The first reason for our financial and economic problems: social engineering

This is a summary of an excellent article by R.V. Green on how social engineering created the credit crisis. The complete article can be found on briefing.com.

1. The government created the current credit problem when it wanted to ensure every American could buy a home.

2. The Glass-Steagall Act required that commercial banks hold these mortgages until maturity or the debt was repaid. The down payment was 20%.

3. Since banks were required to hold a mortgage for the duration, they were very selective. Outcome: cry for government policies to increase home ownership was a strong and powerful voice.

4. In 1938, a government agency called the Federal National Mortgage Association was created to guarantee mortgage loans by banks, so that ordinary Americans would be able to obtain home mortgages.

5. In 1968, the Federal National Mortgage Association was split into two entities. Ginnie Mae retained the role of guaranteeing mortgages issued for "special assistance programs."

6. The second was Fannie Mae, whose role was to create new mortgage capital. Fannie Mae was also "privatized" at that time. In 1981, in order to expand the capital markets for mortgages, Fannie Mae began selling mortgage backed securities, or MBS. A mortgage backed security is a pool of mortgages with roughly similar characteristics (term, interest rates, credit quality of borrowers) that is sold as a single entity.

7. To make MBS securities attractive, Fannie Mae guaranteed payment of the interest rate coupons on MBSs. This guarantee would also later become the downfall of Fannie Mae.

8. Home ownership increased from 55% of U.S. homes in 1950 to 63% in 1965 to 69% in 2006.

So what did go wrong?

• Standards for mortgage issuance declined
• MBS securities were restructured into new securities, to accommodate the riskier loans
• A sharp rise in interest rates, reversing a 20-year trend of decline
• Overbuilding of new houses, leading to pricing pressures.

More, much more of my analysis and recommendations when you read older posts in the blog archive and subscribe to The Peter Dag Portfolio by going to https://www.peterdag.com/.

George Dagnino, PhD
Editor, The Peter Dag Portfolio
Since 1977