The Bailout, revisited (The Personal is Political)

For a little one paragraph post, my post on the Bailout sure got a lot of comments! Well, a lot for me, anyway. Real bloggers would scoff at 10 comments...

Anyway, I don't think the financial crisis is any one person's fault, even the president, although a whole lot of other badness can be laid right at his feet. I read a really terrific article on Mental Floss about what got us into this mess. You'll notice that the Deregulatory Financial Modernization Act of 1999 was a contributing factor. 1999 was during the 106th Congress. The majority? Republicans.

But a lot of the other folks who were responsible (and I will freely admit that none of them had crystal balls) were unelected officials (Alan Greenspan , the SEC).

I think a lot of the blame can be placed on our culture... The way we think we "deserve" to own a home, two cars, a flat screen TV, 11 computers... The way we've been brainwashed to think that our worth as human beings is linked to the value of our stuff. If you haven't watched The Story of Stuff yet, you really need to go watch it right now. So who brainwashed us? Corporations, advertising agencies, people selling stuff, people with enough money to make and sell stuff. Who has money, generally? Republicans.

But, Democrat or Republican or Independent or Libertarian, we share the blame. We are the ones who ran up our credit cards, "leveraged" the equity in our houses so we could buy more stuff, take nicer vacations, drive nicer cars, etc. No one held a gun to our heads.

Having bought a house, though, I know how complicated it is. You get a real estate agent not so that you have someone to show you around a house, but so that you have someone to help you navigate the paperwork avalanche that you have to complete in order to become a homeowner. You (try to) find someone you trust, who won't let you get screwed over, and who will explain what you need to know about real estate in order to complete the transaction.

These people profit from selling houses, of course, and therefore, the more people they can get into houses, the more money they'll make. So, when the interest rate was really low, and banks were coming out with these goofy mortgages that made it possible for people who had no financial business owning a house (poor people, people without enough income to pay not only the mortgage but the maintenance, upkeep, etc.), the real estate agents and bankers and mortgage brokers of the world said, "Great! Now people who couldn't own a house 5 years ago can get approved for financing! Score! Let's go sell, sell, sell!"

And they did. All of a sudden people could get interest only mortgages (your monthly payment is only a fraction of what it would be if you were paying Principal - the money that your house actually costs, plus Interest - the money that the bank gets for loaning you the Principal to begin with, if you only pay the interest). "Here, have the house of your dreams, and your payment will only be $800 for a $200,000 house... for now. Don't worry about that line in there about how your payment will be Principal AND Interest in a few years... You'll work it out later!"

And people bought and bought and bought, and the housing industry went nuts. (I don't think the real estate agents and mortgage brokers did this maliciously - I think most of them really thought they were helping people. I don't think they understood the big picture at the time, either).

But, like ALL things, the economy is a cycle. What goes up must come down. It's the law. So all the people who got these interest only mortgages a few years ago started to lose their homes to foreclosure when, suddenly, their payments jumped up by 50-100% or more. Suddenly they had to pay Principal AND Interest, and unfortunately most of their incomes didn't increase by 50-100% in the same time period!

Suddenly, all these people are getting foreclosed, and the companies that owned the insurance policies that guaranteed that the banks that loaned them the principal in the first place (securities) are having to pay out, and out, and out... And investors stopped investing in the companies that owned the insurance policies, because they couldn't make any money if the insurance companies kept paying out and out, and, no one could get mortgage insurance anymore, and banks no longer had money to lend because they already had all their money out and tied up in mortgages that weren't being paid off. If that $1000 a month that I pay isn't coming in, the bank can't loan it to someone else.

Think of it this way. Imagine everyone in your town has the same car insurance company. If one person gets in a wreck, the premiums that the rest of the policy holders pay every month goes to pay the cost of that wreck. But what happens if everyone wrecks at once?

With these goofy mortgages all coming due at one time, everyone wrecked at once (or enough people wrecked at once that the amount owed was greater than the amount coming in).

Should we have seen it coming? Well, I did. No, really. When we bought our house in 2003 we were offered one of those goofy mortgages, and we could've bought a MUCH nicer house if we had gotten one. But I made the real estate agent and the mortgage broker explain it to us several times, until I understood what in the hell they were talking about, and I said, "That sounds like a profoundly bad idea... We want a 30 year fixed mortgage." Our payment will always be $1000 a month, no matter what. Over time, the actual cost of the mortgage will get lower as inflation gets higher. In 25 years, our $1000 a month will seem like nothing. You won't be able to rent for less.

See, what you pay in Principal is what you've accumulated in equity - or how much of your house you actually own. If you have an interest only mortgage for 5 years, during that time you haven't actually bought ANY of your house - you've just paid a fee to the bank for the privilege of using their money. They still own 100% of your house! But 5 years into my 30 year fixed mortgage, I own all of my doorknobs and faucets, and I can get a home EQUITY loan - that is guaranteed because I have EQUITY in my house, or if I sell I get to keep that equity.

Now, not being an economist, I didn't see how having thousands of these mortgages around and coming due at once would affect the larger economy, but I knew that it was a bad idea for us. We bought a crappy little house that we could afford on my income alone (because we were starting the business back then, and we didn't know if it would fly - get it, rocket business? Fly? I crack myself up). We figured we'd fix it up and sell it at a profit eventually, and then buy our "forever house."

Many, many people, though, weren't as smart as we were (and I say that with complete sympathy and not an ounce of smugness) and they went for these "once in a lifetime" mortgages, and now we're all screwed.

But I don't think we're all screwed forever, just for a little while. For the next few years it's going to be hard to get loans. It's going to be hard to send kids to college, buy houses and cars, and finance luxuries. We're going to have to re-learn how to live in a cash economy - where you can only buy what you can afford to pay for right now. There won't be any credit for most people to acquire. No one will lend you anything. Like the people who lived through the Great Depression, we're going to learn how to save money to buy the things we want and need, rather than buying them now and paying later.

I actually think that part is going to be good for us, as a society.

The trouble is businesses. Businesses run on credit. If NASA comes to us and says, "We want a rocket," they expect us to make the rocket, deliver it, and get paid within 30 - 90 days. In order to do that, we have to get credit from the bank so we can buy all the pieces to put it together and pay all the people to put it together and then pay the people while we're waiting to get NASA's money.

If our business can't get that credit, we can't do the work, and NASA will go find another business that can.

Then we have to lay off everyone who works for us, and they have to go work somewhere else.

Now, imagine that happening to every small business in the country. Did you know that small businesses employ over 90% of the workers in this country?

Yikes.

Then big companies start closing because they can't get any small companies to do the work for them.

Yikes.

Where have we been going for money? China. Who just said they wouldn't loan us any more money? China.

Yikes.

How are we going to get out of it? I don't know. I know it's going to take time. I'm not sure if the bailout will help or not. I am not an economist. I think that the PrettyBaby family is well positioned to be ok during this. We already have all the debt we need, we're not sending anyone to college in the next 10 years, and we aren't retiring any time soon. If people like us can invest (buy low!) we'll be in great shape when we do retire (sell high!). I worry about people who have to send their kids to college, buy a new house, or retire in the next couple years. I worry about people who are already retired. I think they're going to be in trouble.

The idea of the bailout is that the federal government is going to buy up all that bad debt (the mortgage securities) so that mortgage companies and banks can continue to lend money to people and businesses, so that we don't get into a situation where no one can get credit so no one can do work now and get paid later and everyone ends up having to close their businesses. Make sense?

In that sense, I think the bailout is probably a decent idea. I don't think we should just write these companies a blank check, though. As Clinton said on the Daily Show, I think we need to do it in such a way that the American Taxpayers see a profit on this investment in a few years, the way we did when he invested in Mexico.

I think we need to be patient and smart, and we need to learn a new way of operating in our personal financial lives. The personal is, after all, political. I think we need to get George W. Bush out of office, and I think he needs to be held accountable for the things he's done at Gitmo and in Iraq. I think we have a lot of hard work to do as a country, and I hope that in November we choose a leader who is capable of navigating our ship through the difficult years ahead. I hope that after tonight's debate, and the next few debates before the election, we can figure out which candidate will be that leader.

What do YOU think?