For those accustomed at looking into the memory hole, President Barack Obama’s pitch to Wall Street bankers Thursday on backing a tough financial reform package currently winding its way through Congress shouldn’t come as a surprise.
Three years ago, then-Democratic presidential candidate Obama had called upon Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke to swiftly rein in predatory lenders whose unorthodox practices in the subprime industry threatened to derail the global economy.
In a March 22, 2007, letter, Obama urged Paulson and Bernanke to convene a “a homeownership preservation summit with leading mortgage lenders, investors, loan servicing organizations, consumer advocates, federal regulators and housing-related agencies to assess options for private sector responses” to the wave of foreclosures.
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“Regulators are partly responsible for creating the environment that is leading to rising rates of home foreclosure in the subprime mortgage market,” Obama said in the letter. “We cannot sit on the sidelines while increasing numbers of American families face the risk of losing their homes. And while neither the government nor the private sector acting alone is capable of quickly balancing the important interests in widespread access to credit and responsible lending, both must act and act quickly. Please don’t let this opportunity pass us by.”
But the Fed chairman and the treasury secretary declined to act on Obama’s suggestion and resisted the financial reforms urged by top Democratic lawmakers.
That is what makes Obama’s decision to retain Bernanke especially troubling when held up against the president’s prescient warnings about a looming financial meltdown caused by Wall Street megabanks, such as Lehman Brothers and Goldman Sachs, which was sued last week by the Securities and Exchange Commission on fraud charges related to one of its subprime mortgage investment portfolios that incurred $1 billion in losses.
As Truthout contributor Dean Baker, the co-director of the Center for Economic Policy and Research, noted in a column earlier this week, while “the financial reform bills moving through Congress offer some hope for a more stable financial system” an even better way to clean up the mess Wall Street left behind would be to fire Bernanke.
Bernanke’s “reappointment as Fed chair was a huge setback for the cause of regulatory reform,” Baker wrote. “Bernanke, in his role as Fed chair and a Fed governor since 2002, was as guilty as anyone could possibly be of ignoring financial abuses. The Fed had all the power necessary to prevent the buildup of a dangerous housing bubble. It looked the other way with disastrous consequences. The Obama administration and Congress then patted Bernanke on the back, said ‘heckuva of a job, Ben,’ and gave Bernanke a second term. This move certainly does not give regulators a lot of incentive to incur the wrath of the big banks by clamping down on risky dealings.”
In fact, in testimony before the Congressional Joint Economic Committee in March 2007, Bernanke, considered a scholar on central banking, said, “the impact on the broader economy and financial markets of the problems in the subprime market seems likely to be contained.”
By March 2007, more than two million people who had subprime mortgage loans were projected to face foreclosure. Nearly 20 percent of subprime mortgages issued between 2005 and 2006 were estimated to go into default and lead to nearly $200 billion in losses, according to a December 2006 study by the Center for Responsible Lending, a nonpartisan research and policy organization.
Yet, Bernanke told lawmakers then that, while the problems in the subprime mortgage industry have caused “severe financial problems for many individuals and families,” it was highly unlikely that it would affect the overall economy.
Two months later, Bernanke spoke before the Federal Reserve Bank of Chicago about the skyrocketing defaults in mortgage loans and home foreclosures and said the economic issues affecting subprime lenders would not ripple into a broader economic crisis nor would it have an impact on huge Wall Street financial institutions.
Bernanke went even further in his remarks. He said that heavy-handed regulation proposed by Democrats would lead to a further meltdown in the housing market.
“Rules are useful if they can be drawn sharply, with bright lines,” Bernanke said during a May 17, 2007, speech at the Federal Reserve of Chicago. “Sometimes, however, specific lending practices that may be viewed as inappropriate in some circumstances are appropriate in others.”
By mid-2007, Democratic lawmakers urged Bernanke to deal with banks’ predatory lending practices that caused the economic volatility in marketplace.
At a Senate hearing in March 2007, Senate Banking Committee Chairman Christopher Dodd detailed a “chronology of neglect” by federal regulators.
Dodd said Federal Reserve analysts first identified eroding lending standards from late 2003 through early 2004. Additionally, Dodd said, the Federal Reserve Board was encouraging banks to come up with more adjustable rate plans.
“Our nation’s financial regulators were supposed to be the cops on the beat, protecting hard-working Americans from unscrupulous financial actors,” Dodd said at the time. “Yet they were spectators for far too long.”
In his speech before the Federal Reserve Bank of Chicago in May 2007, Bernanke said he believed that legislation aimed at tightening regulations could cut off credit and hurt the economy.
“I believe that in the long run, markets are better than regulators at allocating credit,” Bernanke said. “We must be careful not to inadvertently suppress responsible lending or eliminate refinancing opportunities for subprime borrowers.
“The vast majority of mortgages, including even subprime mortgages, continue to perform well. We believe the effect of the troubles in the subprime sector on the broader housing market will likely be limited, and we do not expect significant spillovers from the subprime market to the rest of the economy.”
Josh Rosner, a managing director at Graham-Fisher & Company, an independent investment research firm in New York, and an expert on mortgage securities, told The New York Times in November 2007, “the Hill is going to be in for one big surprise” when the full impact of the subprime crisis finally hits huge Wall Street banking institutions.
“This is far more dramatic than what led to Sarbanes-Oxley,” Rosner said, referring to the legislation that followed the WorldCom and Enron scandals, “both in conflicts and in terms of absolute economic impact.”