Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (42 page)

⁴⁸
Paul Muolo and Matthew Padilla,
Chain of Blame: How Wall Street Caused the Mortgage and Credit Crisis
, (Hoboken, N.J.; John Wiley & Sons, 2008), p. 112.
⁴⁹
Ibid., p. 112–113. Fannie Mae charged a guarantee fee to lenders from whom it bought mortgages.
⁵⁰
Ibid., p. 42–43
⁵¹
Ibid. In November 2006, Salomon Brothers funded a start-up subprime lender, New Century, by allowing it to borrow $105 for every $100 New Century accounted for on its balance sheet as its loan balance. The extra $5 was to pay for New Century’s operating costs. In return, Salomon “got first peek at 70% of the lender’s first $500 million in loans for sale.” Muolo and Padilla,
Chain of Blame
, p. 155
⁵²
“History of J.P. Morgan Chase, 1799 to the Present”; www.jpmorganchase.com.
⁵³
Travelers had bought Salomon Brothers and Smith Barney, both combinations of investment banking and trading firms. “The Long Demise of Glass-Steagall,”
Frontline
,
May 8, 2003; www.pbs.org/wgbh/pages/frontline/shows/wallstreet.

The GrammLeach-Bliley Act (its formal name: The Financial Services Modernization Act) became law on November 12, 1999.
⁵⁷
Rubin had left his treasury post to join Citicorp.
⁵⁸
Larry Summers, treasury secretary when the act passed, claimed: “This historic legislation will better enable American companies to compete in the new economy.”
⁵⁹

Greenspan, Rubin, and Summers played a major role ensuring that the wildest derivatives remained unregulated. To thrive, the mortgage machine needed such developments as collateralized debt obligations (CDO) and credit default swaps (CDS). The trio led the offense against regulation of over-the-counter derivatives. Deputy Treasury Secretary Larry Summers told Congress that any oversight would cast “a shadow of regulatory uncertainty over an otherwise thriving market.”
⁶⁰
Without the contributions of Greenspan, Rubin, and Summers, the credit bubble might have been a muted affair. Timothy Geithner, secretary of the treasury in 2009, served under both Robert Rubin and Larry Summers as undersecretary of the treasury for international affairs. He was president of the Federal Reserve Bank of New York from 2003 to 2009. The New York president is traditionally the eyes and ears for the Fed on Wall Street. It was during his term that the leverage and derivative operations of the major banks passed the point of no return.

⁵⁴
With possibilities of extensions by the Fed. “The Long Demise of Glass-Steagall.”
⁵⁵
See, for instance, Alan Greenspan, “Need for Financial Modernization,” Before the Committee on Banking, Housing, and Urban Affairs, U.S. Senate, February 23, 1999.
⁵⁶
http://www.govtrack.us/congress/bill.xpd?bill=s106-900#votes. Joseph Kahn,“Former
Treasury Secretary Joins Leadership Triangle at Citigroup,”
New York Times
, October 27, 1999. From the article: “Mr. Rubin acknowledged that even while he [was] negotiating his own job with Citigroup, he had helped broker the compromise agreement repealing Glass-Steagall.” Also “Rubin Calls for Modernization through Reform of Glass-Steagall Act,”
Journal of Accountancy
, May 1, 1995: “Robert E. Rubin, secretary of the Treasury, recommended that Congress pass legislation to reform or repeal the Glass-Steagall Act of 1933 to modernize the country’s financial system. In testimony before the House Committee on Banking and Financial Services, Rubin said Clinton administration proposals would permit affiliations between banks and other financial services companies, such as securities firms and insurance companies.”
⁵⁷
“The Long Demise of Glass-Steagall.” The bill was signed into law by President Clinton on November 12, 1999: “President Clinton Signed into Law Today a Sweeping Overhaul of Depression-Era Banking Laws,” Reuters, November 12, 1999.
⁵⁸
He had announced his decision to leave his treasury post in May 1999. Editorial, “Mr. Rubin Leaves the Treasury,”
Ne w York York Times
, May 13, 1999.
⁵⁹
From Stephen Labaton, “Congress Passes Wide-Ranging Bill Easing Bank Laws,”
New York Times
, November 5, 1999; and “Depression-Era Rules Undone,”
New York Times
, November 13, 1999: “‘With this bill,’ Treasury Secretary Lawrence H. Summers said, ‘the American financial system takes a major step forward toward the 21st Century— one that will benefit American consumers, business and the national economy.’”

A flurry of large bank mergers were consummated after the GrammLeach-Bliley Act was passed. Government approval often hinged on the degree to which banks had met their “affirmative obligation” under the Community Reinvestment Act revision of 1995.
⁶¹
(Secretary Rubin “had a hand in urging Congress and the White House to preserve the Community Reinvestment Act” before the GrammLeach-Bliley Act was passed.
⁶²
)

Congress Throws Fat into the Fire

Congress could not resist throwing money at the mortgage market. In 2003, Representative Robert Ney, chairman of the House Financial Services Housing Subcommittee, proposed a bill in which first-time U.S. home buyers would be permitted to buy a house without making a down payment. Under the “zero down payment” bill, people who sought Federal Housing Administration–insured loans would be able to add the down payment and closing costs into their loan amount. Ney decried the fractured American dream: “Many people who can afford monthly payments in a home save for years to come up with the down payment.” Ney wanted Americans to buy overpriced houses “ten years earlier.” He added, “It’s good for their families and good for their communities.”
⁶³
(In 2007, Congressman Ney would be sentenced to a 30-month jail term for, among other offenses, a “longterm pattern of defrauding the public of his unbiased, honest services as an elected official.”
⁶⁴
Convincing the public it deserved to own houses it could not afford would have fit the description, but was not what the court had in mind.)

⁶⁰
Anthony Faiola, Ellen Nakashima, and Jill Drew, “What Went Wrong,”
Washington Post
, October 15, 2008. Also see “Joint Statement by Treasury Secretary Robert E. Rubin, Federal Reserve Chairman Alan Greenspan and Securities and Exchange Commissioner Arthur Levitt,” dated May 7, 1998. Also see Treasury Deputy Secretary Lawrence H. Summers, Testimony Before the Senate Committee on Agriculture, Nutrition, and Forestry on the CFTC Concept, Release, July 30, 1998.

⁶¹
Husack, “Trillion-Dollar Bank Shakedown Bodes Ill for Cities.”
⁶²
Kahn, “Former Treasury Secretary Joins Leadership Triangle at Citigroup.”

Home ownership was integrated into President Bush’s public appeal for a second term. He decided that 70 percent of Americans should own a house. (The ratio of owners to renters had been 60 to 65 percent over the past few decades.) In a July 14, 2004, reelection pep rally, he told his Waukesha, Wisconsin, audience: “Homeownership rate [
sic
] is at an all-time high. That’s a fantastic statistic, isn’t it? We want more people owning their own home. When you own something you have a vital stake in the future of the United States of America.”
⁶⁵
He made it sound like a ball game with the whole nation rooting for a .700 batting average.

Productivity of the Mortgage Bankers [T]his productivity growth really reflects higher productivity in the mortgage banking industry, … that’s real productivity.
⁶⁶
—
FOMC staffer at the December 2002 FOMC meeting

Greenspan’s “months weeks, days” refrain not only proved true but was necessary to accelerate the volume of mortgage trading. Edward N. Jones, a former NASA engineer for the Apollo and Skylab missions, was interviewed by the
New York Times
: “[T]he old way of processing mortgages involved a loan officer or broker collecting reams of income statements and ordering credit histories, typically over several weeks. But by retrieving real-time credit reports online, then using algorithms to gauge the risks of default, Mr. Jones’s software allowed subprime lenders … to grow at warp speed.”
⁶⁷
The
Times
reported that “speed became something of an arms race, as software makers and subprime lenders boasted of how fast they could process and generate a loan. New Century Financial [of Irvine, California,] … promised mortgage brokers on its Web site that with its FastQual automated underwriting system, ‘We’ll give you loan answers in just 12 seconds!’” In 2001, New Century originated $6.2 billion of mortgages. This rose to $42.2 billion in 2004.
⁶⁸

⁶³
Susan Schmidt and James V. Grimaldi, “Ney Sentenced to 30 Months in Prison for Abramoff Deals,”
Washington Post
, January 20, 2007.
⁶⁴
Ney was sentenced for accepting benefits from lobbyists. “Statement of Assistant Attorney General Alice S. Fisher of the Criminal Division Regarding Congressman Robert W. Ney,”
September 15, 2006; www.usdoj.gov.
United States of America v. Robert W. Ney
. United States District Court for the District of Columbia, September 15, 2006.
⁶⁵
“In His Own Words,”
New York Times
, July 15, 2004.
⁶⁶
FOMC meeting transcript, December 10, 2002, p. 16.

The efficiency gains were comparable to Henry Ford’s assembly line: “With small staffs, the companies typically sell their software to home lenders with vast networks of call centers employing hundreds of thousands of loan officers. Some big Wall Street banks and housing lenders bought the software, then developed their own systems.”
⁶⁹
The
Times
quoted Scott Berry, executive vice president, artificial intelligence (that was his actual title) at Countrywide: “Without the technology, there is no way we would have been able to do the amount of business that we did and continue to do.”
⁷⁰

The stripping of the standards reduced the frictional costs of trading houses: a report from the West Coast in 2002 stated: “At Californiabased Countrywide Credit, owners with existing 30-year loans at around 7% have been able to refinance at 6% without paying a dime in closing costs—‘nirvana for homeowners,’ [said] Countrywide chief executive Angelo Mozilo. Countrywide is on pace to originate $170 billion in loans this year. ‘And it’s accelerating,’ said Mozilo[.]”
⁷¹

As much as Americans take pride in the private sector’s efficiency, it was the government Brunhildes that set world records: “[T]he mortgage business has been transformed into a largely high-volume national market. Instead of holding on to mortgages, lenders tend to sell them in big bundles, often through government-sponsored financial firms Fannie Mae and Freddie Mac. In turn, Fannie and Freddie in the 1990s developed automated underwriting systems that allow quick approval of mortgages. Often, customers are asked for little more than a credit report, a pay stub, a bank statement and a few tax forms. These changes turned selling mortgages into a commodity business[.]”
⁷²
This was written in 2003. The request for a credit report, a pay stub, a bank statement, and a few tax forms would soon look antiquated.

⁶⁷
Lynnley Browning, “The Subprime Loan Machine,”
New York Times
, March 23, 2007.
⁶⁸
“Bearish on New Century,”
Grant’s Interest Rate Observer
, June 17, 2005, p. 2.
⁶⁹
Browning, “The Subprime Loan Machine.”
⁷⁰
Ibid.
⁷¹
Sean Corrigan,
Daily Reckoning
, August 22, 2002; www.dailyreckonong.com. Corrigan
is quoting an interview of Mozilo from the
Charleston Daily Mail
.

The Daily Crime Report

The daily papers were full of crime reports. Appraisal fraud was pushing the sales prices of some houses up by 30 percent: The
Washington Post
reported that “[n]early 75 percent of licensed appraisers interviewed as part of the ongoing National Appraisal Survey said they had felt pressure from a mortgage broker in the past year ‘to hit a certain value.’” And 59 percent reported similar pressure from a loan officer working for a lending institution or mortgage company.
⁷³
From the
Wall Street Journal
in 2001: “Appraisers are frequently encouraged to fudge the numbers.”
⁷⁴
In 2002: “Rising House Prices Cast Appraisers in a Harsh Light: Inflated Valuations Figure in More Mortgage Fraud; Buyers, Banks are Victims.”
⁷⁵

Greenspan’s testimony was regularly used to sell houses. David Seiders, chief economist of the National Association of Home Builders, relayed the chairman’s forecast: “The time has come to put this issue to rest. The nation’s home builders have said it … and now Alan Greenspan has said it once again, in no uncertain terms: there is no such thing as a current or impending house price bubble.”
⁷⁶

⁷²
John Hechinger, “The Refinancing Boom Spells Big Money for Mortgage Brokers; Huge Fees Draw the Scrutiny of Regulators and Spawn Lucrative Small Companies; From Machinist to Millionaire,”
Wall Street Journal
, February 24, 2003.

⁷³
Kenneth R. Harney, “Many Appraisers Pressed to ‘Hit the Number,’”
Washington Post
, September 13, 2003.
⁷⁴
Patrick Barta, “Is Appraisal Process Skewing Home Values? Appraisers Are Frequently Encouraged to Fudge the Numbers,”
Wall Street Journal
, August 13, 2001.
⁷⁵
John Hechinger, “Shaky Foundation: Rising Home Prices Cast Appraisers in a Harsh Light:Inflated Valuations Figure in More Mortgage Fraud; Buyers, Banks Are Victims,”
Wall Street Journal
, December 13, 2002.

Home mortgage debt increased by $800 billion in 2003, and by $1.1 trillion in 2005.
⁷⁷
There was no turning back. House prices had to keep rising to unburden those of houses they could not afford. Rising prices were the incentive to draw traders into the market. The mortgage machine needed to increase its production, or it would collapse.