Just who are the Evil Capitalists?

I have always thought that President Theodore Roosevelt’s categorization as a “Great” President was vastly overrated. Teddy Roosevelt originated and popularized the war against Capitalism in the United States. While in office Teddy rode roughshod over the Constitution, vastly increasing his Presidential authority by his actions as a “Trust Buster”. He was the first President to attack Wall Street by the passage of his legislation; the Hepburn Act regulating railroad fares.

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The limits on railroad rates depreciated the value of railroad securities, a factor in causing the Wall Street panic of 1907. Roosevelt proceeded to replace the pro-business McKinley Administration’s policies with his Trust Busting “Square Deal” by filing 44 lawsuits against major corporations. Politicians, mostly Democrats in consort with the Big Media have done a masterful job of continuing that war by making every successful entrepreneur and “capitalist” the villains. The TR’s “Square Deal” morphed into his cousin’s “New Deal”. The “New Deal” is a major part of our current financial mess because this where the concept of Government Sponsored Enterprises GSEs, Freddie Mac and Fannie Mae, was born. (More about them later.) Doesn’t this beg the question: Just who are these evil “capitalist”? Morgan? Astor? Rockefeller? Mellon? Vanderbilt? Got a savings account, IRA or a 401-K? Congratulations you evil bastard you just made the grade. Let’s get back to basics and ask the question: Just what is capital? Adam Smith explained it this way in his 1776 book "The Wealth of Nations”:

Of the Origin and Use of Money: I.4.1” When the division of labour has been once thoroughly established, it is but a very small part of a man's wants which the produce of his own labour can supply. He supplies the far greater part of them by exchanging that surplus part of the produce of his own labour, which is over and above his own consumption, for such parts of the produce of other men's labour as he has occasion for. Every man thus lives by exchanging, or becomes in some measure a merchant, and the society itself grows to be what is properly a commercial society.”

In other words the money that you save in one way or another is your “capital”. It is that excess amount of money you received as compensation for your hard work that most of you put away for the inevitable “rainy day”. It is Bedford Falls, 1946. It is a " Wonderful Life”. Then as now, most people can not simply sit down and write a check to purchase their first homes. So, you put your savings in George Bailey’s S & L. What happens to that money? George Bailey takes your money and many other people’s savings, combines these amounts and lends that money to your new neighbor so that he can purchase a house. In return for lending George your money he pays you interest for its use. You might not even own a house yet, you are saving and establishing a relationship with George so that when you have saved enough for a “Down Payment” he will lend you the balance needed for your house. (For a more dramatic explanation, think of George Bailey’s speech to his depositors on the April, 1933 run on the banks, his wedding day.) During the mortgage process George investigates the borrower to find out if he/she has the ability to repay the amount loaned plus the cost of the money. (That is interest to you and his operating costs and gasp! his profit.) If George is prudent in his ability to properly vet the risk he is taking by loaning your money he stays in business because he properly addresses all of the risks involved in making the loan. Just to be sure a “benevolent” government bureaucrat is looking over his shoulder just to be sure that he is following sound accounting and banking practices. Your money then goes out into the community. It is spent at the lumberyard and with other merchants for lumber, plumbing fixtures, appliances etc. This money also goes to pay the wages of carpenters, masons, electrician and plumbers; everyone involved in construction of that new house. This entire process is repeated multiple times all across the country. Before you know it you have villages, then towns and then cities if enough people follow the same pattern. This is how American prosperity was built. Some people, inevitability, will not be able to follow through on their loan contract and default. This where risk comes in, if George has done is risk assessment properly these sad situations are few and far between. (Notice that there is no assignment of blame here, people fall behind on mortgages all the time due to unforeseen events.) In order for George to stay in business and continue to make mortgages available to other families he must foreclose or take back the home to protect your savings and his livelihood. George takes the house back and sells it to another family that is in a financial position to pay the mortgage off. This time George learns from his past mistake and raises the bar slightly on those future borrowers to whom he is willing to lend your money. So far, so good. Now let’s move forward to 1977 and the Community Reinvestment Act. This Act of Congress tells the Government bureaucrat (bank examiner) that he is to ignore past sound banking and accounting procedures and force George into lending your money to people who have not demonstrated an ability to repay loans, for whatever reason. George resists this whole notion because he has a family now and needs to stay in business. He also does not want to be confronted by you because you will hold him responsible for loosing your money. If enough mortgages go south, or Uncle Billy loses it and Potter steals it, George is responsible. Rightly, so. This is called consequences. For years George and his fellow bankers are able to resist the Government’s notion of lending your money to the unworthy, simply to make the politicians happy. Remember there are more borrowers out there than there are Georges and borrowers coincidently vote. In 1992 a new Presidential Administration is voted into office. This new Administration notices the simple fact that there is a large constituency of unworthy borrowers who are also voters. During the first two years of this Administration there is a like minded Congress of the same political party who wish to stay in office. These two branches combine forces and pass many “Legislative changes” to the CRA to serve themselves and their constituency. In short they are using your money to buy votes for their re-election by forcing George into making loans that he would not normally make because he knows that there is little likelihood that these loans will be repaid in a timely fashion. These mortgages then become subject to political calculations rather than the economic calculations of past good banking and accounting practices. If George does not make the proper number of risky loans, it is made clear to him by the U.S. Attorney General and the HUD Secretary that the full force of the federal government would make his future in the banking business untenable in a variety of ways. George is not an idiot, he knows his business and he recognizes that his best way out of this government induced quagmire is to sell these risky CRA induced (ARM, NINJA and sub-prime) mortgages to Wall Street as Mortgage Backed Securities (MBS) to consortiums because they were backed by (FDR’s “New Deal” created) Government Service Enterprises (Freddie & Fanny). For George this is a “no brainer” he gets rid of his problem of excess risk and he does not lose your money. George Bailey might be considered the “Evil-Doer” here, were it not for the Government’s extortion. Government regulators gave George a simple choice: go out of business or follow our rules. As it happens, the new Administration entices these GSE’s into accelerating the proliferation of these risky loans by allowing the management of the GSE’s to pay themselves bonuses based on how many mortgages were bought and sold. At this point it is simply a numbers game, commissions are all that matter, there is no risk assessment. By 1995, the management of the GSE’s began purchasing MBS loans. The MBSs’ were then (by default) guaranteed by Freddie and Fannie and had an implied "AAA" rating. Risk was not thought to be a factor because the GSE’s were thought to be backed by the “Full Faith and Credit of the United States”. As it turns out they were! These “AAA” securities were then sold by Bear Sterns and others to Wall Street money managers and insurance companies all over the world. Common sense would dictate that the end buyers of these securities were not aware of the actual risk that they were taking. Yet, the “Wall Streeters” and other buyers are being blamed by the Politicians, GSE mangers and the “something for nothing borrowers” for this debacle, when the opposite is actually true. The actual victims of this entire scheme are the unwitting end buyers of these cancer riddled securities (Wall Street) and the U.S. Taxpayer. No matter way which you slice it, if you are a taxpayer: It’s your money. Looking for villain? You can either look in the mirror or look to Washington, D.C. where the blame properly lies. The current long string of “Stimulus Bills” actually encourages more irresponsible behavior by Government and “sub-prime borrowers”, for reasons that should now be clear. To paraphrase President Obama: “It is all your “Skin” in the game.”