THE CURRENT FINANCIAL SITUATION IN AMERICA

It is hard to know how to explain the current financial problems in the United States. Perhaps one of the biggest problems is my own lack of knowledge in the field of economics and in the history of this problem. I have to admit to not having followed the financial markets as I should have, and therefore not being really up to date. So this will essay will be short, and somewhat naive.

This material is difficult to understand. At least it is for me. So the organization of this paper is this: I will tell you what I think sections are saying, and then will use colors to put the writing I have described into this essay. The text where colors are used will look like this:

This is an example of more dense material.

So – here we go. From 1945 to 1975 there was great economic growth in America. But around 1975 the growth fell off, and a high rate of inflation began. Capital markets were deregulated in the 1980s, after which there were many little financial crises. In 2001 the internet startup companies went sky high and then fell. This resulted in a 7 trillion dollar loss and a recession. To counter this recession, the government reduced the cost of borrowing money to only one percent – the lowest it had been in 45 years. However, this lead to a huge housing bubble in real estate.

What I have said and what I am saying is really just saying what I have read in such works as Waldo Bello's Wall Street Meltdown Primer. Because these assets were then made more secure by combining them with other assets into a very complex product. The lenders who made the original mortgage worked with different groups of middlemen who understated the risks of the loans in order to profit from them as quickly as possible. They were sold to other banks and institutional investors. These institutions in turn sold the securities to other banks and foreign financial institutions. With very low interest rates, people could buy property – houses – for very small monthly payments – with what is call an adjustable mortgage. ARM (Adjustable Rate Mortgage).

Adjustable really means that the economy becomes more robust, the rate of the charges for the loan will increase. It would be very rare for the monthly payment to decrease.

Unlike fixed rate mortgages that have an interest rate that remains the same for the life of the loan, the interest rate on an ARM will change periodically.” When the interest rates were raised on adjustable mortgages, and other housing loans, chaos resulted and so ... the terrible mess we are currently in.

The factors that led to this current problem are several: 1 - the greed of business men who made loans to many people who did not understand what would happen as the rates of interest climbed (and the bankers and lenders did not tell them); 2 – the lack of education of many buyers of property and their wish to have something for their money; and 3 – the lack of governmental regulation (and of course self regulation) of financial institutions – a situation which allowed the first two factors to flourish.

Still with Waldo Bello's Wall Street Meltdown Primer, “However, as late as 2005, then-Council of Economic Adviser Chairman and now Federal Reserve Board Chairman Ben Bernanke attributed the rise in U.S. housing prices to "strong economic fundamentals" instead of speculative activity. Is it any wonder that he was caught completely off guard when the subprime mortgage crisis broke in the summer of 2007?”

In America we sometimes say the “Emperor has no clothes.” We refer to a beautiful little tale The Emperor’s New Suit by Hans Christian Andersen (1837). Read it – it is short, easy to read, a lot of fun, and it will give you a break from all this. Well, finally rates went up, and the ARM payments were raised, and people could not afford to make the payments, so the lenders took the houses away and many, many people lost their homes and savings. All the paper that had been sold from bank to bank was not any good because so many people had to declare bankruptcy. Government officials assured everyone that the fundamentals are sound, BUT then the bubble burst because everyone realized: the emperor has no clothes. The lenders could not sell the paper. They had no more cash with which to earn money. They had no more money to pay their own debts and to continue paying their weekly bills. SO – the point is our government had to decide what to do – to become more dominant, or to remain passive. That was the debate, and they finally have reached a bailout plan.

What has been left out of this discussion is the differences between the political parties and between people in this country on several issues. One issue is the amount of control the government should exercise over the people and the businesses of the country. Control is seen as how much help to give people who have no health insurance – how much lenders should be required to reveal about the charges on the loans they are making, and that sort of thing. There are many other issues of importance here, but the Governmental control is a major one. This issue goes back to the time our country was formed, and was important when the constitution was written.

Wall Street Meltdown Primer by Walden Bello “...to understand the connections, we must go back in time to the so-called Golden Age of Contemporary Capitalism, the period from 1945 to 1975...This period of high growth came to an end in the mid-1970s, when the center economies were seized by stagflation, meaning the coexistence of low growth with high inflation, which wasn't supposed to happen under neoclassical economics...because it's driven by speculative mania, finance-driven capitalism has experienced scores of financial crises since capital markets were deregulated and liberalized in the 1980s...The current Wall Street collapse has its roots in the technology-stock bubble of the late 1990s, when the price of the stocks of Internet startups skyrocketed, then collapsed in 2000 and 2001, resulting in the loss of $7 trillion worth of assets and the recession of 2001-2002.

The Fed's loose money policies under Alan Greenspan encouraged the technology bubble. When it collapsed into a recession, Greenspan, to try to counter a long recession, cut the prime rate to a 45-year low of one percent in June 2003 and kept it there for over a year. This had the effect of encouraging another bubble - in real estate.

As early as 2002, progressive economists such as Dean Baker of the Center for Economic Policy Research were warning about the real estate bubble and the predictable severity of its impending collapse. However, as late as 2005, then-Council of Economic Adviser Chairman and now Federal Reserve Board Chairman Ben Bernanke attributed the rise in U.S. housing prices to "strong economic fundamentals" instead of speculative activity. Is it any wonder that he was caught completely off guard when the subprime mortgage crisis broke in the summer of 2007?”

In an excellent paper Income Distribution and the Information Technology Bubble by James K. Galbraith and Travis Hale of the LBJ School of Public Affairs at The University of Texas at Austin:

“From January 1994 to February 2000, the NASDAQ composite index rose from 776.80 to 4,696.69, a 605% increase, heavily influenced by prices of high-technology stocks. Meanwhile, some sociologists, applied economists, and public intellectuals called for increased attention to rising CEO compensation, living wage campaigns, the morphing of the service sector into the “servant class”, and other issues of income inequality, while others celebrated the new scientific and technological paradigm as a driving force behind prosperity into the future. But the exact relationship between the technology boom and the inequality crisis remained at least partly obscure.”

From the same source:

“For those who have wondered whether there can be “too much of a good thing,” the information technology bubble is an example of just such a phenomenon. According to Robert Shapiro, former Undersecretary of Commerce,

“The American bubble represented an excess of something that in itself has real value for the economy -- information technologies. The bubble began in overinvestment in IT and spread to much of the stock market; but at its core, much of the IT was economically sound and efficient. Further, these dynamics also played a role in the capital spending boom of the 1990s, and much of that

capital spending translated into permanently higher productivity. The result is that the American bubble should not do lasting damage to the American economy.””

BUT it did.