Libertarian Leanings

Another opportunity lost

The Washington Post reports that we are on our way to the largest financial bailout in American history.  The Post has pictures, too.  Barney Frank stands at the podium with Nancy Pelosi, Harry Reid, and Chris Dodd in the background with grave expressions.  They pose as the rescuers.

The proposed legislation, which is scheduled for a vote today in the House, would authorize Treasury Secretary Henry M. Paulson Jr. to initiate what is likely to become the biggest government bailout in U.S. history, allowing him to spend up to $700 billion to relieve faltering banks and other firms of bad assets backed by home mortgages, which are falling into foreclosure at record rates.

Therein lies the problem.  The roots of financial mess are those home mortgages that are falling into foreclosure at record rates.  At the first presidential debate in Oxford, Mississippi Friday night, Barack Obama charged that the need for this financial bailout was caused by lax regulatory oversight of Wall Street.  He said Republicans were to blame since they are the ones who most often oppose government regulation.  John McCain missed an opportunity when he didn't challenge Obama on it.

Foreclosures are coming at a fast and furious rate because mortgage lenders were handing out mortgage money to people who were at high risk of being unable to pay it back.  These folks were able to qualify for the money based on a schedule in which mortgage payments were very low in the first years of the mortgage, but would increase as years went by.  It's a gimmick that works for people when housing prices are on the rise.  In a rising market, home values grow to the point where homeowners can convert to a conventional mortgage before the killer payments kick in.  Unfortunately home prices have been falling for the last couple of years, so at risk homeowners couldn't sell and they didn't have the equity in their homes to refinance.

So how did so many of these at risk homeowners get so much mortgage money?  Where was the regulatory oversight that would prevent it?  A New York Times article from September 11, 2003 provides helpful clues.

The Bush administration today recommended the most significant regulatory overhaul in the housing finance industry since the savings and loan crisis a decade ago.

Under the plan, disclosed at a Congressional hearing today, a new agency would be created within the Treasury Department to assume supervision of Fannie Mae and Freddie Mac, the government-sponsored companies that are the two largest players in the mortgage lending industry.

The new agency would have the authority, which now rests with Congress, to set one of the two capital-reserve requirements for the companies. It would exercise authority over any new lines of business. And it would determine whether the two are adequately managing the risks of their ballooning portfolios.

George Bush, john McCain and others saw this coming back in 2003 and called for tighter regulations and stricter oversight of Fannie Mae and Freddie Mac.  So what happened?  It was opposed by Democrats.

''These two entities -- Fannie Mae and Freddie Mac -- are not facing any kind of financial crisis,'' said Representative Barney Frank of Massachusetts, the ranking Democrat on the Financial Services Committee. ''The more people exaggerate these problems, the more pressure there is on these companies, the less we will see in terms of affordable housing.''

Representative Melvin L. Watt, Democrat of North Carolina, agreed.

''I don't see much other than a shell game going on here, moving something from one agency to another and in the process weakening the bargaining power of poorer families and their ability to get affordable housing,'' Mr. Watt said.

Democrats and some Republicans had other incentives to overlook rather than oversee.

Fannie Mae, which was previously known as the Federal National Mortgage Association, and Freddie Mac, which was the Federal Home Loan Mortgage Corporation, have been criticized by rivals for exerting too much influence over their regulators.

''The regulator has not only been outmanned, it has been outlobbied,'' said Representative Richard H. Baker, the Louisiana Republican who has proposed legislation similar to the administration proposal and who leads a subcommittee that oversees the companies. ''Being underfunded does not explain how a glowing report of Freddie's operations was released only hours before the managerial upheaval that followed. This is not world-class regulatory work.''

Over the years both Fannie Mae and Freddie Mac poured money into receptive political campaigns, with the most money going to Democrats.  Between 1989 and 2008 the top four money winners in the Senate were all Democrats:  Chris Dodd: $133,900, John Kerry: $111,000, Barack Obama: $105,849, and Hillary Clinton: $75,550.  In return Democrats have blocked every effort to reign in the mortgage giants.

Barack Obama's attempt to lay the current crisis at Republican feet was McCain's best opportunity to set the record straight in front of a national audience.  It was a huge mistake to let it go.

Disappointing performance

Both John McCain and Barack Obama did pretty well in Friday night's presidential debate in Oxford, Mississippi.  This translates to a victory for Obama because "pretty well" isn't going to do it for McCain.  My gut tells me that a sizable number of voters will vote for Obama as a expression of their own innate goodness.  Issues are not an issue.  Picture them in eager anticipation of the worldwide approval which is sure to come when they elect America's first African-American president.  Oh, it's not that Obama is African-American as much as it is that he's a lefty -- politically speaking.  All Obama needed to do at the debate was to avoid making it uncomfortable for the establishment press to support him.  Since the press is predisposed to support him, he only had to demonstrate that he could stick to the Democratic talking points.

If McCain wants to win this election, he has to demonstrate to enough voters that Obama can't be trusted.  One place where McCain absolutely must do this is in the war on terror.  During the debate McCain went after Obama on his disastrous judgment on the troop surge in Iraq, but he ultimately let him off the hook.  Obama simply dismissed the gravity of those miscalculations by countering that the invasion of Iraq was the wrong thing to do in the first place.  For whatever reason, McCain was unwilling to challenge him on that.  That unwillingness could cost him the election. 

McCain voted for the invasion, so he should make it a point to explain why.  He has said publicly and repeatedly that going into Iraq was the right thing to do, but with a campaign strategy that seeks to distance him from George Bush on all things, he has not been saying it lately.  It's wise to distance himself on some things, but not all things.  The war in Iraq is one issue where he should publicly side with Bush. 

To the charge that he has sided with George Bush 90% of the time, McCain could agree and helpfully offer an example of a time that he did.  He can point out that there have no terrorist attacks on U.S. soil in seven years.  He can say, yes he's with Bush on that.  He can explain why we haven't been hit since 9/11 by reminding people that Osama bin Laden had put out the call for martyrs to go to Iraq for the glory of defeating the Great Satan.  It's widely accepted now that al Qaeda was badly beaten there after the surge troops and the counterinsurgency strategy were in place.

But Friday night he gave Obama a pass and let him argue that his mistakes on the surge are inconsequential when compared to the crucial mistake of invading Iraq in the first place.  McCain has to attack that.  Obama was not right to oppose the war, but that was a small mistake.  His opposition to the surge, though, was a huge mistake and would have been a catastrophe if the country had been forced to go along with him on it.

Making the case for the war in Iraq will be an uphill battle with a substantial block of voters.  Iraq is no longer the crisis it once was, and the five-year steady diet of Democratic talking points on Iraq force fed to the American public by the establishment media has taken its toll.  He won't convince everybody that he was right and Obama was wrong, but he can convince a lot of people that it was a good strategy in the war on terror, and one that he believed in it.

McCain should make his case even if he thinks nobody will believe him.  Obama was dead wrong about the surge.  There is no doubt about it.  McCain should aggressively trumpet his conviction that Obama was as wrong in his opposition to the invasion as he was about the surge.  There are voters who will listen. 

Obama likes to say we can't afford another four years of Bush policies.  McCain should remind everybody that there are some Bush policies that we ought to keep.  One of them is winning the wars we get into.  The change that Obama says we need is not something new.  He would bring us back to the policies of Jimmie Carter, complete with a windfall profits tax on oil companies, economic malaise, and a naive and inept foreign policy.

John McCain can win this election but he won't do it by eschewing all things Bush.  He robs himself of some of his more powerful arguments by refusing to admit that he agrees with Bush.

Showmanship

Democrats did a bang up job of orchestrated a campaign moment for Barack Obama, giving him top billing during the White House economic bailout negotiations. 

It was McCain who had urged Bush to call the White House meeting but Democrats made sure Obama had a prominent part. And much as they complained later of being blindsided, the whole event turned out to be something of an ambush on their part—aimed at McCain and House Republicans.

“Speaking professionally,” said one Republican aide, “They did a very good job.”

When Bush yielded early to Pelosi and Senate Majority Leader Harry Reid (D- Nev.) to speak, they yielded to Obama to speak for the assembled Democrats. And it was Obama who raised the subject of the conservative alternative and pressed Paulson on what he thought of the idea.

House Republicans felt trapped—squeezed by Treasury, House Democrats and a bipartisan coalition in the Senate.

For most of the day yesterday rumor had it that congress and the administration were on the verge of a deal.  But House Republicans had not been included in the negotiations, and when they objected and offered a plan of their own Connecticut Senator Christopher Dodd accused McCain of sabotage. 

WASHINGTON (AFP) — Top Democrats angrily accused Republican White House contender John McCain late Thursday of sabotaging an astronomically expensive deal to bail out Wall Street and shore up the US economy.

The 700-billion-dollar package stalled at talks convened by President George W. Bush with top lawmakers and both the men vying to succeed him -- McCain and Democrat Barack Obama.

Senate Majority Leader Harry Reid announced a new round of late-night discussions Thursday in a bid to get the deal back on track, set to be joined by Treasury Secretary Henry Paulson and Federal Reserve chief Ben Bernanke.

"John McCain did nothing to help, he only hurt the process," the senior Democrat said at a joint news conference with Senate banking committee chairman Christopher Dodd.

Apparently the bailout negotiation process took the path of least resistance, bypassing House Republicans who took a dim view of the package.  In reality there never was a deal. 

McCain said he knew going into the White House meeting called by President Bush that there was no deal, after having said Wednesday the debate should be canceled if a bailout wasn't secured.

"I knew going in, because I had been over on the House side with my House Republican colleagues, there never was a deal," McCain said. "But I do believe the meeting was important to move the process along."

So Democrats got their photo op after the White House meeting ended, giving candidate Barack Obama an opportunity to be seen as presidential, and then went on to blame McCain for scuttling a deal that never was. 

The American public may not buy it.  Pollster John Zogby raises the possibility of a McCain landslide.

The presidential election might be a tight race now, but one of the country’s top pollsters thinks the race will end in an electoral landslide.

John Zogby, president of Zogby International, told a group of businesspeople today that it’s up to Democratic Sen. Barack Obama to convince voters to go with him. If he’s not successful, the country will likely vote for “a comfortable old shoe”, that being Republican Sen. John McCain.

Nice show, though. 

OK, that's one. But can you give me another one?

Republican Vice Presidential candidate Sarah Palin sat down with Katie Couric to talk about the proposed bailout.  Couric masquerades the "tough but fair" journalist while she badgers Palin to come up with more examples of John McCain's support for regulatory oversight of Wall Street.  One is not enough.

Couric: You've said, quote, "John McCain will reform the way Wall Street does business." Other than supporting stricter regulations of Fannie Mae and Freddie Mac two years ago, can you give us any more example of his leading the charge for more oversight?

Palin: I think that the example that you just cited, with his warnings two years ago about Fannie and Freddie - that, that's paramount. That's more than a heck of a lot of other senators and representatives did for us.

Couric: But he's been in Congress for 26 years. He's been chairman of the powerful Commerce Committee. And he has almost always sided with less regulation, not more.

Palin: He's also known as the maverick though, taking shots from his own party, and certainly taking shots from the other party. Trying to get people to understand what he's been talking about - the need to reform government.

Couric: But can you give me any other concrete examples? Because I know you've said Barack Obama is a lot of talk and no action. Can you give me any other examples in his 26 years of John McCain truly taking a stand on this?

Palin: I can give you examples of things that John McCain has done, that has shown his foresight, his pragmatism, and his leadership abilities. And that is what America needs today.

Couric: I'm just going to ask you one more time - not to belabor the point. Specific examples in his 26 years of pushing for more regulation.

No, no.  Of course, not to belabor the point...  One might think McCain's support for stricter oversight of Fannie Mae and Freddie Mac in 2006 would be evidence of his good judgment, and that along with his sponsorship of that awful McCain-Feingold campaign finance reform, it would be evidence of his willingness to regulate. 

On the other hand, in his two years in the Senate Barack Obama hasn't taken on stand on anything.  He refines his positions.  But Couric is in the tank for Obama, and she realizes the danger Sarah Palin poses to his election chances.  Couric was in attack mode.

Planning on an Obama victory

The House has passed a stop gap spending measure that keeps the federal government operating until March 6th.

Conspicuously absent is an offshore oil-drilling moratorium that is set to expire Oct. 1. Democrats initially had pushed for a one-year extension of the ban, but caved in to Republican and White House demands the ban be lifted.

Democrats say they will work to reinstate the ban when a new White House administration takes office next year.

Democrats blame Republicans for the budget impasse that led to the emergency spending bill.  According to Democrats, Republicans "refused to compromise."

Berkshire Hathaway buys a stake in Goldman

The Wall Street Journal reports that Warren Buffet plans to sink $5 billion into Goldman Sachs, a move that demonstrates a high level of confidence in our financial system, even as it suffers through this credit crisis.

Berkshire's plan "is a sign of confidence from one of the nation's most respected investors," said James Angel, a finance professor at Georgetown University, who added that "sharp investors" now are "sniffing around the wreckage of the credit crunch to pick up good assets on the cheap."

The deal is structured in two parts, giving Berkshire a stream of cash and potential ownership of roughly 10% of Goldman. Berkshire will spend $5 billion on "perpetual" preferred shares of Goldman. These are not convertible into equity but pay a fat 10% dividend.

Berkshire also will get warrants granting it the right to buy $5 billion of Goldman common stock at $115 a share, which is 8% below the 4 p.m. closing share price Tuesday of $125.05. At Goldman's roughly $50 billion market value, based on that closing price, exercising those warrants would give Berkshire about a 10% stake in Goldman.

Goldman also will go to the public to raise at least a further $2.5 billion by selling common shares. Once it does, Berkshire's stake -- if it has exercised the warrants -- would fall to about 7%. Goldman will have the right to repurchase the preferred shares at any time for a 10% premium.

This move will undoubtedly boost the value Berkshire Hathaway stock.  Buffets philosophical approach to investing is to proceed cautiously, buy into only those businesses he knows about, and buy with the intention of holding for the long term.  Investors would do well to copy his strategy. 

At the close of trading yesterday Berkshire Hathaway stock stood at $128,800.00 per share.  When Buffett gained control of it in 1965, Berkshire Hathaway was a textile manufacturing firm with stock worth about $18 per share.  Since then Berkshire Hathaway has diversified, but it has never issued a dividend and has never split.  But, oh my has it ever grown.

Fannie and Freddie in the news

In case you are still not sure who was responsible for the Fannie Mae/Freddie Mac mess, watch this.

Via Hot Air.

Crony capitalism

Terry Jones put it very well.

Indeed, Democrats have so effectively mastered crony capitalism as a governing strategy that they've convinced many in the media and the public that they had nothing whatsoever to do with our current financial woes.

Barack Obama has repeatedly blasted "Bush-McCain" economic policies as the cause, as if the two were joined at the hip.

Funny, because over the past 8 years, those who tried to fix Fannie Mae and Freddie Mac — the trigger for today's widespread global financial meltdown — were stymied repeatedly by congressional Democrats.

This wasn't an accident. Though some key Republicans deserve blame as well, it was a concerted Democratic effort that made reform of Fannie and Freddie impossible.

The reason for this is simple: Fannie and Freddie became massive providers both of reliable votes among grateful low-income homeowners, and of massive giving to the Democratic Party by grateful investment bankers, both at the two government-sponsored enterprises and on Wall Street.

The result: A huge taxpayer rescue that at last estimate is approaching $700 billion but may go even higher.

It all started, innocently enough, in 1994 with President Clinton's rewrite of the Carter-era Community Reinvestment Act.

Ostensibly intended to help deserving minority families afford homes — a noble idea — it instead led to a reckless surge in mortgage lending that has pushed our financial system to the brink of chaos.

Fannie Mae and Congress

Charles W. Calomiris, professor of finance and economics at Columbia Business School, and Peter J. Wallison, a general counsel in the Reagan administration Treasury Department, believe the current financial meltdown could have been avoided. They take to the Wall Street Journal to explain.

In light of the collapse of Fannie and Freddie, both John McCain and Barack Obama now criticize the risk-tolerant regulatory regime that produced the current crisis. But Sen. McCain's criticisms are at least credible, since he has been pointing to systemic risks in the mortgage market and trying to do something about them for years. In contrast, Sen. Obama's conversion as a financial reformer marks a reversal from his actions in previous years, when he did nothing to disturb the status quo. The first head of Mr. Obama's vice-presidential search committee, Jim Johnson, a former chairman of Fannie Mae, was the one who announced Fannie's original affordable-housing program in 1991 -- just as Congress was taking up the first GSE regulatory legislation.

In 2005, the Senate Banking Committee, then under Republican control, adopted a strong reform bill, introduced by Republican Sens. Elizabeth Dole, John Sununu and Chuck Hagel, and supported by then chairman Richard Shelby. The bill prohibited the GSEs from holding portfolios, and gave their regulator prudential authority (such as setting capital requirements) roughly equivalent to a bank regulator. In light of the current financial crisis, this bill was probably the most important piece of financial regulation before Congress in 2005 and 2006. All the Republicans on the Committee supported the bill, and all the Democrats voted against it. Mr. McCain endorsed the legislation in a speech on the Senate floor. Mr. Obama, like all other Democrats, remained silent.

[...]

If the Democrats had let the 2005 legislation come to a vote, the huge growth in the subprime and Alt-A loan portfolios of Fannie and Freddie could not have occurred, and the scale of the financial meltdown would have been substantially less. The same politicians who today decry the lack of intervention to stop excess risk taking in 2005-2006 were the ones who blocked the only legislative effort that could have stopped it.

Short sales temporarily banned

The Wall Journal reports that the SEC has instituted a 10-day ban on short sales in 799 financial stocks. The ban can be extended to 30 days.

"The Commission is committed to using every weapon in its arsenal to combat market manipulation that threatens investors and capital markets," SEC Chairman Christopher Cox said. "The emergency order temporarily banning short selling of financial stocks will restore equilibrium to markets. This action, which would not be necessary in a well-functioning market, is temporary in nature and part of the comprehensive set of steps being taken by the Federal Reserve, the Treasury, and the Congress."

The SEC announced other temporary measures, including a requirement for large institutional money managers to report short positions in certain stocks. It also eased restrictions on corporate stock buy backs, saying that will give companies greater flexibility to buy their own shares and help restore liquidity at a time "of unusual and extraordinary market volatility."

In short selling, traders borrow shares of stock and sell them, hoping the price of the shares declines and they can profit by buying them back at a lower price. Short sellers have become scapegoats for the big declines in the share prices of weakened companies including Lehman Brothers Holdings Inc. and American International Group Inc., though it is unclear whether they were the cause of the declines.

An SEC depression era regulation against shorting stocks in a down market was lifted just over a year ago. 

   COMMISSION ANNOUNCEMENTS

   SEC TO END SHORT SALE TICK TEST ON JULY 6, 2007

   On June 13, 2007, the Commission voted to remove the tick test of Rule
   10a-1 and to amend Regulation SHO to provide that no short sale  price
   test, including any price test of any exchange or national  securities
   association,  shall  apply  to  short  sales  in  any  security.   The
   Commission has established a compliance date of July 6, 2007  for  the
   changes. Publication of the amendments is expected to be made  in  the
   Federal Register during the week of July 2, 2007. (Rel. 34-55970)

That regulation was put in place to prevent the possibility that shorts sales could drive the market south, but a one-year pilot program begun in 2004 reassured regulators that the uptick rule was no longer needed.

The Commission adopted Rule 10a-1 in 1938 after several years of considering the effects of short selling in a declining market. Rule 10a-1 provides that, subject to certain exceptions, a security may be sold short (A) at a price above the price at which the immediately preceding sale was effected (plus tick), or (B) at the last sale price if it is higher that the last different price (zero-plus tick). Short sales are not permitted on minus ticks or zero-minus ticks, subject to narrow exceptions. The operation of these provisions is commonly described as the "tick test." The tick test applies only to listed securities, other than Nasdaq-listed securities, traded on an exchange, or otherwise.

[...]

On July 28, 2004, the Commission issued an order creating a one-year pilot temporarily suspending the tick test and any short sale price test of any exchange or national securities association for certain securities. The pilot was created so that the Commission could study the effectiveness of short sale price tests. The Commission's Office of Economic Analysis and academic researchers provided the Commission with analyses of the empirical data obtained from the pilot. In addition, the Commission held a roundtable to discuss the results of the pilot. The general consensus from these analyses and the roundtable was that the Commission should remove price test restrictions because they modestly reduce liquidity and do not appear necessary to prevent manipulation. In addition, the empirical evidence did not provide strong support for extending a price test to either small or thinly-traded securities not currently subject to a price test.

2004 may not have been the best time to start a pilot program like this, since the market was on the rise.  In order to get the full effect you would want to see it operate in a down market, which we have just had the opportunity to see.  And what we finally did see is a decision to ban short sales in only certain financial stocks, those affected by the credit crunch.   In my view short selling may exacerbate declines in weak stocks but are unlikely to be the cause of falling stock prices or a falling market. 

Blaming Wall Street will enjoy bipartisan popularity over the next several weeks as politicians promise to save us all from greedy speculators.  But we shouldn't forget that the turmoil had its origins in the sub-prime mortgage market and the practice of lending mortgage money to people who were unable to pay it back.  Congress had their opportunities to tighten regulation of Fannie Mae and Freddie Mac, but chose to keep the gravy train going.  Wall Street will be the scapegoat -- as usual.