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It comes down to public purpose.

The agencies were set up to provide low cost funding for moderate income home buyers.

They have done that reasonably well.

However, for probably 20 years I’ve been saying the agencies should fund themselves directly with the Treasury or Fed financing bank (same as Treasury). This both lowers their cost of funds, which would get passed through to the home mortgages they originate, and eliminates the possibility of a liquidity crisis.

Market discipline should not be on the liability side. It subjects them to risk of a ‘liquidity crisis’ where those funding you can decide to go play golf one day and cut you off for no reason and put you out of business. (And any entity subject to private sector funding to continue operations is subject to this kind of liquidity risk.) Regulation should focus instead on the asset side with assets and capital fully regulated.

This was done for the most part, and this is the same as the general banking model which works reasonably well. Yes, it blows up now and then as banks find flaws in the regulations, but the losses are taken, regulations adjusted, and life goes on.

The agencies made some loans to lower income borrowers as that went bad.

Even with this, most calculations show that at today’s rates of mortgage default they still have adequate capital to squeak by – the cash flow from the remaining mortgages and their capital is pretty much adequate to pay off their lenders (those who hold their securities).

But if defaults increase their ‘cash flow net worth’ could turn negative; hence, it would currently not be prudent for the private sector to fund them.

Paulson has now moved funding to the Treasury where it should have been in the first place.

This removes the possibility of a liquidity crisis and allows the agencies to continue to meet their congressional charge of providing home mortgages for moderate and lower income borrowers at low rates.

There was no operational reason for Paulson to do more than that, only political reasons.

The agencies could then have continued to function as charged by Congress.

If there were any long-term cash flow deficiencies, they would be ‘absorbed’ by the Treasury as that would have meant some of the funding for new loans was in fact a Treasury expense as it transferred some funds to borrowers who defaulted.

Congress has always been free to change underwriting standards.

In fact, the program was all about easier underwriting for targeted borrowers.

If there were any ultimate losses, that was the cost of serving those borrowers.

To date there have been only profits, and the program has ‘cost’ the government nothing.

With Treasury funding and a review of underwriting standards the program could have continued as before, which it might still do.

The entire episode was a panic over a possible liquidity crisis due to the possibility of the Treasury not doing what it did, and what should have been done at inception.

I don’t think the Treasury getting 79.1% of the equity after making sure it took no losses and got a premium on any ‘investment’ it made served any non-political purpose.

There was no reason current equity holders could not have gotten the ‘leftovers’ after the government got its funds and a premium also determined by the government.

Equity IS the leftovers and could have been left alone. (It wouldn’t surprise me if some of the shareholders challenge this aspect of the move.)

Yes, holders of direct agency securities were ‘rescued’, but they were taking a below market rate to buy those securities due to the implied government backing and lines of credit to the government.

I don’t see it as a case of ‘market failure’ but instead poorly designed institutional structure with a major flaw that forced a change of structure.

It’s a failure of government to do it right the first time, probably due to politics, and much like the flaw in the eurozone financial architecture (no credible deposit insurance – another form of allowing the liability side of the banking system to be subject to market discipline), also due to politics.

As for compensation, that too was ultimately under the control of Congress, directly or indirectly.

Lastly, in the early 1970s, with only 215 million people, housing starts peaked at 2.6 million per year.

Today, with over 300 million people we consider 2 million starts ‘gangbusters’ and a ‘speculative boom’.

And in the early 1970s, all there were was bunch of passive S&Ls making home loans – no secondary markets, no agencies, etc.

Point is, we don’t need any of this ‘financial innovation’ to further the real economy.

Rather, the financial sector preys on they real sectors, in both financial terms and real terms via the massive brain drain from the real sectors to the financial sector.

At the macro level, we’d be better off without 90% or more of the financial sector.


20 Responses

  1. “At the macro level, we’d be better off without 90% or more of the financial sector.”

    Warren my friend in south georgia runs a theme park – Wild Adventures, at first it employed locals, then it employed cheap mexican immigrants off the local farms, then they started flying in tribal people from africa who had never lived much above a stick hut – they were happy to work just to have something to do rather than sit in the hot desert all day fighting lions. Why pay anyone to build houses or charge anything for houses?

    Why don’t we import lots of tribal africans to build our houses and then give the houses away to anyone who wants them and get rid of all this financial middleman garbage? I watched lorne green in this movie about Kunte Kinte called roots and some guys up north said NO NO NO, you can’t work kunte kinte building houses, that is wrong, I guess kunte kinte was better off staying home in africa in the desert fighting the lions – much bloodshed and war was spread to make sure kunte kinte didn’t build free houses for free. My friend Canadian General Romeo Dallaire said those people in rwanda and darfur would gladly build free houses to give away for free if you just kept them from being slaughtered – sadly we failed. Look at the cost, we could have had several million people building free houses all over the world to give away for free – I think that 90% financial middleman cause a lot of problems that if they got wiped out would really help the world. I support your meme Warren.

  2. “At the macro level, we’d be better off without 90% or more of the financial sector.”

    This theme may go mainstream….

    “Of course we should regulate and manage the risks that were the proximate cause of the credit crisis. Anything too big to fail should be no more leveraged than a teddy bear, and fragile, poorly designed markets should be fixed. But that won’t be enough. We’ve trained a generation of professionals to forget that investing is precisely the art of taking economic risks, then delivering the goods or eating the losses. The exotica of modern finance is fascinating, and I’ve nothing against any acronym that you care to name. But until owners of capital stop hiding behind cleverness and diversification and take responsibility for the resources they steward, finance will remain a shell game, a tournament in evading responsibility for poor outcomes.

    Investors’ childlike demand for safety has made the financial world terribly risky. As we rebuild our broken financial system, we must not pretend that risk can be regulated or innovated away. We must demand that investors choose risks and bear consequences. We need more, and more creative, risk-taking, not false promises of safety that taxpayers will inevitably be called upon to keep.”


  3. More to the point, the real sectors would be better off in real terms if most of the financial sector didn’t exist, and brain drain was substantially reduced.

    For the basic banking necessary to service the real sectors, we don’t need to top of the graduating classes in engineering and science. The are currently attracted to the financial sector purely by $. Taking away those ops will keep them in the real sectors where they can actually add to real progress and prosperity.

  4. “For the basic banking necessary to service the real sectors, we don’t need t[he] top of the graduating classes in engineering and science. The[y] are currently attracted to the financial sector purely by $. Taking away those ops will keep them in the real sectors where they can actually add to real progress and prosperity.”

    While allowing the 10% remaining in the financial sector to continue to privatize gains and socialize losses?

    The ‘more stupid’ 90% transfer to the real economy where they are told to privatize gains and privatize losses.

    Why not require 100% privatized gains and 100% privatized losses?

    Think it’s possible to create an efficient/optimal system that does this?

  5. “For the basic banking necessary to service the real sectors, we don’t need to top of the graduating classes in engineering and science. The are currently attracted to the financial sector purely by $. Taking away those ops will keep them in the real sectors where they can actually add to real progress and prosperity.”

    One of my computer sci professors at Ga Tech said he was sad to see so many bright people go to business school – even Keynes said the fetish of liquidity was the most anti-social thing of all and gave the wrong incentives to our society, Warren you and many before you have indentified a big problem, but this is an old meme, it seems no one is offering grass roots level solutions joe six pack can take to rebuild society with a better structure.

    The people living in the nice comfy society usually don’t want it bulldozed and rebuilt even if the new society will be much better for them. Keynes couldn’t seem to convince the nation builders to take a wrecking ball to the current state of affairs and the fetish of liquidity has become much worse since his days with dark pools and trading algorithms that work in nanosecond time frames on could computing hardware. I can’t imagine my college business school professors being told their students would no longer be the top of the societal heap – the blow to their ego would be unimaginable.

    There was an episode of futurama where the professor makes a monkey a genius with a special hat and was solving all kinds of techincal and engineering problems to help mankind, but then the hat gets damaged and the monkey is only smart enough to get his MBA – LOL!


  6. winslow- there has to be some kind of public sector for defense, legal, preventing ‘races to the bottom’ in many areas, etc. And yes, it call all be done differntly than we do it now.

    hoov- yes, seems it only changes when it gets ugly enough

  7. Warren, what do you propose we do with 90% of those people that click buttons on a computer all day who you say are not necessary? Those “finance people” who add no value? I think of that movie the MATRIX – agent smith – where he started making lots of clones of himself – the solution in the movie was to kill agent smith and all his clones before he overburdened the resources of the system. What can we do with all these people who only learned and know how to click buttons back and forth? Some suggest to retrain them, but I have studied psychology and nueroscience at college and all my professors told me that around 30 years old the human brain starts to crystalize and it is harder for new neurons to form and learning is not as adept. So you have several million finance types that you lay off and they can’t be retrained really like a new young human can be, and in the search for efficiency and productivity, certainly any capitalist worth his salt would rather hire young brains that can be trained easier than old brains that cannot. That is why it is so hard to rejuvenate the “establishment.” Kurzweil says this constant reteaching of the young is not efficient and we need to make robot brains and bodies that we live in that don’t have the current physical constraints of “wetware.” I know during the bolshevic revolution all the smart finance types in the city basically starved while the dumb farmer types way out in the country had food to eat – unless the military came and forced them out of their crops. You are threatening these 90% agent smiths with a reduced standard of living and obsolesence and they will fight you tooth and nail to keep their place in this world just like the real agent smith did in the movie and I really don’t see anyway you can convince them there is a better way and for them to give up the current reigns of power and go get retrained.

  8. first do no harm.

    so, for example, we are all better off simply retiring them at ‘normal’ pay than letting them keep doing what they are doing.

    my first choice, however, would be to sustain agg demand via fiscal balance which would probably result in ok job offers for most of them. after all they would test well- they all graduated at or near the top of their class.

    this would increase useful output by at least 10% of gdp.

  9. Well Warren, I totally agree with Mike Douglas in that movie “wall street” and you = all these people (vice presidents of tildar paper) getting money, resources, and power to just push papers back and forth to each other doesn’t add to the big problems of mankind.

    I have read your site for almost 5 years now and stopped reading many others because you are a leader and a man of action and more than just a man of words and when I told Sada I would vote you into government I meant it. I spent 18 hours today thinking of ways to cheat the gubbment and IRS man while I traded futures and clicked buttons back and forth on my IB trading terminal – that adds nothing to the science of mankind. You just had a near death experience and now I think is the proper time to breach this subject with you, you and Mr. Masters both need to quit your jobs and doing what you currently do and be men of action.

    I think you both should go back to school and study biotechnology and medicine so that we can have more brains studying bioscience, genetics and help cure humanity of the “hayflick” limit, programmed cell death, and aging, so that you, sada, me, my kids, and Mr. Masters and his kids can live as long as we want too and are no longer burdened by cellular and DNA breakdown. When I see you are a man of words and a leader and instead of telling me to do as you say and not as you DO, then I will quit trading and speculating and go back to school myself and take biotechnology and genetics courses and work on these big problems with you.

    Until I see you do this and give up the lifestyle that comes with being a paper pusher and economist and speculator and trader and money manager, I am not going to make a change to my life either, because I am a monkey and monkey see monkey do, and although this monkey hears you making statements about 90% of the financial sector being a waste, until I see a leader like you flush it down the toilet, and the yachts, and the cute young girls, and the nice steak dinners and the jimmy buffet island lifestyle that comes with it I can’t take you seriously by your words and still judge you by your actions.

    When you are spending 20 hours a day advancing science in genetics for a goal that will help every human on earth – life extension – and maybe if you are lucky you only get a sandwich a day – then I will follow. So when should I expect you and Mr. Masters to start biotech classes and refute the positions you both have now in society that make your place in the pecking order very high? Show me some action warren, if the financial sector is more trouble than it is worth, bail that sinking titanic and hop on board the boat all mankind needs, set the example, be the leader, stop talking about cutting finance types and start doing it yourself with your own career. You can be the best economist out of 7 billion people, but that won’t save your life, but if you quit your career and convince 1 million other finance types to follow you into biotech, that may make a difference for all mankind.

  10. Hi, and thanks!

    I’m way too old (59 this month)to back to school in the sciences and have enough remaining time to do anything productive enough to justify the resources consumed in educating me. Also, with age, capabilities decline.

    What I am doing is spending considerable time and effort putting forth the case for modifying the instituional structure such that it promotes the real goals most everyone wants to achieve.

    I also support numerous grad students, many of which have gone on to become economics professors in the US and around the world, which may be the best route to long term adjustment of political priorities.

    Note the growing endorsement list I just started. It should soon get to over 100, and maybe much higher. 15 years ago, before ‘soft currency economics,’ it would have been near 0.

    Anyway, I do enough to keep my conscience clear, which is a moving target, of course.

  11. I’ve been thinking about this a lot – in particular, in this depressing election year, as both candidates and their partisans accuse each other of increasing the deficit – and repudiate Bush’s deficits, which were the one damn thing this sorry administration has done right!

    Anyway, one of the problems with most of your proposals is that they do require a paradigm shift. I have spent many occasions explaining floating currencies, the difference between an issuer and a user of currency, etc. to friends who had no particular idealogical ax to grind, who were open to the idea, and it still took quite awhile to get them to understand. (That’s in person, face to face. I’ve never succeeded in online fora.) It’s just too complicated, too counterintutive – which is death in politics.

    But the other day, I was explaining to my father the idea of the national property tax. He got it immediately. He understands property taxes, he immediately saw the benefits in enforcement, simplicity, etc. Why not concentrate on that? I did some googling and was astonished to find that there really isn’t anyone else even talking about this idea. Why not start a “Citizens for a National Property Tax” movement? Get it out there, so at least some people are thinking about it…

  12. Jim, a few hundred years ago in france the doctors and aristocrats were discussing “land tax” memes in a serious political movement and then here in the USA last century henry george was discussing it too. My native american indian friend doesn’t like this meme.


    These are not new memes, they are several hundred years old, as you point out, somethng is amiss that they don’t break out into the mainstream. I have a friend that is a budget analyst with the US air force, his job is totally useless, he will admit this to anyone that asks him directly. He keeps doing the useless busywork because otherwise he would have nothing to do. There is a lot of minds occupied in lots of useless endeavors regarding finance and taxes and laws, – making them, changing them, enforcing them, evading them that keeps idle hands away from the devil.

    “repudiate Bush’s deficits, which were the one damn thing this sorry administration has done right!”

    Jim, I would much rather deficit spend to turn our cities into Stargate atlantlis cities, maglev trains all over, etc etc I would rather deficit spend to improve genetic research, I would rather deficit spend to send troops to darfur and save millions of brown people (god bless george carln) from slaughter, but it seems like we spent a lot of money in the middle east, cost a lot of lives, and the price of oil over there didn’t go down much – so I don’t see the point. I ask my peace loving hippy friends in china who I accuse of indirectly funding the middle east excursion why they don’t take their share of the blame over there and then they don’t want to talk to me anymore.

    “Anyway, one of the problems with most of your proposals is that they do require a paradigm shift. [snip] It’s just too complicated, too counterintutive – which is death in politics.”

    It is a very old Meme, I went to dragoncon this year – sean astin was there – he was in this movie HARRISON BERGERON – you should watch that movie – I asked sean astin if Howie Mandel can take his screen character from that movie (chat with charlie) and live it in real life with DEAL OR NO DEAL – why couldn’t sean astin do like his screen character and start living him in real life – he looked at me like I was a nut but I was being serious. We are dumbing down our populace, in engineering circles the more “easy to use” we make all the tech in our society, the dumber the people can become to exist in society – this downward spirals into making a bunch of high tech societies that everyone eventually becomes too dumb to exist in because they don’t understand how to fix anything or the big picture is accelerating it looks like to me.

  13. Jim, National property taxes is a great idea. I think its a very fair tax. The more you take, the more you pay. Regarding “explaining the complicated.” That’s what talented politicians and the media-heads are supposed to be able to do. Make the complex simple.

    Hoover, Willie Nelson (I think you are the same guy) Warren is doing a heckova lot towards the end of changing our macro economic policy in the world. Its going to take time, but we will get there I am sure.
    Note, he ran for Congress a few years ago.

  14. Willie Nelson didn’t pay his taxes, I can’t stand someone that doesn’t pay their taxes.

    I know he ran for congress, I have been following warren a long time – I really like Warren – he knows you can’t take life too seriously – you will never make it out alive like that 🙂

    However when my kids ask me why I don’t go to school or to the library or to the internet and educate myself to genetics so that they don’t have to die, Respectfully I will tell them what Warren told me, I am too old, my brain don’t work so good anymore, it would be a waste of time and resources to do so, the “jerry maguire” impact I could have on the people around me wouldn’t add much – etc etc

    Biden finally released his taxes and asset holdings – I never realized Biden was so poor!


    Biden is a literal pauper compared to the current president and vice president, McCain and his wife however are so much wealthier than obama/biden or the reported assets of bush/cheney. Keating 5 payouts included 😉

    Still wealth in and of itself perhaps doesn’t matter much in this world after all, after watching that movie “the good shephard” about the CIA, perhaps having a daddy that has CIA contacts all over the world means more than having lots of green paper in your bank account. Not to mention being from texas and having all those oil contacts. It seems we had an administration that had a lot of connections to oil and cia type stuff, but the new guys coming in like obama and mccain don’t seem to have nearly the same political connectivity.

  15. Willie Nelson didn’t pay his taxes, I hate a tax cheat. Biden just released his assets and income – less than a couple hundred grand!!! He is a literal pauper next to the current president/vice president, and gutter trash (financially speaking) compared to mccain and wife (keating 5 entanglements included 😉

    Still bush/cheney had oil and CIA connections all over the globe – like that movie “the good shepherd” proved – it helps when your daddy has lots of CIA contacts all over the world.

  16. I was drawn here by the mention of Henry George (Willie Nelson’s post) and intrigued by your final line:

    “At the macro level, we’d be better off without 90% or more of the financial sector.”

    Well, were we to implement Henry George’s remedy — a fine idea, to my way of thinking — one of the (many) side benefits would be that the price of housing would go down, and the entire mortgage lending sector would shrink considerably.

    As we do things now, the buyer of a home pays the seller both for the house and for the land on which it sits. Most of us don’t have that sort of cash sitting around, so we must borrow it from someone, and the amount is far more than we can pay off over the course of a few years, so we take on 30-year mortgages, and in the early years of the mortgage, only 10% or less of our payment goes to reducing principal; 90% goes to the mortgage lender. [Worse, we refinance the mortgage, and relive that — groundhog day — over and over; or we upgrade to a better-located home, and repeat the process there, paying off another seller and another first-year-experience, postponing further the time when we own the home free and clear.]

    On the coasts and near most healthy cities, over half* (and in some areas, over 75%) of the purchase price is not for the house itself, but for the land on which it sits. Houses depreciate, at about 1.5% per year*; what appreciates is land. But it appreciates for reasons that have nothing to do with the seller, the landholder. Rather, it appreciates because of population growth (due to increased fertility, decreased mortality, immigration, migration); local amenities like nice views or healthy economies; public investment in schools, public health, emergency services for individual and general emergencies; infrastructure like roads, expressways and interstate highways, bridges, commuter rail, airports, sanitary sewers, stormwater runoff, city water; parks and recreational facilities; respected courts and, if needed, a prison system and mental health facilities for those who can’t cope under the rules; technological advances such as air conditioning (which made broad swaths of the south more livable for northerners), elevators (which made urban land more buildable), construction equipment advances from WWII which made tough sites easier to build on.
    *source: Federal Reserve Board study, May, 2006, citing data for 2004.

    As we do things now, the landholder grows rich from the results of processes he has nothing to do with … not a bit more to do with than his neighbor who is a tenant. Playing by the rules is not very productive for tenants. If one wants to jump onto the gravy train, one must pay off the previous occupant, and, by the way, enrich the mortgage lender, too. And then, one must pay property taxes and sales taxes and wage taxes.

    The better way would be to reform the property tax. Eliminate or at least lighten the portion of the PT that falls on buildings. Increase the millage rate on land value — first by enough to stay revenue neutral while getting rid of the building tax. But then follow Henry George’s dictum:

    “abolish all taxes save for one single tax levied on the value of land, irrespective of the value of the improvements in or on it”

    Right now, those who itemize their deductions on federal income taxes pay about 3 times as much in interest to mortgage lenders as they do in property taxes. They don’t seem to complain about that, but many complain about what they pay to provide the services that increase the value of the land they occupy, that make their community a decent place to live.

    Sales taxes and wage taxes depress the economy, but we complain very little about them (except maybe around March when we’re trying to figure out what we owe and how to minimize it).

    I’ve detoured from my initial point, which is that were we to use Henry George’s remedy, we could reduce considerably how much the home buyer most borrow from the mortgage lender, and, at the same time, shift to a much more efficient and direct form of taxation, which would not deaden our economy the way sales taxes and wage taxes do. We’d pay the community for the use of our land, in the form of a land value tax, or ground rent. This would also have the benefit of causing people or corporations which own really choice pieces of land to put them to better use; redeveloping them sooner, figuring out what the market wants and how they can make that land profitable; one of the effects of that would be to help reverse urban sprawl and shorten our commutes, and thus have us using less fuel and producing less pollution.

    All these things appeal to me. I think we’d have a more sustainable economy and environment, and better lives for 95% of us. (Mostly the 95% who currently share only 43% of our net worth — see “wealth distribution” at http://www.wealthandwant.com/)

    And in addition to paying the mort

  17. all very valid points of discussion, thanks!

    while my primary reasons have been different from George’s that doesn’t at all diminsh his ideas.

  18. LVTFAN, I hear you brother, but warren can’t even seem to get this idea passed on his small islands…. If I read the article correctly, people haven’t paid property tax there in over 5 years…


    St. John group asks judge to block release of new property tax bills
    Friday, September 12th 2008

    ST. THOMAS – A group of St. John property owners formally asked a Chief District Judge Curtis Gomez on Thursday to prohibit the V.I. government from issuing property tax bills until all property valuations are determined in accordance with standards of the International Association of Assessing Officers.

  19. “Until I see you do this and give up the lifestyle that comes with being a paper pusher and economist and speculator and trader and money manager, I am not going to make a change to my life either.”

    Hi Willie,

    He was not implying that anyone in the financial sector should give up what they’re doing and be a scientist.

    Our current financial structure is set up so that the financial sector attracts the brightest, most ambitious, and most creative because it is the sector where you can make the most money.

    Government (whether they mean to or not) determines macro pay scales, and the genetic engineers or cancer researchers could earn more proportionally to other careers. Paychecks symbolize value or contribution to our society. The financial sector, specifically, does not contribute much or produce anything real, which is why it seems strange that the wealthiest people are the ones best at finding arbitrages and tax loop-holes. Do they really have the most value?

    For an exaggerated example, if tomorrow teachers were paid more than Wall Street traders, the quality of teachers would immediately shift. The competition would be very cut-throat, and schools would no longer have a difficult job finding teaching staff. The only real investment, our children, would have a much solider foundation.

    So for now, keep the yacht and the pushing paper jobs, changing your personal behavior does not make a macro difference! Everyone has to pay the mortgage. If the financial sector makes you the money to do that, I see no reason to discontinue.

    We just have to look at our country and see if that’s really the sector we want to place the most value.


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