The right blames the Financial Crisis of 2008 on Barney Frank, Fannie Mae, and Freddie Mac. This view justifies their belief that financial reform is unnecessary. What really happened? A huge bubble in subprime mortgages was created when the financial innovations of Collateralized Debt Obligations (CDOs) and Credit Default Swaps (CDS), combined with recklessly generous ratings by the ratings agencies, allowed subprimes to be marketed as AAA investments. This market burgeoned just as the Bush administration was dismantling regulatory oversight of lending institutions.
In this deregulated environment, competitive pressure to sell subprimes led to a collapse of underwriting standards, where financial institutions were even marketing "NINJA" loans (no income, no job, no assets). When the housing market collapsed, all those AAA CDOs became toxic. This situation led to a halt in bank to bank lending. If you were a bank at the time and looked at their own assets, you would recognize that they were junk. If your assets were junk, why would you trust that another bank's assets were any better? If the other bank's assets are junk, how would they be able to repay any money you lent them? So you'd be crazy to lend anyone money. This "credit crunch" was extremely dangerous and could have brought all commerce in the US to a halt if the government had not stepped in with infusions of loans.
So what was the role of Barney Frank, Fannie Mae, and Freddie Mac? Only one of the top 25 subprime lenders in 2006 was directly subject to the housing law that's being lambasted by conservative critics. More than 84 percent of the subprime mortgages in 2006 were issued by private lending institutions. In 2009 there was only $300 Billion worth of housing in or near foreclosure, yet the financial crisis wiped out more than $6.5 Trillion in home equity value, despite trillions of dollars of bank bailouts and loan guarantees from the government. This was not just poor people buying houses they couldn't afford, it was financial markets out of control.
What should be done to prevent this from happening again? First and foremost, the Dodd-Frank Act should be implemented and enforced. Dodd-Frank is more of a framework for future regulation than a regulatory regime itself. The regulations that are to be put in place largely remain to be worked out. It will require popular support for the bill to overcome conservative opposition in Congress.
(Image of "subprime mortgage wine" being poured into tranches from Les Leopold's The Looting of America.)
