Okay, a couple of weeks ago I made a pretty cheap joke at the expense of WashPost film critic Ann Hornaday for writing a column I didn’t like—to wit, Shorter Ann Hornaday: Yes, I am an airhead. Why do you ask?—and we at Literature R Us try to be even-handed in passing out the sneers n’ snickers—well, some of the time, at least—so today I thought I’d take a poke at Nobel Prize winner Paul Krugman for his recent effusion How Crypto Became the New Subprime, huffing and puffing a bit on this new “cryptocurrency” hippie shit.
Well, cryptocurrency, of which I own none and have no intention of ever owning, may well be hippie shit, but that’s not the source of my ire. Instead, it’s Paul’s decision to diss subprime loans, and in particular his decision to quote Ned Gramlich, a “governor” of the Federal Reserve from 1994 to 2005, regarding subprimes:
“Why are the most risky loan products sold to the least sophisticated borrowers? The question answers itself.”
The only problem is, that’s about 180° from the truth. As Paul himself notes before giving Ned’s testy quote, “But I remember the days when subprime mortgage lending was similarly celebrated [as cryptocurrency is now] — when it was hailed as a way to open up the benefits of homeownership to previously excluded groups.”
The thing is, that’s exactly why subprime mortgages were invented, and why they were “sold to the least sophisticated”—that is to say, people with low incomes and poor credit records. (Wikipedia has more, if you want it.) “Sophisticated borrowers”—unless they had had a serious run of bad luck—wouldn’t need a subprime.
Conservatives, of course, insist that subprimes were bad because they were simply a device to force banks to give loans to lazy deadbeats. In fact, they were “reasonable” financial instruments deliberately crafted to benefit both the inexperienced borrower and the institutional lender. It was only when subprimes were coupled with a number of other innovations, like mortgage-based securities and adjustable rate mortgages (again, Wikipedia has more), which in and of themselves were, or could be, good ideas, that, in an atmosphere when “everyone” believed that housing prices would rise “forever”, so that you could buy a house for 10% down and then, in four or five years, have 50% equity in a house that had almost doubled in value, that conditions could go seriously sideways, particularly when the geniuses on Wall Street were all betting their firms on the assumption that housing prices would continue to go up forever and ever and ever! And even if it wasn’t true, well, the suckers believed it, so what’s the difference?1 When the bubble collapsed, borrowers couldn’t pay off their loans. In “good” times, that wouldn’t have mattered, much, because lenders could resell the homes at higher prices. But when housing prices fell, and the economy collapsed, and no one was willing to buy a house at virtually any price—well, you can do the math. But subprimes were not either a conservative or liberal rip off, and shouldn’t be the subject of facile moralizing on either the left or right. The real culprit was Wall Street greed.
UPDATE
In today's “Wonking Out” column, Dr. K discusses the 2005 housing bubble, but not subprimes, linking to a 2002 “real timme" analysis of the bubble by economist Dean Baker, which you have to pay to read (so I haven't read it).
1. I remember reading a reminiscence by a mathematician who went from making $80,000 a year as a college professor to making $800,000 a year crafting elaborate investment instruments on Wall Street. He was putting one such elaborate package together and told a broker he needed another week or two to run an enormous series of estimations to see how it would hold up under a wide variety of long-run economic conditions. “Don’t bother,” the salesman told him. “The Japanese will buy anything with our name on it!”
