Myth: Homeowner Borrowers Are At Fault

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A number of folks are trying to affix responsibility for this recession and financial crisis on home buying borrowers. That is illogical, and here is why.

First, for as long as there has been credit, a couple thousand years at least, it has been the lender who bore the responsibility for the quality of the loans they chose to issue. It is the lenders with the experience and mathematical expertise to assess the credit worthiness of potential borrowers. Not the sharecropper, cobbler, or Indian Chief. In a society which functions along lines of specialization of labor, it is the creditors specialized in assessing risk, not their potential borrowers.

As lenders have always known, there are borrowers who never intend to repay. Interest payments are intended to compensate for lending risk by extracting a premium from the loans that will equal or exceed the defaulted unpaid loans a lender experiences. In the case of lending, it is a fool who does not assess the risk and follow the rule, 'Let the Lender Beware'.

Specialization of labor dictates that the sharecropper's experience is in working and growing from the soil. The Cobbler's experience is in making and repairing shoes. The Indian Chief's experience is in avoiding treaties with the White People. There experience and background is not in validating their creditworthiness, or doing financial projections into the future to determine their carrying capacity for debt. Determining the carrying capacity of debt for a borrower is the lender's job, expertise, and responsibility. Where was a first time home buyer G.M. worker or Kirby Vaccuum cleaner salesperson in their 20's to have gained the experience and expertise to determine just how much home they could afford to buy, and comfortably make payments on for the next 30 years? The only accurate answer is, from their lender.

Anyone who has ever lent money to a friend or acquaintance knows that they, the lender, are the one's who will suffer the loss of the loan if the borrower fails their end of the contract. The lender may blame the borrower, but, blaming the borrower does not get one's loan repaid. The responsibility for determining credit worthiness lies with the borrower, just as the responsibility for lending one's car to a drunk, rests with the car owner, should the drunk smash their vehicle into a tree while swerving to avoid the Medusa hallucination in the middle of the road.

This principle of lending and determining credit worthiness as a lender responsibility applies to all forms of lending, credit card lending, home lending, small business loans, and commercial loans. What should be as clear to everyone as the noses on the Mt. Rushmore faces, is that the responsibility for this financial meltdown rests directly upon the lender's shoulders, from CountryWide to AIG to General Motor's. It was their responsibility to insure that the total risk posed by loan defaults was one they could recover from and remain in business. They failed to assume their responsibility. Their failure now threatens our entire economy and nation.

Second, sound lending principles don't change with the identity of the lender. When mortgagors lent money based on the the collateral value of the property, it was the responsibility of those banks to test and assess both the current and future value and risk of that collateral. They failed by deferring to greed, ignoring the incredibly dramatic rise in property values in recent years for both residential and commercial property. And the insurers of lenders were also guilty of deferring to quick easy profits, ignoring their responsibility to deposit premiums into a reserve account to offset the rising potential of defaults and decline in collateral values.

Which brings us to the federal government. Sound lending principles do not change with the identity of the lender. If the federal government is going to lend money, it has the responsibility to insure that the vast majority of that money will be repaid, and with a premium sufficient to offset the realistic projected percentage of loans which will default and never be repaid. Our federal government has centuries of experience with borrowing. It also has decades of experience with the role of loan guarantor dating back to the 1930's and including the Chrysler bailout loans, and a significant part of the Savings and Loan industry bailout.

Our government, has little experience or expertise in direct loans and providing such loans on a sound lending basis, which includes risk assessment and reserve set asides. Fannie Mae and Freddie Mac were presumed to have such acumen, but failed to protect their business and the tax payers. Of course, given the 12 trillion dollar national debt, reserve set asides are a joke, not to be taken seriously. Yet, our federal government assumes the responsibility by popular mandate, to rescue our economy from implosion resulting from the lending industry's multitudinous failures of responsibility. Which begs the question, should the federal government lend money to rescue the private sector, grant money without condition of repayment, or, guarantee loans which requires federal officials to engage in risk assessment as an insurance company should?

There is no simple answer which rescues the economy, as each corporate entity threatening our economy has a unique financial condition which defies a 'one size fits all' answer to the previous question. Some corporate entities cannot be loaned money with the hope of repayment; their debts are beyond their capacity to take on more debt and recover profitability within a reasonable time to repay their debts. Other corporate entities will recover substantial revenue streams when the recession abates and afford reasonable risks for lending them money to get beyond this recession slump in their core business. Still others whose balance sheets are only barely in the red, but whom find it difficult to get loans to move forward require only a guarantor for their short term loans from other private lending institutions. Yet, taken together, these corporations constitute the greatest threat to the American economy and indeed, the worlds' economy, as has been seen since the 1930's.

Inaction is not an option. To be fair, Democrat's claims that Republicans choose to do nothing is grossly inaccurate. Republicans would choose to allow many more corporations to fail, thus reducing the government's outlays to rescue them. However, we know that there is a tipping point wherein, if X number of corporations fail, their inability to honor their debts to other corporations cascades like dominoes, geometrically causing greater numbers of employer insolvencies, which our economy can ill afford. Just what number X actually represents, is unknownable, and hotly contested.

Just allowing Lehman Bros. to fail, nearly caused the domino effect to kick in. So, while Republicans offer an alternative plan, which does not include doing nothing, their alternative poses the greatest short term risk of corporate failure cascading, which in turn would elongate and deepen this recession. Democrats on the other hand, acknowledging they don't know what the number is that X represents, are choosing to rescue all the financial corporations, reducing or eliminating the risk of the economy entering a depression. However, this plan of action will incur enormous additions to our national debt and the interest on that debt for decades to come.

Inaction, which some more libertarian leaning voices call for, will result in a wholesale collapse of both private industry as well as federal, state, and local government revenue streams, leading to a bankrupt nation. It is not possible to say how long it would take for a bankrupt United States to get back on its feet and restore the great Middle Class which now exists, but, it would certainly take decades, if possible at all. That is not a road the majority of Americans want to travel.

Home buyers borrowed. But, home buyers seeking a personal residence, generally relied upon their lenders to advise them as to how much loan they could afford. One can blame the home buyers for not having a college degree in finance, or not understanding the real dollar impact of adjustable rate mortgages in coming years, or not being able to compute future risks and allowances, including this national recession, in their calculations. But, blaming the borrowers is an exercise in futility designed to make some feel better by assigning a target for ventilating their anger and disappointment over this recession, unless it leads this nation to educate all high school graduates in consumer finance.

Others argue that this is no time to affix blame, and that we need to focus efforts on getting out of this recession intact with a sustainable economy. While it sounds all peace and love and 'let's all just work together', the logic is seriously flawed. Affixing blame is absolutely necessary to getting out of this recession and insuring that its causes are not allowed to occur again. This crisis resulted from multiple failures in responsibility, and there is no reason to believe that those who failed their responsibilities, have suddenly and overnight, become responsible people to be trusted again with trillions of dollars.

In other words, part and parcel of our nation's recovery from this recession must include measures to insure that such failures to respond appropriately to the desires for wealth and the power are not allowed to continue to act irresponsibly, or threaten the nation's economic health in the future. From the 1930's through the 1980's, America remained economically viable by observing the hard learned lessons of the 1929 stock market crash and Great Depression that followed in the following decade.

Many measures were set in place to prevent another Great Depression including items like the Glass Steagal Act maintaining corporate separation along lines of business, and GAAP or Generally Accepted Accounting Procedures which corporations were required to observe to insure transparency and allow for regulatory oversight. In the 1990's however, much of the legal measures designed to insure against another Great Depression were either altered, or allowed to atrophy in the wake of innovative and creative measures whose purpose was to sidestep transparency and accountability in pursuit of corporate and private wealth and power.

It is therefore, absolutely essential that our federal government incorporates prophylactic measures along side rescue efforts. Blaming the borrowers meets neither of these needs, unless it leads to wholesale education in consumer finance. A workable definition for the concept of a national economy is: The design for distribution of limited resources amidst a population with infinite demand. Pay close attention to those words, 'infinite demand'. This is not a new concept or definition. The idea of individual's collective demand for goods and services as infinite is as old as the Ancient Greeks and Romans, and was very much a focal point in the writings of Adam Smith in his two great works, The Wealth of Nations and The Theory of Moral Sentiments, which many of our founding fathers deliberated upon.

If, demand is infinite and resources are finite, then it follows that lenders must undertake the responsibility for insuring the credit worthiness of their borrowers. It also follows that many borrowers will always tend to want more than they can afford, especially if their education and experience do not prepare them to accurately assess what they can afford, in the way of borrowing. We can aspire as a nation to improve education by teaching in our public schools concepts of warranted and capable borrowing. But, as long as infinite demand for more is an integral part of the nature of a nation's citizenry, the responsibility for sound lending practices lies with the lenders. When loans fail, the blame and costs should ultimately rest with the lenders, their overseers, and insurers. Attempting to recover a bad loan from an unemployed and bankrupt borrower is an exercise in futility. Blaming the borrower is simply unproductive blame shifting.

If lenders are prone to fail their responsibility, in deference to greed motivated quantity lending contrary to sound quality lending, and if a nation's economic security rests upon the results of lenders and borrowers, as it clearly does in the United States, then it is essential that our laws put in place practices and enforcements for sound lending practices. Our government is responsible for such laws and enforcements, laissez faire be damned.

There is no getting around the obligation of our governments, as representatives of the interests and welfare of the nation's people, to insure that its laws and enforcements effectively oversee, and require compliance with, sound financial practices. The primary motive for institutional lending is greed and increasing one's wealth. Greed and the desire for wealth eventually subscribe to quantity, not quality, of pursuits in lending profits. The borrowers on the bottom rung of our commercial finance industry, played a part in this financial crises. However, the responsibility clearly lies with each rung of the ladder above the first.

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Individuals can have many motives and justifications for their actions. Corporations have but one, greed. They are structured intrinsically to feed the need for greed. It is what selling stock and gaining market share is all about.

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This page contains a single entry by David R. Remer published on March 9, 2009 8:13 PM.

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