Banking: The Fed, the Banks, and the Buyers – who is to Blame?

New York, 16 Sep 2008. The financial meltdown has hit an all-time low with Fannie May and Freddie Mac being bailed out by the government and Lehman Brothers collapsing. Who is to blame?

New York, 16 Sep 2008. The financial meltdown has hit an all-time low with Fannie May and Freddie Mac being bailed out by the government and Lehman Brothers collapsing. Who is to blame?

“No credit, bad credit, ok!” used car dealers love to announce that they will sell cars to anybody, despite their credit rating or lack thereof. It’s a great business. One used car can get flipped four or five times before a credit-worthy owner actually buys it. Each time a car is sold (at excessively high interest rates), a down payment is made, and hopefully the buyer will forget to make a payment and the dealer can repossess the car, and get more down payments and more interest and so on.

This kind of lending used to be alright. It was usually the guys that just got out of jail that would buy these cars (no credit history; in prison the utilities are paid for). Nobody really felt bad for them, and one used car lot in North Las Vegas or East LA isn’t going to bring down an economy. But when a nation creates almost $7 trillion worth of debt in just six years, much from the property market, and then the market collapses, people start asking questions.

For mortgage lenders, relaxed terms mean it is easier to lend money to homebuyers. The lenders, in turn, had access to cheap money from the Federal Reserve, and they gave out as many loans as possible. After all, the housing market was appreciating, so the homebuyers would have substantial equity even if their credit wasn’t perfect.

So is it the Federal Reserve’s fault for making money so easy for the banks to get? Their job is primarily to manipulate interest rates so as to maintain desirable economic growth instead of unwanted inflation. One could argue, however, that these rates were set too low creating an expansion of cash in the market which lead to not only easy money for banks but inflation. The burden lies on the banks to not give out loans that their customers pay back. But aren’t those defaults good for the banks – at least on some scale?

Perhaps it was the fact that the lenders proceeded to loan with inadequate credit checks and safeguards in place, which kept anybody from noticing what they were doing before it was too late to rectify the problems and decrease the severity of the situation today. Is there enough transparency? Should the lenders have been scrutinized more to call to attention the number of loans they were giving to people with bad credit or no credit? If so, there would be fewer bad debts and the market would have looked after itself more.

Or is it a case of caveat emptor? Is the US a nation of irresponsible buyers that are now in trouble because they failed to read the fine print? It has been said, though, that there were cases of forgery and deceit in which the buyers were lied to by the banks.

Most large-scale disasters are an unlikely combination of events, which all come together at the wrong time, cumulatively resulting in massive failure, although many of these events had been predicted. Some say it was simply The Fed’s job to manage this, the banks’ predatory approaches, or ignorant buyers, or a combination of the three. No matter what, the Americans and many overseas will be paying the price.

Ron Portobello, EconomyWatch.com