The Harvard Business School Association of Boston sponsored a lunch with Barney Frank speaking on “The Mortgage Meltdown: Lessons for Public Policy” on Nov 10.
Congressman Frank stated that he would divide his talk into three parts:
How did we get into it?
How do we get out of it?
Future implications for regulation and financial services
He reviewed the major cycles of innovation, problems, and regulation that have occurred over the past 100+ years.
In the early 1900s, large enterprises called trusts were created to control industries or multiple lines of businesses. This was the beginning of the era of large companies. Then, the negative effects of monopoly power became evident and the trust-busters advocated breaking up the trusts. No, the other side said, let’s regulate and thus prohibitions against use of monopoly power and price fixing were established and applied to these entities.
With the large organizations needing capital, the stock market dramatically expanded—until the crash in 1929. Again, government stepped in and Roosevelt created the Security and Exchange Commission.
Securitization of assets was the latest wave of innovation and showed how interconnected the world is. “We need to regulate the activities, not the institution. If we regulate Bank A, then soon Bank A1 will appear to continue the activity.”
For example, we could require that originators keep the first 10% of any losses. That will get them to be more careful.
We need new regulations in the era of securitization. The historical cycle is that entities innovate to avoid regulation and constraints, then problems occur, and regulation is created to fix those problems. So entities innovate to avoid the new regulation and the cycle continues.
On getting out of this crisis, we need to make sure that financial institutions can make loans. “People over learn lessons.” We need to reduce foreclosures because foreclosures ripple out in concentric circles. “We are doing an economic recovery package aimed at infrastructure spending by states to present layoffs.”
Our whole fundamental view of the world was wrong. We thought that institutions would regulate themselves. “Didn’t happen.”
AIG’s regulated insurance business generated so much cash that it went into de-regulated businesses. “Something like selling life insurance to vampires. The expectation was that vampires never die so they’d never pay out, but, guess what, the vampires started dying.”
When I asked him about the possibility that the bailout would extend to the auto industry and the airlines, he replied “I’m skeptical about autos and airlines. Credit is essential; the decisions are based on interconnectedness, not direct benefit. The bailouts should not cost the government any money in the long run. Remember the airlines got a bunch of money after 9/11.”
In 1994, Congress gave Greenspan the power to regulate non-bank mortgage entities. He refused to do so. Bernanke is doing it. The Community Reinvestment Act (CRA) has been blamed for the bad mortgages. Not so, the banks were not the problem.
Rental assistance programs have gradually been cut. The question was asked, “What should these renters do?” The answer was “We’ll help them buy homes. A little like Marie Antoinette’s let them eat cake…..”
“Some people are not financially or temperamentally suited to be home owners. They should be renters.”
The previous administration’s thesis was that regulation/government was bad. The antithesis is too much involvement by government. The synthesis is balance.
“There’s a serious effort going on to fund a WPA and reduce mortgage foreclosures.” There’s more cooperation between parties going on although the House is more contentious than the Senate because House members are more ideological.
People ask “How are we going to fund them. Well, on Sept 10, 2001, there was no money in the budget for a war in Iraq. Since then, $600 billion has been found. I’ll find the guy who found the $600 billion and ask him.”