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2008-07-09

Five Ways Wall Street and Washington Set Us Up for the Crash: Author Nomi Prins Explains Where Congress Went Wrong on Lending

Guests

Nomi Prins, former investment banker turned journalist. She used to run the European analytics group at Bear Stearns and is now a senior fellow at Demos. She is the author of two books: Other People’s Money: The Corporate Mugging of America and Jacked: How Conservatives Are Picking Your Pocket. Nomi Prins joins me now here in the firehouse studio in New York.

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The worst of the economic crisis may be far from over. That was the message of Federal Reserve Chairman Ben Bernanke Tuesday. He indicated that the housing and financial turmoil will persist deep into next year. The Senate, meanwhile, is deliberating a bill this week that would provide government-backed loans to 400,000 homeowners on the brink of foreclosure. We speak with former investment banker turned journalist and author, Nomi Prins, about "Why the Economy Went South." [includes rush transcript]

Transcript

This is a rush transcript. Copy may not be in its final form.

AMY GOODMAN: The worst of the economic crisis may be far from over. That was the message of Federal Reserve Chair Ben Bernanke Tuesday. He indicated the housing and financial turmoil will persist deep into next year.

The Senate, meanwhile, is deliberating a bill this week that would provide government-backed loans to 400,000 homeowners on the brink of foreclosure. The housing bill has faced some resistance from Republican lawmakers and was also threatened with a White House veto but is expected to pass the Senate.

But with skyrocketing foreclosure rates, critics say the measure is expected to only help a small percentage of the estimated three million homeowners threatened with foreclosure. The Washington Post also reported last month the bill’s key provisions were suggested to Congress by lobbyists for major banks like Credit Suisse and Bank of America, banks that are facing huge losses from the subprime mortgage crisis. The nation’s top housing official, Steve Preston, warned Tuesday that the legislation could overwhelm the Federal Housing Administration with risky loans.

To discuss the state of the economy, I’m joined now by two guests. Nomi Prins is a former investment banker turned journalist. She used to run the European analytics group at Bear Stearns, now a senior fellow at Demos. She is the author of two books: Other People’s Money: The Corporate Mugging of America and Jacked: How Conservatives Are Picking Your Pocket. Nomi Prins is here in the firehouse studio. We’re also joined on the phone from Washington, D.C. by David Corn, D.C. bureau chief of Mother Jones. His article in the latest issue of the magazine is called "Foreclosure Phil," and we’ll find out who that is in just one second.

Nomi Prins, what are the five ways that Washington and Wall Street has brought us to this crisis?

NOMI PRINS: Well, it’s a historical matter, and basically there’s been a lot of legislation that has weakened the regulation of the housing industry and the lending industry and the trading that takes place with it that Wall Street has enacted and has gotten us into this major, major credit mess.

It really goes back to the ’90s. There was an act passed in 1994 that was trying to actually help homeowners get protection from abusive lending, in other words, lending at a very, very high interest rate. And it was passed, and it was advocated by consumer advocates, and it had aspects of being a good bill. However, what it did was cap them after a certain rate, after a twelve-and-a-half percent rate, after a certain rate over treasuries, and it didn’t cap all of the abuses that could happen in between. So what it did, in fact, was create the beginning of the subprime situation, where lenders could say, “Alright, we don’t want to come under this regulation” — it’s called the HOEPA law, H-O-E-P-A, Home Owners Equity Protection Act of 1994. Lenders said, “Alright, you know what? We won’t come in there at the high rates. We don’t want to get on the radar screen in that respect. We’ll just come right under, and we’ll start to look for ways to make loans with lots of bells and whistles and lots of fees attached to them, where we can come under the radar screen and start to create this kind of market of potential problems.”

Now, we didn’t know these problems were happening in the ’90s. That was one issue. They didn’t start to happen until the market started to fall apart after the boom of the ’90s, the bust that occurred in 2001, 2002, because of a lot of corporate scandals and other measures that were happening in the world and in the US economy, in particular. And since then, we’ve had a fallout. But the seeds were placed in the ’90s.

The second thing that happened also in the ’90s, in ’94, was the Truth in Lending Act, which was a 1968 original act. It was put together to create a situation where lenders had to disclose — and not only disclose all of their potential alarms that could go off within a loan to a perspective borrower, they had to also be accountable. And that’s a situation we’ve come a long ways away from, is the accountability of lenders, that they could actually be brought to court, be brought to trial, be brought to be accountable for hidden problems in their loans.

In 1994, that Truth in Lending Act was amended, and it was amended because there started to be a lot of lawsuits, starting in Florida, then flowing through the United States, which basically said, “You know what? If lenders go outside of their responsibilities, they can be sued. They can have to pay out. They can lose certain amounts of money that they have counted on.” And the lenders were like, you know, “We don’t like that. We don’t like to be accountable for what we’re doing,” so they lobbied for the amendments, and that happened in the ’90s.

AMY GOODMAN: Well, let’s go then to the campaign adviser to John McCain, Phil Gramm, the former Texas senator. David Corn, can you talk about his significance today and in the past in this crisis?

DAVID CORN: Well, yes. And Nomi gave us a great introduction, and it’s a pleasure to be on a show with such an informed and intelligent voice on these matters, which often are quite complicated.

But another part of the history that has led to the subprime crisis involves a sly backroom legislative maneuver mounted by Phil Gramm, who was Republican chairman of the Senate Banking Committee in the ’90s, and this happened actually in the end of the year 2000, and who today is a leading adviser to John McCain, co-chairman of his campaign and mentioned as a possible Treasury secretary should John McCain win the presidency.

And what happened in 2000 was — it was a painful period for some of us. It was the right — it was the week that the Supreme Court was giving the election to George W. Bush. As often happens in Washington, Congress had yet to pass most of the appropriation measures that are needed to before that Congress coming to a close, and so they were lumping together, you know, six, seven different appropriation bills into one mega bill, working all hours of the day, and no one really understanding what was and wasn’t in the bill that they had to pass to keep the government going and most people being distracted by the ongoing fight between George W. Bush and Al Gore in the Supreme Court.

And in the midst of all that chaos, Senator Phil Gramm slipped into this must-pass spending bill a 268-page bill, the Commodity Futures Modernization Act, which had been kicking around for about a year. The House had passed one version of it, but there were a lot of different versions. And the point of it was really to do a lot of different types of deregulation. It included something called the Enron loophole, which allowed Enron to sell energy futures on a deregulated basis, which helped lead to the California energy crisis the following year and the subsequent collapse of Enron.

But another portion of the bill deregulated these financial instruments called “swaps.” And one reason I understand this is because Nomi explained it to me some time ago. These are instruments that are created by investment houses and securities firms, and they’re basically bets that cover their investments. So they get them from another firm, so if an investment they have is going to go south, going to tank, they can collect on this so-called insurance policy from somebody else. The problem is that these swaps, thanks to Phil Gramm’s bill, are totally, totally unregulated, and the swap market is something like now about four times the size of Wall Street, in terms of securities that are regulated. And it really turned a lot of the economy into a secret casino, all this action going back and forth, people betting on bets.

And how this related to the subprime crisis is, about this same time, you know, securities firms started bundling all these bad or risky mortgages and securitizing them, and then they would sell these securities or buy them and then buy swaps or sell swaps to cover the possible loss. So it really enabled a lot of firms to go hog wild on the subprime stuff and have — and the brokers who are doing this have no worry about losing, because they were passing on the possible risks of loss to somebody else who never really had to have the assets to cover those losses. And this is all sort of taking place off the books.

When UBS, which is the biggest Swiss banking company, lost — I don’t know, I forget the number now — $38 billion or so on the subprime crisis, it put out an internal report for public consumption explaining how this had happened, and they noted that it had happened, in part, because the securities that they lost money on, connected to these subprime loans, had been backed by their trading in swaps.

So here they were saying, “We were able to do this because of these unregulated swaps,” which some people at this community — Commodity Futures Trading Commission had wanted to regulate. And they were the lobbyists who went to — the financial industry lobbyists who went to Phil Gramm and said, “Listen, we’ve got to have these swaps unregulated.” They convinced Larry Summers, who was Treasury secretary. They convinced Alan Greenspan. And even though the bill was pronounced dead weeks before Phil Gramm did anything, he still managed to slip it through, get it passed by Congress when no one was looking, and no one even read it. You know, no one knew what was in this bill. And then the swap market took off, which helped lead to the subprime crisis.

And so, you’d think that a guy who did that and also gave us the Enron loophole would now be persona non grata in Washington and in the world of high finance. Well, if you thought that, you’d be wrong, because Phil Gramm went on to become a lobbyist and a high-paid executive at UBS, that same Swiss banking firm that lost tens of billions of dollars on the subprime crisis. And as I mentioned earlier, he’s in line now for a high position in a McCain administration. So, you know, you talk about failing upwards, Phil Gramm is a great example of the market not working. Somebody who has failed so grandly as Phil Gramm should be driven out of the market. He should be considered a bad product, laissez faire. But instead, because he’s pals with John McCain and has been for a long time, he’s in line to make these mistakes and do harm to the economy and to all of us yet again.

AMY GOODMAN: You also mention, David Corn, that Enron was a family affair, including his wife, Wendy Gramm.

DAVID CORN: Yes, well, and a lot of this can be complicated, and let me just tell people, if they want to, they can read the story I wrote for Mother Jones at <a href= http://www.motherjones.com/news/feature/2008/07/foreclosure-phil.html >motherjones.com and just go to the home page and click on my box, and it will come up.

But Wendy Gramm, the wife of Phil Gramm, had worked at the Commodity Futures Trading Commission, the CFTC, in the years prior to this and, at the urging of Enron, had passed a regulation — not a law, but a regulation — that had begun the deregulation process for Enron’s energy commodities. And once — while she was doing that, Phil Gramm was getting, you know, tens of thousands of dollars — I think ultimately ended up being a couple hundred thousand, if not a million or so — in Enron-related contributions. And then Wendy Gramm passes this regulation.

About four, five, six weeks after she does that, she leaves the CFTC to go into private business, and guess which board of which corporation she ends up sitting on. Enron, of course. And in the next, you know, couple of years, she and her husband, Phil Gramm, because he’s a beneficiary of this, received hundreds of thousands of dollars in direct personal payments from Enron. So it truly is a family affair, and it’s something that people are appalled about. In fact, you know, even now, Congress is — and the Senate is working on closing what they call the Enron loophole brought to us by the Gramms.

AMY GOODMAN: We’re going to come back to this discussion. David Corn, now Washington bureau chief of Mother Jones magazine, and Nomi Prins, who has just written a piece on the crisis that we’re talking about today, we’ll be back with them both in a minute.

[break]

AMY GOODMAN: Our guests: David Corn of Mother Jones magazine and Nomi Prins. She’s written two books. She’s with Demos. Her latest book is called Jacked: How Conservatives Are Picking Your Pocket.

The Senate is considering this week a bill that would deal with the issue of foreclosures for some 400,000 Americans. What about this? What’s your assessment of it?

NOMI PRINS: It goes back to a situation where the Senate is trying to band-aid a crisis that the Senate effectively, and the rest of Congress, helped to create by things that David was talking about in terms of making it difficult to understand what is going on. Every single bit of financial deregulation makes it impossible to understand what’s going on.

So what the Senate is now discussing is a bill that will help 400,000 or so families in terms of facing a foreclosure and being able to renegotiate their mortgage payment and the balance of their mortgage down, because the market has gone down and they have also had their rates go up in their face. So, basically, to make up that difference they can’t pay for, the Senate is coming in and saying, “You know what? Here’s $300 billion to the Federal Housing Association, and they will be able to effectively insure those mortgages to the lenders.”

In effect, it will help people, but it is also, to a large extent, a lender bailout, because it’s basically saying to lenders, “You know what? Instead of you having to foreclose on a loan and deal with selling it in this market and whatever problems might occur because of that, we’re actually going to guarantee — we’re going to effectively government-guarantee the loan to you, if you choose” — and this is voluntary on the part of lenders — “if you choose to renegotiate down the balance of that mortgage with your borrower.” That’s effectively what is going on in the Senate right now. It will help some borrowers. It does not change the lending landscape, and it does not make lenders have to come to the table and change the terms of the loans that were, in many cases, abusive or slightly predatory or obtuse, to begin with.

AMY GOODMAN: The Federal Reserve chair, Ben Bernanke, also said the Fed might extend its unprecedented lending program to the largest investment banks into next year and has urged lawmakers to increase the central bank’s regulatory powers.

NOMI PRINS: Well, right. This is a thing where the Fed screwed up and knew it was screwing up while it was screwing up. Bernanke said in 2006 the housing market might be soft. He said in the beginning of 2007 that it is a problem, although it won’t drag down the rest of the general economy. He’s had chances to do things along the way and hasn’t.

So now the solution is to give the Fed more power to (a) extend money out to the banking system that abused the money that they had to begin with, in terms of leveraging it into the types of things that David Corn was talking about, in terms of swaps, in terms of subprime types of instruments, and it’s saying, “You know, we’re going to help you, the banking system, get through the mess you created. And you know what? We want more power to basically regulate you in the future, because we didn’t do it enough to begin with during the last few years while all of these problems were brewing.”

AMY GOODMAN: Let me ask you, David Corn, Phil Gramm wrote a piece endorsing John McCain last year. In it, he said about John McCain, "I believe the man we need to meet the mortal need today is here. He is experienced, but has not lost his common sense or his ability to be outraged. His conservatism is not the result of a studied philosophy, but of common sense and personal observation. His name is John McCain. He might not be the right president for all times, but he is the right president for these times.” And he particularly highlighted his willingness to not raise taxes or repeal the Bush tax cuts, but to restrain our spending habits.

DAVID CORN: Well, you know, sycophants go pretty far in Washington to praise people who might be in a position to reward them. And, you know, that’s what that piece was, that was basically, you know, Phil Gramm auditioning for a job in the John McCain administration.

You know, to take a step back from all this, I mean, there is Phil Gramm talking about conservatism and conservative principles. At the same time, you know, Nomi describes the system we have, which is not a conservative system. This is not really a free market system. We have these, you know, institutions that want to be free — financial institutions that want to be free of regulations and have no transparency and do whatever they want in order to, you know, pursue their own profits. But then, when things go awry, they come running to the federal government, you know, for backup, for support. “Well, we can’t let Bear Stearns fail, because then all these people will lose their jobs, and we’ll have a domino effect.”

And, you know, I’m not saying that they’re wrong in that regard, but it’s the taxpayer who ends up being screwed in the first place, who then, you know, they come to to prop them up without really offering much in terms of a stake-holding share in what’s going on. They don’t come forward and say, “We’re going to be more transparent now.” They don’t come forward and say, “We’re going to end our predatory practices.” And, you know, we have few in government — you know, we have some, but not — but certainly not in the John McCain-Phil Gramm camp — that says, “OK, well, we’re going to help you out, but we’re going to demand that you act more responsibly, and we’re going to demand that you let us see what you’re doing.”

This comes close to being a national security issue. If you have, you know, financial institutions, on which the country depends for its financial health, engage in all sorts of practices that we can’t see — you know, these swaps that I mentioned — it’s sort of like the dark matter of the universe. You know, there’s stuff going on out there that we have no idea — maybe Nomi does, to some extent, but most citizens don’t. Our elected representatives, except for the few who serve on the Banking Committee, don’t understand this stuff. Former Secretary of Treasury Rubin, you know, has claimed that he couldn’t — you know, at the beginning, he couldn’t understand the subprime crisis.

And yet, you know, we end up being — the taxpayers collectively — the sucker pool at the end of the day to try to bail these people out or give them better credit. And some of that helps, you know, people who are facing foreclosure and who need loans, but a lot of it is done at a pretty low price in terms of what these institutions and firms and industries have to give back.

AMY GOODMAN: Nomi Prins, what has to happen today?

NOMI PRINS: Well, what has to happen today is we need to create transparency and accountability in the system, and it has to be enforceable, and it has to be mandatory. Lenders can’t voluntarily choose to now go back and help out and make borrowers the culprits and have them do the legwork. It has to be mandatory. Disclosure has to be mandatory. The Enron loophole that David was mentioning, it has to be closed. You can’t have exchanges with trillions of dollars of contracts and trades going through the — not only cannot human people on the regular street understand, but Congress doesn’t understand, the Fed doesn’t understand.

You have to create a situation where every single transaction is transparent, and if it goes outside of certain enforceable legislative enacted parameters, it has to be taken apart, and it has — and the people who are trading or doing whatever it is they are doing have to be responsible for the mess they create, because this situation is Wall Street and lenders basically going back to the federal government, like David was talking about, and asking for help to get them out of the mess that they themselves created, and the federal government and Congress not stepping back and saying, “You know, we’re not just going to help a few homeowners right now. We need to change the entire system. We need to make it transparent. We need to make the legislation enforceable. And we need to bring some control into what’s going on and understanding of what we need to be looking for.”

AMY GOODMAN: Well, Nomi Prins, I want to thank you for being with us. Nomi Prins is at Demos. Her books are Jacked: How Conservatives Are Picking Your Pocket and, before that, Other People’s Money. David Corn is the Washington bureau chief of Mother Jones. His latest piece is called "Foreclosure Phil."

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