Trickle down theory, did it work?

[Braunwyn]

The mechanics are the same. A large money supply and lax regulation allowed banks to take riskier positions in loans. The loans weather sub-prime or not were lax, and they lead to a rapid increase in what people were willing to pay in principle for a house, in a time when jobs in general were not paying any more money. People were speculating, and most thought that the housing market would only go up, so they were willing to pay a somewhat ridiculous amount now, thinking they would be able to sell it later in life for an even more ridiculous price.

I realize this was the case for some but from what I've been reading a good majority of people were refinancing to pay other debt (credit cars, vacations, etc). eta: I see you mention this!

Sub-prime refinancing was done afterward for people to pay other expenses, and this becomes much more popular as the cost of living goes up but wages do not, the refinancing was done based upon the value of the home, so the market run up still causes the sub-prime mess.

Afterward of what? I'm still not clear where an increased demand for homes comes in and how that correlates with refinacing to lead a blame towards actual home buyers.

If lax loans are given, underestimating the risk involved, markets inflate.

This makes sense.

It’s a general rule for any market, if the US government eased lending standards to let people leverage more so that they could buy stocks, people would inflate the stock market (this also happened in our history).

Great point. And again, I'm left with the feeling that people were lead astray and even swindled by folk that should have known better. Perhaps some did know better and didn't care.

 

[JoyJuice]

Tell us about these failed economic policies of Bush that McCain wants to double down on.

that would be the trickle down theory that as advertised would bring jobs.

While you are at it why don't you also tell us why our liberally dominated public schools have failed so miserably to teach more people to understand how to be successful in America and to make such basic wise personal finance decisions as choosing a mortgage or buying a home?.

Irrelevant.

 

[variant]

Afterward of what? I'm still not clear where an increased demand for homes comes in and how that correlates with refinacing to lead a blame towards actual home buyers.

Who says I blame home buyers? The lax standards came from banks reducing their risk by selling it to someone else, and sincerely underestimating that risk. Lax standards will encourage people who shouldn’t get loans to get them. Banks should not give out loans unless they think they have a very good chance of being repaid.

After they bought a home, they could refinance it based upon its inflated value. The bank thinks the inflated value is real value, so, it hits them doubly when the mortgage holder defaults on the original mortgage plus the refinancing, and the home doesn’t cover it. The credit is extended further in a refinancing situation than an original mortgage. If enough people foreclose, the very price of housing falls, and the banks can’t recoup their investments. Refinancing increases the risk that a mortgage holder will default and lends instability to the housing market, where, people who could originally afford their mortgages now can not.

The lending standards were lax across the board, the defaults started in the sub-prime loans because they are the riskiest, and when houses started foreclosing the price dropped drastically. But that doesn’t mean that loose credit didn't exacerbate the demand for housing in the first place.

This means that sub-prime lending was a symptom of the disease and the eventual cause for collapse rather than the cause.

The cause of the run up in housing has the same root causes though, easy credit, a mentality that the price of housing will only go up, and people willing to extend themselves further than they really should to buy a home. The first is the fault of banks, the second is the fault of everyone, and the third is the fault of the buyer.

 

[Braunwyn]

Who says I blame home buyers?

Not you, I'm speaking of bexellent's post. First time home buyers have been put at the heart of this mess by many from what I've bee hearing/reading the past month or so.

The lax standards came from banks reducing their risk by selling it to someone else, and sincerely underestimating that risk. Lax standards will encourage people who shouldn’t get loans to get them. Banks should not give out loans unless they think they have a very good chance of being repaid.

Of course. I recently heard that less than 10% have defaulted on loans, something closer to 4%. Do you know if this is true?

After they bought a home, they could refinance it based upon its inflated value. The bank thinks the inflated value is real value, so, it hits them doubly when the mortgage holder defaults on the original mortgage plus the refinancing, and the home doesn’t cover it. The credit is extended further in a refinancing situation than an original mortgage. If enough people foreclose, the very price of housing falls, and the banks can’t recoup their investments. Refinancing increases the risk that a mortgage holder will default and lends instability to the housing market, where, people who could originally afford their mortgages now can not.

Great post and that makes total sense.

The lending standards were lax across the board, the defaults started in the sub-prime loans because they are the riskiest, and when houses started foreclosing the price dropped drastically. But that doesn’t mean that loose credit didn't exacerbate the demand for housing in the first place.

This means that sub-prime lending was a symptom of the disease and the eventual cause for collapse rather than the cause.

I wonder how long a majority of folk, that refinanced, owned their homes. Or how long they were home owerners.

The cause of the run up in housing has the same root causes though, easy credit, a mentality that the price of housing will only go up, and people willing to extend themselves further than they really should to buy a home. The first is the fault of banks, the second is the fault of everyone, and the third is the fault of the buyer.

This statement sounds like it's pointing towards first home buyers. Again, do you have information that characterizes a majority of those that have defaulted? My dad, for example, sold his home at a loss and was knee deep in it at the beginning. His story really seems to fit well from what I have been reading. His wife kept refinancing the home and pulling money out for various reasons. She also has credit problems with huge amounts of credit card debt and a bankruptcy in her past. They have both been home owners for decades and they grossed over 100/yr easily but were completely irresponsible and poor decision makers.

Any way, you've left me with a lot to think about so thanks. All this is sparking an interest in economics for me where usually I find it so boring.

 

[variant]

This statement sounds like it's pointing towards first home buyers. Again, do you have information that characterizes a majority of those that have defaulted? My dad, for example, sold his home at a loss and was knee deep in it at the beginning. His story really seems to fit well from what I have been reading. His wife kept refinancing the home and pulling money out for various reasons. She also has credit problems with huge amounts of credit card debt and a bankruptcy in her past. They have both been home owners for decades and they grossed over 100/yr easily but were completely irresponsible and poor decision makers.

No I mean that people were buying homes for more than they really should have, regardless of if they could eventually be able to pay off the loan. This has nothing to do with the exact causes of the eventual melt down, but rather, it has to do with why the prices were inflated in the first place. This alone can not cause what we are seeing today.


Prices do not go up as fast if people are not willing to pay them. Markets tend to get “herd mentality”.

If these prime loans start defaulting at a high rate we are really in for it.

 

[Braunwyn]

No I mean that people were buying homes for more than they really should have, regardless of if they could eventually be able to pay off the loan. This has nothing to do with the exact causes of the eventual melt down, but rather, it has to do with why the prices were inflated in the first place. This alone can not cause what we are seeing today.

It would be great to put all this information into some kind of chart.

Prices do not go up as fast if people are not willing to pay them. Markets tend to get “herd mentality”.

If these prime loans start defaulting at a high rate we are really in for it.

Well, if anything a strong call for regulation is warranted. I don't really understand how big business works but private home owners making financial decisions based on future home values looks blatently risky to me. On that end, people have to take responsibility for their own stupidity.

 

[variant]

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It would be great to put all this information into some kind of chart.

Well where do you think I draw these conclusions from? I have been talking about a houseing bubble for years. I didn't buy a house for specificly the reasons I am talking about.

The charts all look like this one:

So what's the issue here? The prices are climbing yet the median income is not, what are people doing to cover that gap? Borrowing more.

Think about what it takes to pay off a 250,000-300,000$ morgage.

Lax credit causes speculation and market bubbles.

Well, if anything a strong call for regulation is warranted. I don't really understand how big business works but private home owners making financial decisions based on future home values looks blatently risky to me. On that end, people have to take responsibility for their own stupidity.

People should always look around them and wonder what things are really worth before buying them, what risks they are takeing, and what the value to them will be later, rather than to get caught up in the herd mentality. People need to think long and hard before entering into a 30 year contract.

I encorage people to be skeptical.

Realators are in buisness to sell houses. Banks are in buisness to make money off their loans. Investment firms are in buisness to make investments that make money.

 

[Braunwyn]

Well where do you think I draw these conclusions from? I have been talking about a houseing bubble for years. I didn't buy a house for specificly the reasons I am talking about.

I chose not to buy as well, although my reasons were much more simple. I was preapproved for a certain amount of money and when I looked at the projected monthly payment along with everything else, it was too much. I do keep detailed records of my expenses and factor in misc. costs that tend to arise. I was left with a situation that would cause me to live month to month. Willingly entering into such a situation is nuts.

The charts all look like this one:

So what's the issue here? The prices are climbing yet the median income is not, what are people doing to cover that gap? Borrowing more.

Think about what it takes to pay off a 250,000-300,000$ morgage.

Lax credit causes speculation and market bubbles.

This is a great point. And great graph. Thanks for posting it.

People should always look around them and wonder what things are really worth before buying them, what risks they are takeing, and what the value to them will be later, rather than to get caught up in the herd mentality. People need to think long and hard before entering into a 30 year contract.

I encorage people to be skeptical.

Realators are in buisness to sell houses. Banks are in buisness to make money off their loans. Investment firms are in buisness to make investments that make money.

So from here, where do you think possible regulation can play a role, if at all?

 

[Wyzaard]

She stated that she has neither the time nor the inclination to bother with that debris.

Then her claim simply fails; merely saying I am wrong does nothing to SHOW why I am wrong.

Exactly, what you think. Probably some garbage that some professor puked out. That's why like to deal with what I know to be true.

As opposed to what people who know what they are talking about can show to be true?

You say that it's to protect those who have no money to invest. You invest in social security every time you get a paycheck. But it's a pay as you go system. The people recieving social security checks right now get your money. And whenever the social security system and congress allow you to retire, you'll get the money that your children and your neighbor's children are paying into the system.

Yep... keeping poor old people from starving to death; man, I can't think of a worse way to spend my money!

Right now, there's more money coming into the social security system through your FICA tax than is being paid out by the social security administration. Guess what happens to the balance of the money? It goes into the general fund and has gone into the general fund since, I think, 1939 when congress changed the rules. They have spent the money, it is gone. There is no "lock box." There is no social security trust fund. Your "safety net." is a stack of IOUs in the bottom of some file cabinet in the social security office and they are all signed by the American taxpayer. They've spent it on every thing from highways, to Vietnam, to indoor rain forests in Iowa.

And this is certainly a problem, one that can be corrected... along with the FICA cap which makes this a regressive tax.

As an experiment, go to any reputable financial advisor in your area and tell him you plan to work until you are 65 and never plan to make more than about $35,000 a year adjusted for inflation. And then tell him you want to invest 15% of that 35,000 a year into a retirement fund. And you want to know approximately how much you will have to retire on and how much can you reasonably expect to earn off that money for your retirement years.

That's kind of a trick question that you need not answer because I already know the answer. The Galveston TX school system opted out of the social security system when it was still legal to do so. A janitor who never made more than $25,000 a year, put money into the Galveston, TX school system's retirement plan done through a financial planner. The first year of his retirement, he made $34,000. In other words, he retired and got a raise.

Nice unsupported anecdote... too bad that does nothing to allay the fears of those who have less to invest and no stable market to meaningfully exploit.

If you were allowed to do the same, not only would you retire with more money, but when you died, guess who gets the money? Your wife or your kids or your cat, who ever you want to get the money, it's your money. You know who gets your social security money when you die? The government. You wife get's $250 and your kid's about $75 each a month if they are under the age of 18. So if your kids are lucky, you'll die when they are 2 years old. Great safety net.

It certainly needs improvement... which is something conservatives have been retarding for years.

 

[variant]

So from here, where do you think possible regulation can play a role, if at all?

Most of what I suggest I would assume is already going to be done.

Regulation on derivative markets, and openness/transparency between banks on things like credit default swaps.

Reinstiution of leverage standards so that investment banks can't bet 40 times their assets on hand.

Separation of morgage companies, insurance companies and investment companies so that they can not mesh it all together in a big ball of econmic goo.

Superviosry government instiutions should do their jobs instead of acting like cheer leaders.

Of course this was all already in place and it took years of deregulation to get us to this point. I am often for de-regulation, but if these instiutions are too big to fail, they are too big to be trusted.

Here's what they won't do:

I would also love to see the Fed take a less interventionist policy, as the money supply rate has been overly pro-active, where a smaller money supply would have allowed our economy to simply recess after the various booms of the 90's rather than cause an economic catastrophy.

The fed funds rate dipped hugely after 2001, increasing the money supply.



The economy should have simply been allowed to recess after 2000, instead, the rate dropped almost nil flooding the banking system with money, and allowing this entire housing market boom to happen. If you compare the two graphs, the mean housing price passes the higher HUD recommended housing price in 2003 when the money supply was at it's highest. Then later when the money supply was ratcheted back down, the whole thing collapsed.

The events after 911 should have lead us into a recession, by flooding the market with money, the environment for all this easy credit was established, as the banks wanted to find as much use as possible for that money.

 

[Braunwyn]

Sorry to keep asking you questions, variant (hope you don't mind) but I'm curious about this- The events after 911 should have lead us into a recession, by flooding the market with money,

Where did this money come from? Was it a matter of taking on debt to flood the market?

 

[variant]

Sorry to keep asking you questions, variant (hope you don't mind) but I'm curious about this- The events after 911 should have lead us into a recession, by flooding the market with money,

Where did this money come from? Was it a matter of taking on debt to flood the market?

Monitary policy is complicated.

The fed controls the rate at which banks get from other banks to make loans. This is why it's a big deal when the fed raises or cuts rates.

Interbank borrowing is essentially a way for banks to quickly raise capital. For example, a bank may want to finance a major industrial effort but not have the time to wait for deposits or interest (on loan payments) to come in. In such cases the bank will quickly raise this amount from other banks at an interest rate equal to or higher than the Federal funds rate.

Raising the Federal funds rate will dissuade banks from taking out such inter-bank loans, which in turn will make cash that much harder to procure. Conversely, dropping the interest rates will encourage banks to borrow money and therefore invest more freely.[3] Thus this interest rate acts as a regulatory tool to control how freely the US economy, and by consequence - as there exists a certain interdependence - world economy, operates.

By setting a higher discount rate the Federal Bank discourages banks from requisitioning funds from the Federal Bank, yet positions itself as a source of last resort.

http://en.wikipedia.org/wiki/Federal_funds_rate


My argument is that the overly low fed funds rate caused banks to borrow and loan more liberally. Along with deregulation it made the problem worse.


The Fed should stop trying to stop every recession, it can help cause other problems through the law of unintended consequences.

 

[bexcellent]

that would be the trickle down theory that as advertised would bring jobs. [/color][/font][/size][/color]

The "trickle down theory" is a misnomer that is really a trick of those who are opposed to the free market. It presupposes that something is put in at the top and then allowed to "trickle" down when in reality what is really proposed is the protection of the incentive to produce from those who are envious of those who have produced and would like to steal it away from them and spent to their liking instead. If you create an environment that is hostile to business, then why would a business be interested in your community? Keep in mind that there are other kinds of hell that governments create that make for an environment that is anti business. Do you think if you make it too hard on businesses that it will have no effect on the number of jobs available in a given community?

Irrelevant.

Didn't say it was specifically relevant. What I did ask for was an answer.

 

[Bootstrap]

The "trickle down theory" is a misnomer that is really a trick of those who are opposed to the free market. It presupposes that something is put in at the top and then allowed to "trickle" down when in reality what is really proposed is the protection of the incentive to produce from those who are envious of those who have produced and would like to steal it away from them and spent to their liking instead.

Clearly, the Bible commands us all to protect the rich and powerful against the poor and helpless[1] ....

Beyond that, we have to pay for government. Everyone pays a share. The American tradition is to use progressive income tax for that - and the top rates have been higher than Obama proposes under every post-WWII president except Reagan and George W. Bush.

Whatever you want to call it, the supply side / trickle down / horse and sparrow theory says that cutting taxes for the richest raises government revenue and makes all of us wealthier. That's precisely what the data do not support.

What we've generally done is look for tax rates where prosperity increases for all of us, which means choosing different tax rates at different income levels. It's good old traditional American tax policy. We decided to try something different in the last 8 years. It hasn't worked out too well.

Jonathan

[1] If you failed to note it, yes, that was meant ironically.

 

[JoyJuice]

The "trickle down theory" is a misnomer that is really a trick of those who are opposed to the free market. It presupposes that something is put in at the top and then allowed to "trickle" down when in reality what is really proposed is the protection of the incentive to produce from those who are envious of those who have produced and would like to steal it away from them and spent to their liking instead. If you create an environment that is hostile to business, then why would a business be interested in your community? Keep in mind that there are other kinds of hell that governments create that make for an environment that is anti business. Do you think if you make it too hard on businesses that it will have no effect on the number of jobs available in a given community?
Didn't say it was specifically relevant. What I did ask for was an answer.

You know, I was really really trying to have a serious converstation.