The dissent on the financial crisis report
Image by Getty Images via @daylifeThe government commission’s account of what caused the 2008 financial crisis offers a broad indictment of regulatory weakness, Wall Street avarice and corporate incompetence. But that narrative is competing with alternative views by the Republicans on the panel, who released their dissenting reports on Wednesday.Wallison is closest to the mark in analyzing what happened. The bad loans that the government forced lenders to make was the proximate cause of the crisis. The other regulatory problems were just a symptom of what happens when you force people to make bad loans. They reflect how the cancer from the bad loans worked there way through the system.
One dissent points to broad economic forces that contributed to the credit and housing bubbles that built up during the last decade, including a glut of savings in developing Asian countries that began accumulating in the late 1990s and provided the fuel for mortgage-backed investments in the United States and Europe. It does not focus on the culpability of government and business leaders, as the main report does.
The other dissent argues that decades of government policies to promote homeownership are to blame for the creation of tens of millions of shoddy mortgages before the housing bubble burst in 2006-7. Though not the mainstream view, it could affect the looming debate over the future of Fannie Mae and Freddie Mac, the mortgage finance giants that have been in government conservatorship since 2008.
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The main report, a 576-page paperback due in bookstores Thursday and titled “The Financial Crisis Inquiry Report,” offers ample ammunition for critics of Wall Street.
It cites “pervasive permissiveness” by regulators, “dramatic failures of corporate governance and risk management,” and “a systemic breakdown in accountability and ethics.”
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In a 25-page dissent, the three Republicans say the Democratic report “is more an account of bad events than a focused explanation of what happened and why. When everything is important, nothing is.”
The three men say that some of the majority report’s culprits — excessive political influence of Wall Street, a deregulatory ideology and a flawed regulatory structure — fail to account for the failure of financial institutions in Europe.
“By focusing too narrowly on U.S. regulatory policy and supervision, ignoring international parallels, emphasizing only arguments for greater regulation, failing to prioritize the causes and failing to distinguish sufficiently between causes and effects, the majority’s report is unbalanced and leads to incorrect conclusions,” they write.
The dissent also suggests that the Democrats were too quick to blame exotic financial instruments, like over-the-counter derivatives and collateralized debt obligations. The problem was not the instruments themselves, but a failure to use them appropriately, they write.
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The fourth Republican, Peter J. Wallison, who was the chief lawyer for the Treasury Department and then the White House during the Reagan administration, is offering his own, 99-page dissent, which argues that government housing policies fostered the housing bubble and the creation of 27 million subprime and so-called alt-A loans.
It was the losses associated with these weak and risky loans that brought down financial institutions, not deregulation or predatory lending, Mr. Wallison, now at the conservative American Enterprise Institute, writes. He argues that the Dodd-Frank law “seriously overreached” and will “have a major adverse effect on economic growth and job creation.”
Without the bad loans the credit instruments would not have been a problem. Because the bad loans were packaged with good ones, they tainted several pools of loans and made it hard to determine the value of whole pools of packaged loans.
Regulation of the instruments was minimal because they were securities exempt from the registration requirements of the securities laws and they were bought and sold in exempt transactions between financial institutions. You can make an argument that the instruments used the package the loans should not be exempt. You can also make the argument that the transactions should not be exempt. But, the Dodd-Frank bill with all its pages focused instead on the symptoms of the problems as they worked their way through the financial system rather than the cause of the problem.
The securities firms also paid a heavy price for their own failures. The risk analysis used by the firms failed to predict the catastrophic effect of the bad loans working their way through the system and the cascading effect the bad loans had on the housing market in general which further drove down the value of the security in the packaged loans. I suspect the relied too much on the quants who were crunching numbers and did not look closely enough at the underlying assumptions in their work.
Those investing in the instruments also did not appreciate how leveraged their investments were. To lose the kind of money they lost in these instruments you clearly have to have leverage. The greater the leverage the greater the potential loss. The commodities markets deal with leverage all the time on their products and have a system for requiring increased capital when the market moves against an investor. The derivative market needs some kind of trigger that would require increased capital based on the value of the instruments. These kind of things should not require a 2,000 page bill.
I think the majority report amounts to a cover up of the bad housing policies of the Democrats which the proximate cause of the problem, and the Dodd-Frank bill is just one of the instruments of the Democrats' cover up of the biggest screw up in history.
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