Saturday, July 12, 2008

Last advice to FRE and FNM.

If you got money, don't spend it. Hunker down. Don't listen to those miscreants in Capitol Hill. This is a deflationary environment that happened because there WAS a lack of collateral when you printed the money the first time.

Oh, you forgot what an investment bank is, did you? It simply is an institution whom the Government delegates money printing to. The government decides to print money for the public. You print money for the private sector, and you can do that provided the enterprise needing the money is worthwhile, or in other words, well collateralized.

Initially, you did the right thing. But in recent years, you PRINTED money with INSUFFICIENT collateral, did you not? $100 house whom you end up loaning $150?

Listen to me, I learned from you two once. Now it's time I pay the favor.

Two suggestions:

1. When you get the money from Paulson, curtail your lending and curtail hard. How hard? Create a supply and demand curve for mortgages, keep tweaking the credit requirement until you get approximately credit expansion of 3-4% a year. Otherwise you'd be diluting the value of the house with worthless paper, like what you just did. If that point is 35% down-payment, then so be it - that is the natural growth of credit that the public can SUPPORT for the long run.

2. Increase mortgage rate. A lot. Realize that housing is a twenty year cycle with 19 years of zero losses and 1 year of 100% loss. Charging the average, of 5% loss for example, is not the right thing to do, because when the 100% comes you would immediately be insolvent. And the 100% loss is NOT known up front where it would happen be it in year 1 or year 20. Charge a lot and combine with the credit restriction so that you don't expand credit greater than the public expand theirs, which is observable through the inflation rate.

For the congress people I have also a reminder. That the GSE was created so USA doesn't have to appear to borrow too much, was it not? So you ask private money to provide some equity, and it can survive because USA is like the illegitimate parent of these lovechilds. What happens if the children are broke because of you asking them to send money to you? They'd be looking for you and they ain't happy. Hands off - the deflationary process happens because the people you trusted, including the GSEs, were printing money indiscriminately to invest in projects that turns to be less worthwhile than the amount of money invested. It is USELESS trying to add more money into these "projects" because the value just isn't there to begin with. You cannot stop house prices to revert to what long term supply and demand dictates. Hunker down, spend less, and let prices go where they may.


Greenie said...

FRE and FNM are instruments of US congress. No point wasting time to tell them what to do. They are not independent.

US congress reflects the dreams and aspirations of American people, which in three words are 'get rich quick'.

So, effectively you are trying to fix a decadent society.

MTGSPY said...

it doesnt hurt to try.

This is all the last chance to survive for the companies (and USA).

All they had to do is keep the money they still have, and later when situation settles down, slide the scale on the "supply" side until the growth of credit is not more than the GDP (or CPI, if one so inclined).

Basically drain the sewer, and fix the ditch after that. It's not hard, unless you are in DENIAL.

illiac64 said...

I agree that your proposed solution is the right one. It would probably ensure that GD2 would unfold similar to GD1, with about the same timeline.

In my opinion, that is vastly preferable to the death by a thousand cuts version in Nippon.

Greenie said...

What do you say?

MTGSPY said...

pls see new post for answer. On jun 23, I surmised a) the bailout will take form as explicit guarantee, and b) "investors" will buy Agency and short tsy using various implementations, and c) the net effect in market is very little in term of new confidence because these are all arbitrageurs.