Sunday, September 28, 2008

A Preamble to The Right to Outrage

Or, Husain's response Part II.*


I’d like to apologize for stepping into this conversation sporadically, and that too with such lengthy contributions. But since it was my piece that set this off, I feel that I should offer a response to some of the critiques.

A good place to start might be the question that km asked: Just how is sub-prime lending a problem? If we understand subprime lending to be a process where a high-risk borrower receives money at a higher-interest rate, then there should probably be some provision for that in an organized financial system. But many of the subprime loans in this crisis were given to people who should never have qualified for them in the first place, and whose only chance of being able to make good on their payment was contingent on the value of properties continuing to increase. The lending agencies did not bother to check the accuracy of the information that was filled out on the forms, and even encouraged borrowers to lie about their income and credit histories. Informally, these loans were referred to within the industry as “liar loans”.

But why would lenders do that? Why loan money to someone who you know will probably be unable to repay? It is crucial to understand this in order to make sense of the mess. The loans that were given were mostly by mortgage companies that weren’t even banks. Their intention was to make loans only to sell them off to Wall Street, where these loans were turned into securities which passed along from hand to hand, getting transformed into more and more esoteric instruments along the way. As long as the bubble could be kept going, all parties in the transaction made large sums of money (where do you think the $700 billion that is being asked for disappeared?). The racket was too tempting. The runners of the scheme knew it was going to fail; Warren Buffet had called derivatives “weapons of mass financial destruction” way back in 2003. But they also knew that when the house of cards came tumbling down, it would be no skin off their nose. Someone else would be left holding the bag.

There was no regulatory framework to prevent the repeated cutting and repackaging of securities, rendering the system so opaque that no one knows which domino can fall next. There were two other major regulatory “lapses”. One, investment banks were so highly leveraged (for instance, Morgan Stanley has $30 of assets for every $1 of capital), that any gain or loss was highly magnified. These corporations were boldly going where none had gone before, laying down huge bets with borrowed money. Two, the government chose to look the other way on several issues of conflict of interest. Remember Enron? It had hired Arthur Anderson to audit its books, even while it retained the same company for huge consulting projects. The Sarbanes-Oxley Act fixed that but only after a major debacle, which claimed several prominent organizations. In the case of the current crisis, the securites that were created out of the mortgages became desirable only because credit rating agencies like Moody’s and Standard & Poor’s gave them AAA ratings. Why did they do that? Well, financial institutions that want to sell their securites hire the rating agencies for a large fee to help them convert their mortgages into securities that can be sold in the market. Shouldn’t the rating agency have been an independent organization that didn’t have a dog in the fight?

But why was there no adequate regulatory framework in place? Because it had been systematically hollowed out over the years by lawmakers eager to do the bidding of those with deep pockets. It wasn’t for nothing that Freddie and Fannie spent over $174 million in lobbying Congress over the last 10 years. The justification for reducing regulatory oversight was cloaked in ideological terms. The “free market” should be allowed to do what it deems best. What’s good for Wall Street is good for America. The benefits will trickle down. You know the drill...

Keep in mind the following. Fannie Mae was a publicly owned enterprise till 1969 and served its purpose very well. It bought up mortgages from banks, freeing them to loan more money to newer homeowners. By 1970, around 63% of American families owned their own home, up from 43.6% in 1940. Everyone made money, though no one made exorbitant profits. But once private enterprise started competing with Fannie and making more money because they were free to take greater risks, Fannie was spun off as a private concern too in an increasingly deregulated environment; a process that pre-figured the current scam.

So, on to the other major question I wanted to address: Is it fair to blame Wall Street (alone) for this mess? The answer – of course – is no. Wall Street stands in – as its alpha male – for a system that is designed to screw over the disadvantaged. While this has always been the name of the game, its nature has been significantly altered in recent times. To take just one indicator, the Wall Street Journal reports that now the top .01% (14,000) families own 22.2% of the nation’s wealth, while the bottom 90% (around 133 million) families, a mere 4%; numbers not seen in nearly a century. A system of crony capitalism is firmly in place, that has been responsible for the redistribution of wealth from the poor to the rich (check out the Gini coeffiecients over the recent past).

The so-called “greed” of those who were seduced, cajoled, and deceived into taking on the subprime loans is “understandable” because we can all put ourselves in their position and justify their actions. They wanted to move into a decent neighborhood and/or make some money. They assumed that this would happen because they were being told over and over again that the prices of property was rising and would continue to rise, that they’d be foolish to pass this opportunity by, and that the only thing that was holding them back was an inability to get a loan – a hurdle that the salesperson claimed could be easily surmounted by signing on the dotted line. The “greed” of the Wall Streeters however came out of a desire to make vulgar amounts of money from a process that they very well knew was a scam, one that would eventually and inevitably extract a price from the general public in the shape of a taxpayer bailout, but also from poor and vulnerable communities. I suggest that many among us would not find this quite so “understandable”.

So this is what the story boils down to. A powerful coterie of investment banks and hedge funds used hundreds of millions of dollars lobbying a compliant administration and Congress to rewrite the rules of the game in their favor. The administration, charged with being watchdogs, was staffed with people from the very industry it was supposed to police, and often chose to look the other way even as the debacle was unfolding and even as conflict of interest ran rampant. As a consequence, thousands of people lost their lives savings, and millions more will be affected by increased commodity prices, growing unemployment, and an impoverished exchequer that will have to cut back on services to the poor. When it comes to making hard decisions of cutting expenses in the budget next year, whose interests do you think it will be easier to deprioritize; those of the potential contributors to election funds, or those who have nothing to give? And as I witness this sordid drama unfold, do I have to really justify my moral outrage? The demand to blame an abstract “society” is, in effect, the demand to blame no one, to allow the perpetrators a free ride, to encourage them to do it again, and therefore to be complicit in the next scam.

“If these people are too stupid to understand what they're signing, they should stay out of the market,” say some. Great. So we are playing the blame game then. Only, we are going to blame the “stupid”. Who also happen to be the poor. It is their stupdity to blame. Case closed, let’s carry on with life.

Among other things, I do some work with an organization called the Coalition of Immokalee Workers. I visited the town of Immokalee in Florida recently to see the conditions of work there myself. Here’s some of what I saw. Workers herded like cattle onto pick-up trucks, driven to orchards where they pick fruit from the thorny, pesticide-laden trees while balanced on rickety ladders, stuffing oranges into their bags which weigh 100 pounds when full. Ten such bags – a thousand pounds – fill a bin, one bin pays $7. On the best days of the season, a worker fills 7 bins, on the bad ones, only 2. That’s a daily wage ranging from $14 to $49. That’s not all. The living quarters in town are all owned by a single family, which charges a rent that’s a per-sq-ft equivalent to what I pay in NYC. That’s not all either, but why go on when you get the picture. The point is that everything the workers do is out of “free choice”. Informed consent is the name of the game. But please, can I be permitted some outrage?

I will write my manifesto on “The Right to Outrage” sometime soon, but let me end by making a final point. Historians, writing about inequality in the U.S. today, call it the return of the Gilded Ages. But there’s a fundamental difference between that period and this one. The late 19th century was characterized by highly exploitative economic structures, a super-rich oligarchy, an incestuous relationship between big business and government, a senate that was referred to as the millionaires’ club, and a pervasive form of crony capitalism. Sounds familiar? But there was another note to that Age, one of dissent and resistance, that challenged the dominant symphony of those in power. And nowhere was it more strident than in the incipient labor movement of the time. The McCormick Strike, the Haymarket Affair, the Homestead and Pullman strikes, the Bread and Roses campaign... There was a cacophony of outrage that coalesced into a demand to change society in the name of egalitarianism and social justice. But I find myself getting restless at this current silence. Can we have some outrage, please?

*What? You didn't really think I was going to resist temptation, did you?


Rahul Siddharthan said...

Husain, stop going on witch-hunts, you bad person. I'm told that's not how mature, intelligent people behave.

kuffir said...


moral outrage over what? that you have a rich nation in which the poor do not qualify for loans for the most basic needs? or that some bankers chose to lend money, for whatever motives, to those disqualified people?

km said...

The lending agencies did not bother to check the accuracy of the information...

Hallelujah. The fog is finally starting to lift.

See, when there is no moralizing and labeling, the debate is mature and intelligent, Rahul :)

Husain, I do appreciate you taking the time to clarify your point and now I will try and clarify what my problem was with your earlier piece.

By no means am I knocking your right to express outrage. (And while I can't speak for Falstaff, I am positive he is not denying you the right to rage against the ATM machine either. The man writes poetry, for crying out loud.)

But there's outrage that tells us something new and then there's what Dylan called "worthless foam from the mouth".

What special insight do we gain by calling the financial system "evil" or "greedy"? Hey, that's been the popular sentiment ever since someone sold out for a few pieces of silver.

Everyone from cable news networks to bloggers are simply foaming and repeating the same ideas.

Such ranting does not improve my understanding of the problem. It actually hampers my ability to see the problem clearly.

The Freakonomics blog's FAQ is a stellar example of how to explain complex ideas without resorting to labels.

I am sure there are readers of Space Bar's blog who have benefited from your commentary. But I hope I have been able to explain why I am not one of them.

Salil said...

Muchos Thanks for following up.
I agree with some of what you are saying, but then again do we not come back to the fact that there should be a system in place which regulates all of this and is accountable? My likely choice for all of that will be the government, and not the Street, and who votes for them...? Vicious circle is it not?
The Street as we know it from eons ago, stands for profits and money. That’s what makes it click. That’s what makes them so powerful. (Did I hear someone saying Masters of the universe??). While they would certainly have had early warning sign of what was coming and why all of this is such a mess, scam as you will call it. How do you suggest they should have stopped? In this increasingly competitive landscape, self regulation will not work. It’s massive oversight on the Fed’s part not to regulate them. In the interest of the economy. In the interest of the common investor.
As I said in the last post, the primary rule is to protect your capital. And it applies as much to a housing loan or to equities trading. Nobody (at least not me) is trying to make this a blame game. Their position is very much understandable. And they were misled. And I am certainly not calling them stupid. All I was suggesting was that there should be a system in which we can educate these people about safer financial investing options so that they should not be victimized any further. Such a system should ensure that this is not repeated in this measure. And yes, we should have a financial regulator who keeps a check on and reduces the leverage that the I banker’s play with. The reason as someone correctly mentioned, is when I Banks, step aside from their advisory role to take bets on their own, it’s very difficult to pin responsibility. And driven by the herd mentality and competition, the problem spreads everywhere.

Rahul Siddharthan said...

km -- you are only quoting half of that "hallelujah" sentence. The full quote makes clear that they did not bother to check, not out of negligence, but because they did not care -- they were pushing off the liabilities elsewhere.

Moreover, this was already stated very plainly in the first post of Husain (see the question 'Why did the financial institutions lend so much money to these “subprime” borrowers? Weren’t they worried about defaults?'), which did not use words like "greedy" or "evil". He used them in his second word to defend himself from the charge of Wikipedia-style "neutrality".

A huge amount of other concrete information was laid out in both his previous posts, none of which was challenged specifically, let alone refuted, by you, falstaff, lekhni, or anyone else who foamed at the mouth in response (and sorry, I think the Dylan quote was appropriate for a lot of replies to Husain's first post but not to what he himself wrote).

In fact I get the feeling none of you actually read it or wanted to read it: you saw some criticism of Wall Street and pressed some buttons.

If I am wrong, how about writing a detailed refutation (with references: despite what Indian journalists think, "refute" does not mean "deny"!) of all the claims that Husain made that you objected to? Perhaps you can do it on your own blog, minus the falstaff-style snark.

Rahul Siddharthan said...

ps - km, I find the freakonomics thing the most uninformative I have yet read on the subject. It does describe, fairly clearly, what happened and what the consequences may be. But even there, it seems over-specific to Lehman and AIG; the disease is much more widespread. It says not a word about why it happened, which is essential if we are to understand how to avoid it (which also it does not ask). The "why" is also essential in the $700 billion debate.

gaddeswarup said...

RS says "In fact I get the feeling none of you actually read it or wanted to read it: you saw some criticism of Wall Street and pressed some buttons."
I confess that I did. Hopefully, not too many paid attention to my comments.

Space Bar said...

All: Thanks again for your comments.

I'm unlikely to post another separate response from Husain, so unless he responds in the comments section of this post, I'd be grateful if you could convert anything more you have to say into posts on your own blogs.

I think the issue has maxed it's usefulness on this one.

Anonymous said...

Dear all,

Thanks for the opportunity to have this conversation, and for all the affirmations and disagreements - nuanced and otherwise. They helped me clarify my own thoughts and produce a sharper analysis, at least in my own head.

Questions and differences remain, as they should. But perhaps it is time to move on to other things. Shall look out for more of your writings on this, and your own blogs.


Ek vo din jab ek zara si baat pe nadiyaan bahti theen
Ek ye din jab laakhon gham, aur kaal padha hai aansoo ka