"The foreclosure crisis is a man-made phenomena," said David M. Abromowitz, senior fellow for the Center for American Progress. "It's not just the side effect of a normal market cycle. There was a push to boost home ownership and a pattern of under regulating financial services and support from all kinds of businesses to allow the free market to take over."
The crisis originated in Allen Greenspan's decision to lower Federal interest rates to protect the economy from recession after the Internet stock bubble and 9/11 imperiled the economy. While the Fed kept interest rates low, investors sought higher returns and real estate appeared undervalued.
Although housing costs had risen at a yearly rate of 1.8% over inflation since the Carter presidency, they shot up an average of 7% a year from 2000 to 2004. Easy money under Bush's policy of an "ownership society" increased ownership rates 1.4% and pushed the cost of the median home from $130,000 in 2000 to a peak of $221,900 in 2006.
"Obviously, the policy and economy under this president has radically accelerated American debt," said Max Fraad Wolff, an economist with Global Macroscope. "Household debt doubled since Bush came into office and the president's dream of an 'ownership society' has become an 'owership reality.'"
Wages remained stagnant; adjusted for inflation, hourly wages fell below those of 1972. In 2007, the Census Report found median household income was $1000 less than in 2000, and those living in poverty increased by 5 million.
"Americans have been struggling to live middle class lives without middle class wages for 25 years," Wolff said. "Every member of the household is now at work and they still can't make ends meet in a consumer society that now demands an enormous amount of debt."
The answer to low pay was obvious to most families; make up for lost wages by increasing debt burden and treating the home like bank accounts. "Recently, more of American's increase in household cash flow has come more from housing than from earnings," said Wolff. "The amount of money extracted from the housing bubble is larger than the total increase in wages and salary. It's an enormous amount of purchasing power, equivalent to many years of total salary increases."
In 2000, Phil Gramm, the Texan who headed the Senate Banking Committee, pushed the Commodity Futures Modernization Act through a Republican Congress. The bill prevented the regulation of "derivatives," exotic, complex, little understood investment packages, such as "collateralized debt obligations," which operated in a gray zone of nebulous trading. Innovative subprime or adjustable rate, 100% financed, no down payment, negatively amortized mortgages were bundled and sold to investors, with no oversight.
"They created a situation where people didn't know what was in packaged pools of mortgages, so no one knew their value," said Abromowitz. "When all regulations were pulled back to let the free market take over, creative people did what they normally do, made more money. This lead to an over-hyped market."
Borrowing on homes reached 6 times earnings, home equity borrowing increased 1400% from 1999 to 2006, and homeowners extracted $2 trillion from their homes. Savings fell to the lowest rate since the Great Depression. Total household debt doubled from 1999 to 2007 to a sum higher than all debt accumulated in the nation's history. Household mortgages increased 50% in the past 7 years to $2.5 trillion, and credit card debt rose to a record $790 billion.
In February, New York Governor Eliot Spitzer revealed in the Washington Post that the governors of 50 states warned that mortgage practices, including "deceptive 'teaser' rates that later ballooned astronomically, packing loans with undisclosed charges and fees, or even paying illegal kickbacks," represented a "looming national crisis" that would have a "devastating effect on home buyers."
The Bush Administration "embarked on an aggressive and unprecedented campaign to prevent states from protecting their residents" by directing the Office of the Comptroller of the Currency (OCC) to preempt predatory lending laws. When Spitzer persisted in his investigation, the OCC filed a federal lawsuit to stop him. According to Spitzer, Bush was "a willing accomplice to the lenders who went to any lengths in their quest for profits."
Since the mortgage meltdown began last summer, different "derivatives," now amounting to over $45.5 trillion, started going under. Bailout packages abounded; Congress approved a "rescue" package worth $168 billion, and the Fed lowered interest rates five times since September to "stabilize" credit markets. In March, the Fed engineered the sale of Bear Stearns to JPMorgan and, for the first time since the Depression, accepted as collateral $400 billion in mortgage derivatives from unregulated financial institutions.
Whether the bailouts will work remains to be seen; each Fed move is stymied by failure in another part of the market. Considering the radical Bush administration policies and the power of financial institutions to influence government, the free market is bound to be bumpy, if not disastrous.