I want to try to explain the current Financial Crisis to the curious on DU.....

[RollWithIt]

I've seen quite a lot of negative comments about the current negotiations in Washington concerning the "bailout", then the "rescue" and what I believe will eventually be described as the Rescue bill.

To understand the ramifications of what is happening right now you have to understand the concept of commercial paper and how deregulation of underwriting and sale of mortage backed securities has gotten us into the mess.

ponzi scheme

Dictionary.com Unabridged (v 1.1)
Pon·zi /ˈpɒnzi/

a swindle in which a quick return, made up of money from new investors, on an initial investment lures the victim into much bigger risks.

Commonly a Ponzi scheme involves just a few individuals or companies. The end result of these scams are swift and painful and in most cases they are finished within a few short years.

Our banking system involved in a GIGANTIC ponzi scheme. Most of it actually began occuring when we were coming out of the 2001 recession.


Here's how it worked. Bank A is approached by a customer to take out a Home loan. Before they go to the customer to give them an answer they check with their pimp. In the case of most American Banks, the pimp was a guy named Freddie and the Mistress in the back was named Fannie. So Freddy & Fannie tell Bank A that he can get a loan from them for .5% to 1% interest on the loan. Bank A tells the customer they can cut the loan at 5-9% (or if they're predatory MUCH more). The customer, who really wants that house or really needs cash and has equity agrees to the deal.

As soon as the ink is dry on the deal, Bank A sells that Mortgage to Bank B for the term of the loan plus 2% interest. Overnight Bank A has cashed in on a 30 year mortgage. Now Bank B owns it at 2%. Bank B sells it to Bank C for 3%, Bank C to Bank D at 4%, and so on and so forth. Very little underwriting, very little oversight. Eventually you get to Bank E or F who is dependent on the payments being made and can't sell the mortgage. Their profit margin is small, and on the books they no longer have an asset. They paid something for it, and in reality they have to collect to recoup the original asset. So even if the person hasn't even defaulted on the loan, it's still a writeoff on their books. Its value equals nothing when you subtract the debt they owe to the bank they bought it from (Eventually everything rolled back down to the Pimp and the Mistress). So it's considered a "bad asset".

At this point that bank has no capital reserve to loan money for new loans anymore. In fact, they only have the cash that may be sitting in that particular bank. Everything else is just paper, and the paper has red ink smeared all over it. So the bank can't loan out any new money on legitimate short terms and longterm deals, even if its to longterm customers and people with fantastic credit and fantastic work histories.

So what does this bill really do? If you read the actual bill that's floating the Senate right now, it's a FAR cry from the original 2 page proposal Paulson sent to the hill.

Remember that I just explained the concept of a "bad asset" still being a valid undefaulted mortgage because of the Ponzi scheme. This is the biggest misconception about what is happening right now. The current bill basically gives the Federal Government the power to the Treasury to step into banks and buy these assets. Currently of all the mortgage assets out there, only 10% are actually in default. But because of the plunge of home values and the ponzi scheme those assets are worthless to the banks themselves. The treasury steps in and buys those loans (90% of which are still good) for pennies on the dollar. So a lot of these deals are going to look like this:

Bank E says to treasury, I've got 10 billion in mortgages (currently being paid) sitting here that I'm paying 11 billion a month for. What will you give me for them? Treasury steps in and buys them at 25% of value, negotiates the erased debt off the asset books of that bank. Bank becomes solvent again, Government owns 10 billion in mortgages and only paid 2.5 billion for them.

It's not a giveaway, or a bailout, it's actually a pretty good taxpayer investment. First time I can remember the Federal Government actually investing in the corporate sector like that. And in the process they've tacked on a shitload of regulation, oversight, and nice restrictions that the banking industry should have always had to deal with.

It's incredible how misunderstood the whole problem is.

[percussivemadness]

1. excellent surmisal

[SurfingAtWork]

2. This is the most easy to understand explanation I've heard so far.

So how do mortgage backed securities fit into this picture? Is it one of the banks along the way, or is it a different animal altogether?

[RollWithIt]

9. Easiest way to explain it is Bank A sometimes became Bank E, or C, or D...

Few Banks operated solely as the first in line. They were traded back and forth in bundles in a circle.

[boppers]

3. Becoming the last creditor means that we're buying bad paper from scammers.

Yes, we may profit from it.

*May*.

If, oh, the government isn't overcharged (like that ever happens.. oh, wait.)

Besides that, what's to stop this kind of thing from happening again, and again, and again?

Put in even simpler terms, who winds up "holding the bag" for the failed scheme?

[percussivemadness]

5. we`re going to end up holding the bag no matter what

I would just welcome the opportunity to have something of value in the bag...

[RollWithIt]

7. You overlooked the value part.... we're buying in at LESS than the first creditor paid...

Pennies on the dollar. And over 90% of what we'll be buying won't be bad bad, they will be currently non defaulted mortgages. And the bill even has a whole section on the ability of the consumer to go to court to renegotiate the loan based on current house value and interest rates.

[peacebird]

4. Where is the guarentee that the Fed will NOT buy the toxic debt at top dollar

and then sell them off to their buddies for pennies on the dollar? There is NOTHING in the bill to prevent this, it is being offered as a matter of "faith and trust" that the Fed will use our money wisely.
I do not trust Paulson or Bernanke any more than I trust Bush.

Trickle Down - that warm wet stuff you feel isn't rain, it's the rich pricks pissing on you.

[RollWithIt]

6. Well, the buyouts will be staged, not all at once.....

And they're overseen by a bipartisan committee in Congress. Everything runs through that committee. And Paulson won't even be treasury secretary in 4 months.

[peacebird]

8. somehow I don't feel terribly reassured based on Congress's recent record.

:puke:

[RollWithIt]

10. While this is true, keep in mind Jan 09 we'll have Obama and a huge Dem majority....

The trick is creating followup legislation to strengthen the new system. Just my 2 cents.

[brentspeak]

11. What a condescending, patronizing piece of drivel

After dangling the number of $700 billion for two weeks, they just upped the bailout figure to $850 billion at the last minute. And there is no effective "regulation" and "oversight" included in the bill. Nice try, buddy.

[Just Visiting]

15. The true figure will be 3-4 trillion

Everyone in the industry knows it.

The "regulation" crap is merely to placate the gullible - it has no teeth, and everyone in the industry knows it.

Real quickly - I used to be in this business. Not on the level of the power players, but close enough to be on board the private charters to Scotland for golf weekends.

Whether folks here believe that or not is entirely up to them.

I am NO saint. Even though I had qualms about what was happening when I was a part of it, I had NO qualms at all about cashing the checks.

I can tell you with almost absolute certainty that the folks on the receiving end of this giveaway are laughing like banshees. They have played everyone for the fearful fools that they are, and when this money comes the profits my former colleagues are going to turn with it are going to be staggering.

You won't see a dime of it, your debt will be as heavy as ever, your inability to extricate yourself from it will be ramped up by a factor of 10, and the dollar is going to nosedive. Be very fearful of what you consider safe harbor for your money, because the small local banks are going to take the hit for all of this.

Sure, your 401K will be "protected" - as if that is going to matter. Whenever my "friends" feel the urge, they will yank the fear string and you'll jump like jackrabbits.

It is going to get very bad very soon - not tomorrow, not even next month, but soon. All I tried to do during my time here was to try and make you aware of what is coming down the pike. As I said in a previous post, the suckers get reeled in no matter who sits in The White House. Honestly, you don't mean shit. I couldn't have cared less what your circumstances were at the beginning, and up until the very end I repeatedly made the decision that my paycheck far outweighed your pain.

I've got miles to go before I can undo what I was a part of, so maybe my coming here was a first step. I really don't know.

All I can hope for is that you check your political beliefs at the door, read everything you can get your hands on, and above all do not believe simply for the sake of believing.

If you do, there is someone out there just waiting to take my place in the foursome, and he doesn't give a tinker's damn whether your house is a three bedroom in the suburbs or a box under a bridge.

Goodbye for now, and until/if we "meet" again do not stop questioning them.

ALL of them.

[brentspeak]

17. Thank you for your response

Very good food for thought.

[AuntPatsy]

19. Thank you for sharing, it is really no surprise to me, what I am thanking you for though

is realizing that you were wrong in not caring about those beneath you on the pay scale...if more woke up as you seemed to perhaps one day, perhaps a hundred years from now we won't have to constantly be on our guard toward those that pretend to act on our behalf but always seem to have ulterior motives be they fueled by selfish desires and or just plain hate and bigotry...

[steve2470]

21. just wow

If what you say is completely accurate, we're further down the toilet than I had dreamed. :scared:

[Poseidan]

22. interesting

If what you're saying is true, it goes to prove even further, we should not buy anything from banks. Credit is the problem, tax-payers can provide each other with credit, completely circumventing the banking industry.

[grantcart]

12. I would be interested in your link that 10% are in default

I understood that the number was closer to 2-3% and the 1,500,000 foreclosures this year would seem to confirm that.



It is having a huge impact not because the number of homes being foreclosed is so great (although it is) but that the securities you mention are so heavily leaveraged that even if a small amount fail it has a huge impact.

[sniffa]

13. OTTGPWY

Look at the many top floating threads - they don't understand.

[endthewar]

14. If it's such a great investment, why only invest $700 billion?

I say dump in a cool $2 trillion since it's such a great investment. :crazy:

Rachel Maddow sums up a good criticism right here:

"where the heck did this $700 billion figure come from in the first place? A Treasury Department spokeswoman told Forbes.com this week, quote, "It's not based on any particular data point, we just wanted to choose a really large number."

A really large number? That's the calculus among our nation's leading economic theorists and managers? We just need a ton of money; we don't know how much, just make the pile really tall? Isn't economics a science? Not reassuring." :rofl:

[lostnotforgotten]

16. It's A Great Premise - I Am Still Not Convinced

eom

[An Intellectual]

18. Banks are greedy; I don't understand why they would buy the bad loans!

Is it because they knew they'd be able to rob us when it call came crashing down?? :mad: :mad:

[quantass]

20. Well written! I hope you write more bedtime stories because this is really quite fascinating

[uponit7771]

23. How does the KEEP the current market house prices from falling due to CURRENT glut of houses?

[GeorgeGist]

24. So the government becomes bank F ...

and buys $700 billion of worthless assets. Brilliant statergy! Morons!

[Laelth]

25. I'm not buying it.

There must be a better way. This can wait until Obama is President.

-Laelth