debt and equity risk premia during this period drove up commercial property values, which in turn led to commercial properties being more highly leveraged (as measured by loan amount per square foot or loan amount to original cost). Yet despite some erosion in commercial mortgage underwriting (e.g., the percent of interest-only CMBS loans increased from 6 percent in 2002 to 59 percent in 20074), lender due diligence remained high and disciplined. Also, the 80 percent loan-to-appraised value and 1.20 property cash-flow-to-debt-service ratio, both long-established industry standards, were rarely violated.

In answer to the questions posed above about what specific factors explain the: causes and timing of the banking crisis and the extraordinary departure from historically sound underwriting and securitization standards for residential mortgages, we identify a potent mix of six major government policies that together rewarded short-sighted collective risk-taking and penalized long-term business leadership:

1. Bank misregulation, in particular the international Basel capital rules, including a U.S. adaptation to them—the 2001 Recourse Rule—and the outsourcing of risk assessment by regulators to government-sanctioned rating agencies incentivized (not merely “allowed”) the creation and highly-leveraged systemic accumulation of the highest yielding AAA- and AA-rated securities among banks globally. The demand for these securities was met mainly through the increased securitization of U.S. subprime and Alt-A mortgages, an artificially large portion of which carried credit ratings of AAA or AA. The charts below display the typical tranche shares for subprime and Alt-A mortgage-backed securities (MBSs) in 2006, and show that 85.9 percent of subprime MBS tranches, and 95.3 percent of Alt-A tranches, were rated either AAA or AA.





2. Continually increasing leverage—driven largely by Fannie Mae and Freddie Mac credit policies and the political obsession with taking credit for increased homeownership—into the U.S. mortgage system. Reduced down payments and loosened underwriting standards were a matter of government policy throughout the housing boom. The two nearby charts illustrate the leverage trends from 2001 to 2007—residential mortgage debt as a share of GDP rose from less than 50 percent in 2001 to almost 75 percent by 2007 (top chart); and the percent of residential real estate sales volume with loan-to-value ratios of 97 percent or higher (down payments of 3 percent or less) increased from about 10 percent in 2001 to almost 40 percent by 2007 (bottom chart). Taken together, these graphs show that housing leverage was increasing to historically unprecedented levels by 2007 at the same time that the quality of housing debt was deteriorating considerably due to an erosion of sound underwriting standards and lower down payments, as discussed above.

Creditors with the lowest cost of capital generally drive underwriting and leverage standards within the segment in which they compete. In the residential mortgage market, with government entities historically being the low-cost providers of capital and the dominant purchasers and guarantors of loans and securities, it is reasonable to hold government accountable for system-wide leverage.





Economist Eugene White has noted that the U.S. housing boom and bust in the 1920s was similar in magnitude to the recent one.5 With essentially no government intervention in the mortgage market in the 1920s, system-wide leverage expanded during the boom, but generally only up to the 80 percent loan-to-value level. Also, there were no special incentives provided to the banking sector for a concentrated build-up of balance sheet exposure to high-risk mortgages. Therefore, when real estate prices crashed in 1926, it was not enough to cause a banking crisis and, in fact, bank suspensions nationally were lower in 1927 and 1928 than in 1926. Further, bank losses in the late 1920s were concentrated in agricultural areas unaffected by the boom in residential real estate.

3. The enlargement of the riskier subprime and Alt-A mortgage markets by Fannie and Freddie through the abandonment of proven credit standards (e.g., dropping proof of income requirements) during the 2004-2007 period, and their combined accumulation of a $1.6 trillion portfolio of these loans to meet the affordable housing goals Congress mandated. As of mid-2008, government entities had purchased, guaranteed, or compelled the origination of 19 million of the 27 million total U.S. subprime and Alt-A mortgages outstanding.6

4. The FDIC, Federal Reserve, Treasury Department, and Congress undertook explicit or implicit creditor bailouts for large financial institutions starting in the 1980s (First Pennsylvania, Continental Illinois, the thrift industry, the Farm Credit System, etc.) and continuing to 2008 (Bear Stearns). These regulatory decisions led to an absence of creditor discipline of financial institution leverage and risk-taking (especially at Fannie and Freddie) and the “too big to fail” expectation of a government bailout.

Why didn’t a banking crisis erupt sooner, say in the recession years of 1990-1991 or 2001-2002?
Creditors—not shareholders—normally control business risk-taking. They do this by: 1) reducing leverage; 2) demanding higher interest rates; 3) declining to finance risky projects; 4) requiring more collateral; 5) imposing restrictive terms and loan covenants; and 6) moving deposits to safer alternatives (in the case of bank depositors, who are creditors of banks). Without excessive government protection of creditors, there is little doubt we would have seen creditors act to reduce risk in the U.S. financial system, particularly with respect to Fannie and Freddie.

5. The increase in FDIC deposit insurance from $40,000 to $100,000 per account in 1980 combined with the unchecked expansion of coverage up to $50 million under the Certificate of Deposit Account Registry Service beginning in 2003. These regulatory errors of commission and omission reduced the incentives of business, institutional, and high net-worth depositors to monitor and discipline excessive bank leverage and risk-taking. When federal deposit insurance legislation was first enacted in 1933, policy makers understood that it contributed to moral hazard, tempting bankers to take short-sighted risks. Accordingly, the initial coverage was limited to $2,500 per account (about $42,000 in today’s dollars), resulting in a large portion of bank liabilities without a government guarantee. Today, virtually no depositor has any “skin in the game” and, according to one estimate (Walter and Weinberg 20027), more than 60 percent of all U.S. financial institution liabilities, including all those of the 21 largest bank holding companies, were either explicitly or implicitly guaranteed. There were therefore almost no incentives in recent years to monitor the excessive risk-taking by banks that contributed to the housing bubble and financial crisis.

6. Artificially low and sometimes negative real federal funds rates from 2001 to 2005—a result of expansionary Fed monetary policy—fueled the subprime and Alt-A mortgage boom and widened the asset-liability maturity gap for banks (see chart below). Most subprime and Alt-A mortgages carried low initial rates made possible by low federal funds rates, which spurred borrower demand for these mortgages. In the context of federal funds rates falling faster than long-term rates in the 2002-2005 period, low federal funds rates —widened the duration gap inherent in borrowing short and lending long, making the rollover or refinancing of short-term instruments all the more precarious when the value and liquidity of the subprime and Alt-A mortgage securities this paper was financing became doubtful and the wholesale funding markets started to deleverage. In particular, many large investment banks reached for more firm leverage during the housing bubble and roughly doubled the proportion of total assets financed by overnight repos.



Underlying all these six government policies is the underappreciated problem of government failure, a problem rooted in the absence of incentives to reconcile a policy’s social costs and benefits with the costs and benefits to the policy makers. Therefore, the banking crisis should be understood more fundamentally as a government failure than as a market or business failure.

Government failure does not explain every aspect of the banking crisis and ensuing recession. It does not explain, for instance, why JPMorgan Chase, operating under the same regulatory regime and economic incentives as Citigroup, largely exited the residential MBS business as Citigroup and other large banks were ramping up. The crisis certainly could not have occurred without certain private firms (e.g., Citigroup, UBS, Merrill Lynch) engaging in excessive corporate short-termism (or perhaps “greed”) along the same lines as Fannie and Freddie. But greed is a timeless and universal component of human nature, and it influences the public sphere at least as much as the private sector. As such, greed has little relevance in explaining the timing and crucial facts of the recent crisis—such as why credit standards and due diligence practices in housing finance deteriorated so much more dramatically than in any other credit segment. The argument we advance is that the interaction of these six government policies explains timing, severity, global impact, and other important features of the banking crisis better than any faulty business practices unrelated to the perverse incentive effects of these government policies.

What is remarkable is that policy experts and politicians sympathetic to the views Paul Samuelson and President Obama have expressed—those who would have us believe that a combination of market defects, business greed, and under-regulation provide the better fundamental understanding of the crisis—rarely, if ever, argue along that line. They call our attention to business deficiencies such as “predatory lending” and incentive-based compensation practices based strictly upon annual performance. They are right to do so. But they do not provide a direct counter argument to the one we make. They do not tell us why the crisis reflects a failure of unfettered capitalism more fundamentally than a failure of government policies.

Why were prudent credit practices reasonably maintained in credit card and commercial mortgage securitization in recent years, but wholly abandoned in residential mortgage securitization?
For example, in his book Freefall, Joseph Stiglitz tells us that “blame for the crisis must lie centrally with the financial markets” and that “the financial crisis showed that financial markets do not automatically work well, and that markets are not self-correcting.”8 Yet nowhere in the book’s 361 pages does Stiglitz directly counter our argument analytically—only rhetorically and briefly, at that. In fact, while Stiglitz points fingers in every direction, what he seems to find most culpable is the cronyism inherent in the government’s “too big to fail” bailout policies, which he refers to as “ersatz capitalism.” The net effect of the Stiglitz book is to support our argument.

This issue—the relative contribution of government policies versus independent financial market practices to the financial crisis—is all-important. It is the “elephant in the room” of every current and future discussion of financial reform and the role of government in the economy generally.

A more accurate interpretation of the financial crisis as predominantly a government failure could pave the way for real financial reforms that would contribute to both future financial stability and productivity. These reforms would include: 1) the gradual reduction of government intervention in mortgage markets through legislation such as the GSE Bailout Elimination and Taxpayer Protection Act (HR 4889), sponsored by Representative Jeb Hensarling (R-Texas); 2) a reduction in federal deposit insurance and other transparent policy rules to reduce or eliminate creditor expectations of future bailouts, especially the “too big to fail” guarantee; 3) the replacement of elaborate regulatory micromanagement with more equity capital; and 4) a monetary policy rule or quasi-rule to govern the Federal Reserve’s policy making.

But just as the Patient Protection and Affordable Care Act (“ObamaCare”) ignores the government’s role in creating a crisis of runaway health costs and a low health-outcome-to-cost ratio, the Dodd-Frank Wall Street Reform and Consumer Protection Act, passed in July, was enacted on the faulty presumption that the fundamental cause of the financial crisis was financial market failure and under-regulation of the financial sector. In expanding government control over financial markets with more systemically imposed micro-regulations and inconclusive future bureaucratic rule-making, the Dodd-Frank Act is fundamentally flawed in its approach to reform Wall Street.

Many of the “Tea Party” Republicans swept into power in the November midterm elections ran on a platform of replacing or reforming ObamaCare. Their success at the polls partially reflects the correct perception of the majority of informed Americans that persistent problems in U.S. healthcare stem primarily from government failure. The same perception holds equally true for the U.S. financial system, and replacement or reform of the Dodd-Frank Act is an equally worthy undertaking.

Mark J. Perry is a visiting scholar at the American Enterprise Institute and professor of finance and economics at the University of Michigan in Flint. Robert Dell is a commercial real estate banker residing in Atlanta. They are co-authors of a forthcoming book, Back from Serfdom: A Republican New Deal for Pragmatic Democrats.

 

[jhk87]

The fact that the economic recession was caused by regulatory failure isn't a surprise to anyone who pays attention, but here are the various factors laid out in one place (lots of diagrams at the link):

http://www.american.com/archive/2010/december/how-government-failure-caused-the-great-recession

Straight from the mouth of the American Enterprise Institute, which received millions in funding from major multinationals, and who have the most to lose from increased regulation.

 

[a_majoor]

Try again:

The banking crisis that began in August 2007 shocked markets and precipitated the Great Recession. To fully explain the banking crisis, one must account for its timing, severity, and global impact. One must also confront a startling historical contrast. If we define “banking crisis” to mean bank failures and system losses exceeding 1 percent of a country’s gross domestic product (GDP), we find that in the period 1875-1913, a period of marked expansion in international trade and capital flows comparable to the last three decades, there were only four banking crises worldwide.1 By contrast, in the period 1978-2009, a period of much more extensive bank regulation, central bank intervention, government protection of depositors and other bank creditors, and government control of mortgage markets, about 140 banking crises occurred worldwide. Of these, 20 were more severe than any crisis from the earlier period of 1875-1913, in terms of total bank losses as a percent of GDP.

Historical facts don't change because of who is pointing it out. Unless you have historical proof that the financial crisis during the "free banking" period were actually more frequent or worse than what has happened in the post regulatory period, or can describe a convincing mechanism besides regulatory failure providing perverse incentives to explain the multiplicity of faiures, then the only people who have the most to lose from increased regulation is the taxpayers, who will be forced to fund more and more frequent bailouts.

 

[Edward Campbell]

Try again:

Historical facts don't change because of who is pointing it out. Unless you have historical proof that the financial crisis during the "free banking" period were actually more frequent or worse than what has happened in the post regulatory period, or can describe a convincing mechanism besides regulatory failure providing perverse incentives to explain the multiplicity of faiures, then the only people who have the most to lose from increased regulation is the taxpayers, who will be forced to fund more and more frequent bailouts.

There is a problem with the data: banks and banking (including all financial institutions) in the late 19th and early to mid 20th century were nowhere near as large, relative to the population and money supply and, and, and, as they are today. The AEI comparison is not apt.