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September 13, 2007

Comments

Madjay

This seems like a principal-agent problem, where the incentives for the people handing out the loans have diverged from the interests of those who own the money.

The interesting question then is - who stood to lose most if (when) things go pear shaped, and why couldn't they reign in any excessive risk taking?

Robert Jennings

Sorry, bad analysis ... first there weren't any "lenders" there were mortgage brokers and there were securitization vehicles. The people that were too trusting were the investors in the securities,and they were too trusting of the brokers and the investment banks not the poor borrowers. In fact many of the borrowers were also hurt, by those same brokers.

Alison

As well, the Congress passed legislation that substitutes indentured servitude for bankruptcy.

Can't pay the loan right now? You've got a lifetime!

Phil

I think Robert's nailed it - it was essentially a shell game. What this would say about capitalism is that there's no necessary limit to short-termism, or to the damage it can do when it comes unglued.

Sam

If your intention is to take a risky gamble, but "cover" yourself by expecting a government bailout of one sort or another if you lose, there's less incentive to do your risk analysis properly.

dsquared

more that the whole point of taking a mortgage on the house is that (in a rising housing market, which everyone believed was the case) you don't need to worry about trusting the borrower because you've got collateral.

reza

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Laban Tall

Chris - slightly off topic, but me no understand exactly what's happened with Northern Rock :

I'm not sure I understand this. I gather there's no issue with solvency (lots of good property/borrowers on the books), but they can't continue to lend money unless they borrow it, because they haven't got a big enough base of depositors. The Bank of England are lending at "a punitive rate of 6.75%". But the 3-month inter-bank lending rate (LIBOR) is only 0.13% higher at 6.88% - why can't they borrow there ?

You have to presume that it's not the interest rates so much as that the other banks are REFUSING to lend to NR. Is that correct ?

chris

Laban - yes it is, insofar as I understand it.
Robert - for any debt, there must be lenders: this is a necessary truth. The subprime arose because ultimately, someone somewhere (SIVs, hedge funds, UK banks, whoever) thought it a good idea to give Cletus a mortgage, even though interest rates were rising, job prospects were poor and house prices toppy; remember they peaked back in 2005. For sure, there was excessive trust in ratings agencies. But did noone keep their eye on the ball? Are these guys even stupider than I'd thought?

Mark Wadsworth

Robert Jennings - excellent summary!

Bob B

"slightly off topic, but me no understand exactly what's happened with Northern Rock"

Judging by interviews broadcast on the 12 noon news bulletin on BBCR4, in Sheffield they were rushing to make deposit withdrawals. It was just like the old days have come back again.

Danny

Chris, as you've heard me rant from time to time in the office, the still-to-come element of the subprime-into-CDOs debacle is that for all their plunging mark-to-market value, the securitised slop held by hedge funds and hapless Mittel-European banks with no in-house research capability is in fact still the most creditworthy slice of the particular collection of loans recycled into any vehicle - deliberately made so by the originators holding onto the so-called 'equity' or first-loss tranche themselves. This is the real toxic sludge, whch must be still sitting on the books of Wall St's finest and currently dripping through the floor of its holding cell like Alien's blood. This is where the pending wave of US house-repossessions and forced sales will be felt first, so the question is, how can they disguise/put off or stretch out the inevitable losses for as long as possible? I don't know enough about banking accounting standards, but my bald friend on the capital markets desk says its easy enough to classify a lot of these first loss tranches as supposedly 'long-term assets' held on the bank's book like any normal loan, which will at least not need to be marked-to-market or provisioned against in upcoming quarterlies....

Andrew Duffin

"look at how spending on security guards and CCTV has risen"

This arises because of inequality?

Inequality relative to, what shall we say, the 1920's and 30's?

I think not.

Bob V

Typically when we say "trust is good for economies", we mean that an environment that is free from "opportunism" is good. That is, we want to operate in an economy in which we can trust people to give us correct change, show up to work when they have promised to, and not cut corners even if you aren't monitoring them. We want to be able to trust the other party to not intentionally screw us over.

With the subprime thing, the homebuyers haven't intentionally made off with the money of the lenders. There hasn't been a trust failure.
---
Moreover, when we say "trust is good", we mean well-founded trust is good. A society in which everyone trust each other even though everyone opportunistically takes advantage of each other in transactions obviously has no advantage over an economy where no one trusts anyone else.

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