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The Great American Bank Robbery
The Unauthorized Report About What Really Caused the Great Recession
By Paul Sperry Thomas Nelson
Copyright © 2011 Paul Sperry
All rights reserved.
ISBN: 978-1-59555-382-9
CHAPTER 1
PRIME SUSPECTS
History should deal harshly with Bill Clinton. — Timothy Canova, professor of international economic law at Chapman University School of Law in Orange, California
The first person the commission investigating the genesis of the financial crisis should have called to testify is William Jefferson Clinton. He has a lot of explaining to do.
As "the first black president," Clinton had a strong following among black voters and wanted to secure their loyalty. He hatched a scheme to use banks to close the "mortgage gap" between blacks and whites. In particular, he was not happy with lagging homeownership rates among African-Americans and therefore set a goal to push it for the first time above 50 percent.
Compared to his plan to nationalize the health care system, President Clinton's housing policy seemed a small and rather innocuous plank in his domestic agenda, and few paid it much mind. Many today still do not know about it. But his so-called National Homeownership Strategy was both highly ambitious and cleverly orchestrated. To boost black homeownership, Clinton launched a multifront assault on banks, involving more than "100 specific actions"—none of which required new legislation, and all of which managed to avoid serious public scrutiny.
First, using his executive order powers, he revised federal anti-redlining rules by setting numerical targets for lending in predominantly black Census tracts, while mandating that banks adopt "flexible underwriting standards" to hit those targets. He added several hundred bank examiners to enforce the tougher CRA rules, and they in turn more than doubled CRA examinations of banks. He also toughened CRA grading, making it harder for banks to pass exams. Those who failed had their expansion plans put on hold, a slow death sentence in an era of frenzied bank mergers and acquisitions. And for the first time, bank report cards with the dreaded "CRA rating" were made public, egging on ACORN and other radical inner-city groups, who used the reports to extort banks for billions of dollars in minority loan set-asides and other concessions. (Formerly based in Little Rock, ACORN had a direct line to the Clinton White House and actually helped draft Clinton's tougher fair-lending rules for both banks and Fannie and Freddie, something we will revisit in greater detail in chapter 4. Disturbingly, ACORN'S veteran Washington lobbyist from those days, a bitter socialist, attended Harvard with Obama; and Obama has promised him and his radical new community organizing group a seat at the table to help him "shape" his domestic policy agenda.)
When bankers resisted being saddled with so many additional risky loans, Clinton tapped Fannie Mae and Freddie Mac to take them off their books, while freeing bankers to originate more of the political loans. He directed HUD to hike Fannie's and Freddie's goals for underwriting affordable loans. HUD has the power to enforce their loan programs and required that at least half of all Fannie and Freddie mortgage purchases benefit poor and minority families—a Draconian level that remained in force throughout the 2000s.
When the mortgage giants pushed back, complaining it would be hard to meet the higher targets, Clinton had his HUD regulators encourage them to load up on subprime loans, which charge higher rates and fees to cover the higher costs of servicing riskier borrowers. He also authorized Fannie and Freddie for the first time to purchase securities backed by bundled subprime and other CRA-eligible mortgages to earn credits against the HUD goals. The mortgage giants jumped at the chance, since it allowed them to meet the onerous new goals in wholesale fashion.
For good measure, Clinton, late in his second term, appointed several of his cronies to key board positions, on the inside of Fannie and Freddie, including White House budget chief Franklin Delano Raines, to ensure they continued his affordable-lending crusade well into the next administration.
Ever resourceful, Clinton even enlisted the U.S. Department of Justice in his minority homeownership push. In a flurry of lawsuits, federal prosecutors accused banks and lenders of discriminating against black borrowers, driving banks and independent mortgage lenders alike deeper into urban areas. Prosecutors sued them under the Fair Housing Act and other federal antidiscrimination laws, which covered all lenders, not just depository institutions covered by the CRA.
Meanwhile, the charming new president seduced Federal Reserve chairman Alan Greenspan into issuing a video for bankers in which the central banker decreed the new "10 Commandments" of fair lending—including new "flexible" underwriting guidelines tailored to the "special" credit traits of minorities. As a result, race became the only lending criterion that really mattered.
Clinton justified his entire fair housing crusade on a discredited Boston Fed report that claimed to find structural racism in mortgage lending. The study was based on fundamentally flawed data. Clinton nonetheless hired its author to run economic policy at Treasury.
In the end, his race-based lending mandates created a feeding frenzy for subprime and other risky mortgages that left communities of color worse off than ever.
BUBBA'S BUBBLE
Before the housing bubble popped, and before minority homeownership rates retraced their gains, Clinton's top regulators boasted that their policies helped create both the primary and secondary markets for subprime loans, as well as the market for subprime securities. They embraced subprime mortgages as offering minorities a "good option" to buy homes and refinance debt. Clinton himself at the time bragged about plundering banks for record hundreds of billions of dollars in loans for minority communities, before falling silent as those loans defaulted (more on that later).
The subprime market indeed grew rapidly in response to Clinton's mandates, and subprime loan standards deteriorated rapidly. Virtually overnight, an embryonic business grew into a trillion-dollar industry. Subprime lending more than doubled during the Clinton years, while the number of subprime lenders mushroomed from a handful to more than 50.
In 2000, the year before his new political loan targets for Fannie and Freddie took effect, the subprime market commanded 2 percent of the broader mortgage market, according to the Federal Reserve. By 2005, after his ambitious targets had been in place for four years, subprime mortgage originations had swelled to 20 percent of all U.S. home mortgage originations—10 times their share in 2000.
Subprime mortgage-backed securities also exploded. Less than half of subprime originations had been securitized in 2000. But by 2007, thanks in large part to the boom in goals-qualifying subprime securities at Fannie and Freddie, virtually all subprime originations were being securitized.
Clinton's new CRA rules, which had regulators zeroing in on the volume of bank lending in urban areas, also were a factor. Clinton wanted numbers, and he got them. The volume of CRA lending exploded between 1993 and 2000, with the number of riskier CRA-eligible home loans originated by CRA lenders and their affiliates ballooning from 462,000 to 1.3 million over that period, according to federal data.
Clinton's policies for the first time threw millions of previously unqualified buyers into the mortgage mix. Between 1995 and 2005, minorities accounted for nearly two-thirds of household growth and contributed a whopping 49 percent of the 12.5 million rise in homeowners over the decade, according to Harvard University's Joint Center for Housing Studies. Their "strong numerical gains," the study noted, coincided with a surge in subprime lending over the same period, with blacks taking out a disproportionately higher share of the subprime loans. As a result, their homeownership rate increased more during the 1990s than in any decade except the 1940s—hitting a record 48 percent by the time Clinton left office.
But the gains would not last, built as they were on shaky credit.
When Clinton enlisted Fannie and Freddie to fund minority homeownership, he triggered a shift to Wall Street–based funding of junk mortgage lending that ultimately proved lethal to the entire financial system. Fannie and Freddie, which pioneered the market for mortgage-backed securities, bundled pools of subprime and other risky mortgages and sold them to investors as securities, or MBS's. Because the government-sponsored mortgage giants were implicitly backed by the federal government, investors perceived their guarantee to have essentially removed the credit risk from the MBS's they issued. So investing in subprime securities backed by Fannie and Freddie was considered as sound as investing in Treasuries, only with higher yields. In fact, their securities are deemed "government securities."
The securitization boom sparked by Fannie and Freddie generally expanded the supply of credit, as mortgage originators had a new source of finance for loan origination. Expanded supply led to lower cost of credit; the lower borrowing costs, in turn, churned even more subprime lending. And the added demand buoyed by securitization drove housing prices even higher.
The dramatic increase in inflation-adjusted housing prices coincided with Clinton's minority homeownership crusade. After decades of moderate gains, real home price growth began to accelerate in the late 1990s. The size of the increase from 1997 to the peak in 2006 is both striking and unprecedented. It dwarfs any previous run-up in home values in American history. And no such bubble occurred in Canada, so what happened here cannot be explained by global trends.
"The subprime and other weak mortgages that were at the heart of the crash in housing and mortgage values enabled large numbers of people to buy homes who previously had not had access to housing credit," Wallison explains. "The infusion of government funds into this market through Fannie Mae, Freddie Mac, and other government housing programs [including the CRA], drove a ten-year housing bubble from 1997 to 2007 that grew to unprecedented size."
Clinton's reckless housing policies fed not only a housing bubble—call it Bubba's Bubble—but a systemic moral hazard, in which lenders and borrowers alike took on more and more risk because they did not have to face the consequences. To wit:
• Lenders had little incentive to carefully screen borrowers for their creditworthiness when they sold subprime and other CRA-eligible loans they originated to Fannie and Freddie. Why should they? They were not holding them in their portfolios, and they did not bear any losses if the borrowers failed to repay.
• Fannie and Freddie did not need to fret about subprime leveraging. Why should they? They operated knowing that taxpayers would bail them out if they ran into trouble.
• Wall Street investors did not need to worry about trading riskier subprime mortgage-backed securities. Why should they? They were backed by the full faith and credit of the U.S. Treasury. Uncle Sam would cover their risk.
• And individual homebuyers and refinancers, along with house flippers and other speculators, did not need to worry about taking on more risk with high-cost subprime, interest-only, adjustable-rate, or cash-out equity loans. Why should they? Home values kept appreciating.
Clinton changed the rules for risk. He also changed the rules for lending.
"Adoption of these new and 'innovative' underwriting criteria spread across the banks and eventually to Fannie Mae and Freddie Mac," says Mark Willis, head of community development at JPMorgan Chase, one of the largest CRA-regulated banks.
When Fannie and Freddie relaxed their underwriting rules to satisfy HUD's lending edicts, they in turn influenced credit standards across the entire mortgage industry. Whatever Fannie and Freddie were willing to underwrite on the secondary market, originators were willing to lend on the primary market. And not just CRA-regulated bank originators, but nonbank mortgage originators, as well, who were not even under CRA pressure to bend their underwriting rules (although they were under pressure from the Justice Department and HUD to do so). Up and down the mortgage supply chain, thanks to Clinton's housing policies, the long-standing firewall protecting both lenders and consumers from undue risk broke down.
REVERSAL OF FORTUNE
Clinton's crusade to close the "mortgage gap" has backfired terribly. The gains in black homeownership that Clinton crowed about have collapsed along with the subprime bubble he created. The mortgage gap between blacks and whites is just as wide today as it was when Clinton launched his crusade to close it. In fact, virtually nothing has changed—except that now, blighted urban areas are even more blighted thanks to the wave of subprime foreclosures. Boarded-up, vacant homes are covered in graffiti, and drug dealers have moved into even middle-income neighborhoods in predominantly black cities, such as Baltimore, Cleveland, Detroit, and Obama's hometown of Chicago. The subprime crisis has left almost 30 percent of Detroit's housing stock vacant. The city is pockmarked with roughly 90,000 abandoned or vacant homes and residential lots now. Call it Bubba's Blight.
Widespread foreclosures have drained an estimated $350 billion in wealth from communities of color—more than three times the damage the Gulf States suffered from Hurricane Katrina. While the nation has endured a recession, these communities have suffered a depression. African-Americans—the prime target of Clinton's social experiment—are bearing the brunt of the financial pain. With relatively little in savings, they lose everything when their homes are repossessed. And they will have to wait years for their credit to mend.
And now, thanks to widespread bank closures, there are fewer sources of credit available for first-time minority borrowers. More than 300 banks are expected to go under in the subprime crisis, further contracting credit options for minorities. Currently a total of 775 banks—or one-tenth of all U.S. banks—are on the FDIC's watch list of "problem" institutions. With the coming tsunami of banking regulations generated by the Dodd-Frank Act, the American Bankers Association predicts 1,000 fewer banks by the end of the decade.
It gets worse. Thanks to the subprime-led Great Recession, joblessness for 16-to-24-year-old black men has reached Great Depression proportions, according to the U.S. Department of Labor. At 34 percent, it is more than three times the rate for the general United States population.
Clinton made victims of the very people he deigned to help. His dream of increasing homeownership without increasing mortgage risk turned into their worst nightmare.
So, now let's review the bill of indictment against the 41st president:
COUNT 1: Clinton plunged Fannie and Freddie into the subprime market and turned them into the twin towers of toxic debt they are today. Thanks to his HUD policies, which remained in effect through the mid-2000s, they are now the biggest mortgage risk holders in the biggest mortgage crisis. The minority "affordable" loans he freighted them with ultimately proved costly to everybody.
COUNT 2: Clinton started the subprime crime wave by turning previously inconsequential subprime mortgages into a hefty, trillion-dollar market, and by spreading their risk from Main Street to Wall Street through government-backed securitizations.
COUNT 3: Clinton undercut traditional rules for lending, ordering bankers to throw open their borrowing windows to just about anybody—or else.
COUNT 4: Clinton created an easy credit orgy that fed a historic housing bubble that eventually blew up in the face of anyone connected to a home or home loan.
COUNT 5: Clinton's grand social experiment backfired most severely on the very people he claimed to help—African-Americans, who are now in worse shape than ever.
If Clinton's policies helped create the subprime boom, and there is no shortage of economists who agree they did, then it logically follows that they are equally responsible for the bust.
"History should deal harshly with Bill Clinton," says Timothy Canova, professor of international economic law at the Chapman University School of Law in Orange, California.
But do not tell that to the Angelides Commission, which has let the former president off the hook.
The visible Clinton has done his best to absolve himself of any responsibility in the subprime scandal, and the mainstream media have for the most part helped him. He has offered a number of alibis, while blaming "predatory" lenders, Wall Street "derivatives," the Bush administration, and the Greenspan Fed—anything but his own policies—for the subprime boom and bust.
(Continues...)
Excerpted from The Great American Bank Robbery by Paul Sperry. Copyright © 2011 Paul Sperry. Excerpted by permission of Thomas Nelson.
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