consequences of deregulation



Credit crisis expands, hitting all kinds of consumer loans

Kevin G. Hall
McClatchy Newspapers, June 08, 2008
http://www.mcclatchydc.com/227/v-print/story/40246.html


WASHINGTON — The credit crisis triggered by bad home loans is spreading
to other areas, forcing banks to tighten credit and probably extending
the credit crisis that's dragging down the economy well into next year,
and perhaps beyond.

That means consumers are going to have an increasingly difficult time
getting bank loans for car purchases, credit cards, home equity credit
lines, student loans and even commercial real estate, experts say.

When financial analyst Meredith Whitney wrote in a report last October
that the nation's largest bank, Citigroup, lacked sufficient capital for
the risks it had assumed, she was considered a heretic.

However, Whitney was proved correct: Citigroup pushed out its CEO,
sought foreign investors and slashed its dividend. Her comments now
carry added weight on Wall Street, and she has a new warning for
ordinary Americans: The crisis in credit markets is far from over, and
it increasingly will affect consumers.

"In fact, we believe that what lies ahead will be worse than what is
behind us," Whitney and colleagues at Oppenheimer & Co. wrote in a
lengthy report last month about threats faced by big national banks,
including Bank of America, Wachovia and others.

The warning is scary considering what's already behind us in the credit
crisis — the resignation or firing since last August of CEOs at almost
every large commercial or investment bank; the Federal Reserve lowering
its benchmark lending rate by 3.25 percentage points; a Fed-brokered
deal to sell investment bank Bear Stearns; and weekly auctions of
short-term loans from the Fed worth billions of dollars to keep credit
markets functioning.

Whitney argues that the worst is still ahead because the financial tools
that enabled credit to flow so freely to homeowners and consumers for
most of this decade are likely to remain in a prolonged shutdown
indefinitely.

"After years of inherently flawed underwriting, banks face the worst yet
of the credit crisis — over $170 billion in write-downs and charge-offs
from consumer loans," Whitney told McClatchy. The same kind of losses
from housing may be ahead for credit extended to consumers, she said.

At the heart of the nation's lending boom from 1996 to 2006 was a
process called securitization. In housing, this process involved pooling
mortgages for sale to investors as special bonds called mortgage-backed
securities. Monthly mortgage payments were also pooled and served as the
return to investors.

Securitization meant that most home loans no longer sat on a bank's
balance ***. Instead, they were sold into a secondary market, where
they were sliced and diced in a process that was supposed to spread
investment risk a mile wide and an inch deep.

For every dollar of mortgage loans that banks kept on their balance
sheets since 2000, another $7 of these loans were sold to the secondary
market and securitized. This led to the industry joke that "a rolling
loan gathered no loss." Risk was passed along to the next holder of the
debt. Securitization added what bankers call liquidity, a fancy term for
having more money on hand to lend.

Now, the structured finance that enabled Americans to borrow cheaply has
gone away, at least in the housing market.

"With that source of liquidity removed, the sheer number of buyers who
can qualify for mortgages and therefore buy homes will decline
dramatically," Whitney told McClatchy. "It stands to reason, therefore,
that less demand and more supply will drive home prices down well below
current expectations."

In addition, interest is waning in other areas of lending where
securitization has also been common — car loans, credit cards, home
equity lines of credit, student loans and even commercial real estate.
It means that lending in those areas is growing tighter.

"There are still many areas where people aren't going to be able to do
transactions that they were able to a year ago," said Sean Davys,
managing director of the Securities Industry and Financial Markets
Association (SIFMA), the trade association for big finance. "We do
expect that it will take a significant amount of time for the market to
return to any sense of normalcy. What's your reference to normalcy? It's
going back several years, not just a couple of years."

These other areas of lending are suffering through a buyer's strike.
Investors just don't have much interest in buying anything whose
underlying asset are pooled loans.

Because there are no buyers, banks are taking an accounting hit as they
mark down the value of the securitized mortgages they own, and Whitney
believes they'll have to do so with other types of securitized loans,
such as car loans and credit card debt.

That's likely to result in a large pullback in bank lending. She
forecasts tighter lending standards, banks with increasingly limited
capital, a growing need for banks to set aside more money to offset
losses and tough new federal regulations to protect borrowers, which
would reduce lending further.

If the positive side of securitization was that it let banks lend more
by passing loans into a secondary market, the inverse is now true. Banks
are less willing or able to lend — they collectively set aside more than
$10 billion to shore up their balance sheets in the first quarter of
2008. That's meant that consumers must pay more to borrow to buy a car
or fix a home, and it's harder to get loans.

"There are a lot of businesses and individuals that are going to find
that their access to credit is a lot more limited than it used to be and
it's a lot more expensive," said Mark Vitner, a senior economist with
Wachovia, a large national bank headquartered in Charlotte, N.C. "And
the reason why is the lessened ability to securitize these loans and
sell them in the secondary market. That lack of liquidity is being
priced into all new loans."

Higher borrowing costs are on top of tighter lending. The Whitney report
estimated that by 2010 credit card issuers would withdraw more than $2
trillion in credit that they've been extending to consumers.

"We're already seeing examples of people seeing their credit limits
reduced," said Joseph Ridout, a spokesman for Consumer Action, a
consumer rights group based in San Francisco.

More troubling, he said, some banks are doubling interest rates on
customers who are current on payments but considered a credit risk
because of changes in their credit profile. The hikes apply to
credit-card debt already racked up.

Federal Reserve Chairman Ben Bernanke worried about the state of the
credit markets in a June 3 speech. Financial institutions already have
taken $300 billion in write-downs and credit losses, he said, noting
that "balance *** pressures and the relatively high cost of new bank
capital have reduced the willingness and ability of these institutions
to make markets and extend credit."

Translation: Expect less credit for consumers and businesses and higher
borrowing costs.

It's a bad omen for a sluggish economy struggling to stay out of recession.

Still, not everyone is so downbeat.

Bert Ely, a banking consultant who was prominent during the savings and
loan crisis, thinks that once the economy rebounds, banks will look a
lot stronger. That's because the loans they're bringing back on their
balance sheets will look better over time.

"Many of the losses financial institutions have reported will
essentially reverse out (and become accounting gains) . . . that's why
large institutions have been raising capital to hang on to these
securities so they don't have to sell them at what would be
unrealistically high losses," said Ely.

He nonetheless agreed with Whitney that "there are still some serious
issues with securitization" and the credit markets are unlikely to
bounce back within two or three years.





--
All men are frauds. The only difference between them is that some admit it.
I myself deny it.
H. L. Mencken
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