An Open Letter to Borrowers and Lenders: Take Responsibility for Your

[ARI Media Feed]

By Alex Epstein from The Ayn Rand Institute Stories,cross-posted by MetaBlog

An Open Letter to Borrowers and Lenders: Take Responsibility for Your Decisions

by Alex Epstein

Throughout the housing crisis, we have heard demands from spokesmen for desperate homeowners, banks, and investors for every variety of government bailout. But there is one group from whom the nation has not heard: the millions of Americans who, like me, had nothing to do with the crisis, who entered into mortgage contracts they could meet or who refused to buy at exorbitant prices, but who will be forced to pay the bills for these bailouts. If we had a spokesman, this is what I wish he would say.

 

"Dear Struggling Borrowers and Lenders,

"Every day, the government is offering a new intervention for your sake: to protect the borrowers among you from foreclosure, to protect banks and investors from ruinous losses, and to protect all of you who bought houses during the boom from declining home values.

"The government is allowing taxpayer-backed, trouble-ridden Fannie Mae and Freddie Mac to add even more risky subprime loans to their trillion-dollar portfolios while holding even less cash in reserve. It is 'guaranteeing' more and more risky mortgages with taxpayer money through the Federal Housing Administration (FHA). Through the Federal Reserve, it is continuing to inflate the currency to give cheap money to struggling banks. And it is floating several proposals to allow courts to slash valid mortgage contracts, assaulting the sanctity of contract.

"All of this is profoundly unfair to those of us who will pay the price for your bailout.

"It is universally recognized that when you invest in stocks, you are taking a risk--and just as you deserve the profits if the investment goes well, so you must accept the losses if it doesn't.

"The same holds true for real estate. Whether you are an investment bank holding mortgage-backed securities, a borrower with an adjustable-rate mortgage facing foreclosure, or an 'underwater homeowner' who owes more than your home is worth, the essence of your situation is the same: you chose to enter into a real estate transaction that has gone bad. And just as you had every right to any gains that might have ensued--so you must bear full responsibility for your losses.

"Taking responsibility does not necessarily mean resigning yourself to foreclosure or to huge, irreversible write-downs. You should do everything possible to make the best of the situation by making voluntary offers to other market participants. A borrower can seek refinancing, a bank with a large mortgage portfolio can try to find a buyer, lenders and borrowers can renegotiate loan terms that are cheaper than foreclosure. But what is intolerable is to force us to bail you out--which is exactly what the government is doing more by the day.

"Your representatives blithely ignore the injustice of their bailout schemes, claiming that the health of the entire financial system is at stake--just as they did with Long-Term Capital Management in the '90s and Savings and Loans in the '80s. But if the financial system ever does need these bouts on government life support, it is only because of decades' worth of government interventions that have radically distorted private investments and camouflaged and shifted risks. To unwind these uneconomic policies and practices will be disruptive. But it is the only way to restore genuine financial health.

"The question we face today is: Do we let the market function, penalizing primarily those who made bad investments--or do we unfairly foist damage on those who did nothing to cause it, while gifting boom-era borrowers and lenders with propped-up housing prices, lower mortgages, and easy credit?

"There is no conflict between individual responsibility and a functioning housing market; to the contrary, the second requires the first. If we let the market function, home values would fall to some market bottom, new buyers would eagerly seize on lower home prices, borrowing from lenders who would have learned to lend rationally--and mortgage-backed securities would be valued accordingly.

"The bailout policy, on the other hand, is creating indefinite uncertainty about home values and mortgage-backed securities, exposing taxpayers to trillions of dollars in future risks, further devaluing our savings through inflation, encouraging more irresponsible behavior in the future, and creating destructive new government interventions that destroy the vital protection of contracts.

"Clearly, the just and the American solution is for all of us to tell the government that we will take responsibility for our decisions, and that no one has the right to make anyone else pay for his mistakes."

 

http://ObjectivismOnline.com/archives/003673.html

[K-Mac]

I have a question. While I agree the government should not be bailing anyone out, why is it not okay for these banks to, number one, get back some of the taxes they've paid into the system all these years and, number two, ask for help when the government encouraged them to make those risky loans? I certainly understand the banks should not have been taxed in the first place, and I also understand that The Community Reinvestment Act of 1977, and the subsequent revisions to it, should not have been passed, but isn't this very similar to the question of whether or not it's okay to accept welfare when you genuinely need it? The answer to that question has been, well, if the government is going to steal your money, it's okay to get it back when you're in need, right?

[DragonMaci]

I have a question. While I agree the government should not be bailing anyone out, why is it not okay for these banks to, number one, get back some of the taxes they've paid into the system all these years and, number two, ask for help when the government encouraged them to make those risky loans? I certainly understand the banks should not have been taxed in the first place, and I also understand that The Community Reinvestment Act of 1977, and the subsequent revisions to it, should not have been passed, but isn't this very similar to the question of whether or not it's okay to accept welfare when you genuinely need it? The answer to that question has been, well, if the government is going to steal your money, it's okay to get it back when you're in need, right?

Not if it is going to shield you from learning from your mistakes; the governmet should not shield people from learning from their mistakes.

[sanjavalen]

Not if it is going to shield you from learning from your mistakes; the governmet should not shield people from learning from their mistakes.

Thats ridiculous. What kind of a standard is that? How is one to judge who does and doesn't learn from their mistakes by government bailouts?

[DragonMaci]

Thats ridiculous. What kind of a standard is that? How is one to judge who does and doesn't learn from their mistakes by government bailouts?

No, it is not ridiculous and one needs only read the original post and other ARI media feeds to see why. My own take on it is much the same: ie, people need to take responsibility for their mistakes to learn from them. Taking government hands outs is the exact opposite of that.

[JMeganSnow]

The answer to that question has been, well, if the government is going to steal your money, it's okay to get it back when you're in need, right?

It's okay, provided that a.) you're using that money for something that's in your long-term best interest, and b.) you continue to advocate the elimination of these programs. Neither of these pertain in this particular situation, I believe. It is *not* in the long term best interest of borrowers or lenders that the government enact these massive bailout programs, and these people certainly *are* advocating said bailouts.

[KevinDW78]

Back in late 2001 when the economy went to hell, I got laid off due to downsizing. Because the economy was crap I had a very difficult time trying to find a new job. I struggled with the decision to collect unemployment but finally i realized what i would be getting was miniscule compared to how much I had paid to the government over the years, and secondly, I saved up the money I collected and instead started my own web business (which was successful) rather than having to rely on finding a job which likely would not have happened before the unemployment ran out.

[K-Mac]

It's okay, provided that a.) you're using that money for something that's in your long-term best interest, and b.) you continue to advocate the elimination of these programs.

Are these bail outs not in the lenders' long-term interest? And I'm sure the industry as a whole would rather the government not be involved in their business. I can say that for the financial planning world, so I can't imagine it wouldn't be true for the banking world as well.

We discussed this topic in chat last night, which prompted me to find this website that further explained The Community Reinvestment Act of 1977. Found this part particularly interesting...

The CRA requires that each depository institution's record in helping meet the credit needs of its entire community be evaluated periodically. That record is taken into account in considering an institution's application for deposit facilities.

Is that record taken into account when considering an institution's application for deposit facilities as it relates only to the mortgage business, or other bank business as well? Based on that quote and the other information on that website, it sounds like the government was bullying these lenders into doing what the government wanted done.

Based on that information, if accurate, I would say that the government caused this mess, so it should have to bail everyone out. That means we all pay/suffer for the mistakes of the government we put into power, no??

I'm seriously asking here. I'm certainly no expert in this industry and I would appreciate any thoughtful input.

[softwareNerd]

Are these bail outs not in the lenders' long-term interest?

It is not in the long-term interest of the better lenders to have such a system in place, in the first place. In essence, what we have today is the government encouraging certain types of risk-taking, and then bailing out people who take some of those risks. Given that the government sets up a context in which some risk is encouraged and even forced (e.g. via the CRA, 1977), and where bailing out is part of the system, it is similar to unemployment insurance. I think that's a really astute parallel.

You're right that the government was bullying lenders into giving loans to people with low credit-worthiness. However, that is just one little piece of government intervention (IMO, it was not the critical piece in the current boom/bust). One also has the whole structure of Fannie-Mae and Freddy-Mac: they underwrite risks and they give a government-backed entity a role in deciding what processes and lenders to trust. Then, one has the FDIC and the Fed, which underwrite general risks taken by banks and decide what banking processes and entities to trust. Then, one has tax law, encouraging home-ownership. Then one has the SEC and the FED that have created an illusion that they will keep an eye on unscrupulous companies; in essence, this underwrites risk too. Then one has the Fed who bail out companies like Long Term Capital (and now bear Stearns). Even though the shareholders lose, the counter-parties are made whole. This encourages risk-taking of another kind. Finally, one has Federal government deficits driving inflation.

I guess that it's nearly impossible to work out just how much one of these entities deserves to be compensated by the government and how much was their own doing. Just like people can take advantage of such schemes, so can companies. Such people and companies play the system to its limits, and want ever increasing bailouts when things go wrong. In the current boom/bust, some banks held off, doing what they had to, but being relatively cautious; others seemed to have had a field day.

In general, there is never a perfect way to unwind these situations.

Consider some other examples:

One cannot fault people for playing by the rules while using their best judgment about the future. For instance, many people have planned to get some of their retirement money from social-security. Even if they are cautious and think they may not get all that is currently promised, they might scale down their expectations to some more reasonable level. Now, if one were to scrap social-security, one is being unfair to such people, who tried to be as reasonable as they could. On the other hand, if one does not scrap it, one is being unfair to those who continue to pay into the system, with even less chance of getting anything from it.

Or, consider taxi-licenses. A man in Minneapolis wants to run his cab, but he has to get a license/token, and the only way is to buy one, because the city only issues a small number and no more. So, he spends (say) $5,000 on the license. Now, the city decides to open up the system. The money this man paid is down the drain, because suddenly anyone can get one for a small fee. [in the actual case, the city phased the new system in over 5 years.]

In general, with no perfect solution, while it is moral to use the system to the extent one feels other avenues have been made significantly difficult, it is also imperative on the moral person (or company) to rely as little as necessary on the system and to try to work toward ending it.

[K-Mac]

You make very good points, sNerd, and I agree. I guess I just feel like everyone is coming down hard on the lenders and borrowers in this situation, when the government is ultimately to blame. (Let's keep the focus of this problem where it lies, right?)

[softwareNerd]

I guess I just feel like everyone is coming down hard on the lenders and borrowers in this situation, when the government is ultimately to blame. (Let's keep the focus of this problem where it lies, right?)

Yes, but...

In the U.S., citizens generally get the government they deserve, even if it is simply because of their ignorance or detachment. From that perspective, the government is not so much a primary actor as it is an agent of the voters. So, there is a sense in which it is not the government that is to blame, but the voters. Well, some voters (the majority).

Therefore, I think the buck doesn't stop with the government, but keeps going. And, in this journey, it falls more heavily on those voters and those companies who cheer for government actions of the pre-bailout and post-bailout variety.

[~Sophia~]

I guess I just feel like everyone is coming down hard on the lenders and borrowers in this situation, when the government is ultimately to blame.

I disagree with you, Kelly. The government encouraged a wrong action but the responsibility ultimately lies on the adult individual who made the decision to do it (bank and borrower).

Edited June 6, 2008 by ~Sophia~

[K-Mac]

While I agree that some of the blame certainly lies the lenders and the borrowers, I'm just having a hard time accepting that the responsibility ultimately lies with them. Had the government not been bullying and/or forcing their agenda on everyone (see the examples in post #9), far fewer lenders and borrowers would have put themselves in such a precarious position. (We're all trying to play as best we can by the rules the government gives us, no?) I think, ultimately, the problem is that of the government sticking its nose in where it doesn't belong, yet again.

Edited June 6, 2008 by K-Mac

[adrock3215]

Actually the problem has been created by government, and they are solely responsible. It is fiat currency, by definition, which has solely caused this particular problem.

[~Sophia~]

Had the government not been bullying and/or forcing their agenda on everyone (see the examples in post #9), far fewer lenders and borrowers would have put themselves in such a precarious position.

Many lenders and borrowers made a decision not to participate (correct action was possible given current laws). Also no borrower was forced to enter into such contract.

Encouragement, incentive, making something seem like a good idea is not the same as force. Negligence, ignorance is not an excuse.

(We're all trying to play as best we can by the rules the government gives us, no?)

No, it is the rules of reality which we have to follow (part of the problem is that some people do not think reality is objective and so they think they can bend the rules and somehow "win" ). The only time you are excused for your actions is when your participation is not voluntary (like taxes). This was not such a case.

The only way you will discourage people from taking advantage of wrong government actions (and stop the creation of more of them) is when you stop bailing them out, stop sheltering them from the consequences of doing so.

[Greebo]

Actually the problem has been created by government, and they are solely responsible. It is fiat currency, by definition, which has solely caused this particular problem.

Can't agree.

Fiat currency may allow the problem, but borrowers and lender participation is required for the problem to go from potential to actual.

Edited June 6, 2008 by Greebo

[~Sophia~]

Actually the problem has been created by government, and they are solely responsible. It is fiat currency, by definition, which has solely caused this particular problem.

This is false. When a moral/correct action lies in the realm of possible (and the existance of a fiat currency did not remove that possiblity) an individual is not excused.

[K-Mac]

Many lenders and borrowers made a decision not to participate (correct action was possible given current laws). Also no borrower was forced to enter into such contract.

That makes more sense then. I did not know this. The verbiage of the Act was ambiguous which is usually government's nice way of saying, "do this or else."

No, it is the rules of reality which we have to follow (part of the problem is that some people do not think reality is objective and so they think they can bend the rules and somehow "win" ).

I guess what I meant by "playing as best we can" is trying to get by in the bad situation the government has put us in. (Not necessarily breaking laws or bending rules...we try to do what they will allow us (which is reality) but they are making unrealistic rules for us to follow.) For example, a single person needs a tax deduction, so it's cheaper for him to buy a house than rent an apartment. Then, after a few years of his ARM going up, he tries to refinance like the lender told him he would be able to, and finds his house is worth less than he owes for it because of a floundering economy (because of the government's meddling.) The government is making people jump from the frying pan and into the fryer. There is no way to "win" as you put it. Things are just going to keep getting worse, whether bail outs happen or not, until we clean up the government, right?

[adrock3215]

Fiat currency may allow the problem, but borrowers and lender participation is required for the problem to go from potential to actual.

Greebo and Sophia: Are you saying that, given the status of the dollar as a fiat currency, if you ran a bank, you would not loan money out to whomever knocked on your door? If not, why not? It is virtually risk free and moreover, you did not create the actual problem.

[Greebo]

Greebo and Sophia: Are you saying that, given the status of the dollar as a fiat currency, if you ran a bank, you would not loan money out to whomever knocked on your door? If not, why not? It is virtually risk free and moreover, you did not create the actual problem.

How do you figure it's virtually risk free? It may be fiat currency, but it still has value in that people treat it as though it has value, so losing it means I've lost value.

I have lent money on Prosper, a P2P lending site. Just because the money isn't "real", doesn't mean it didn't suck when some people stopped repaying the loans. (Fortunately I'm still netting about 7%)

[~Sophia~]

I guess what I meant by "playing as best we can" is trying to get by in the bad situation the government has put us in. (Not necessarily breaking laws or bending rules...we try to do what they will allow us (which is reality) but they are making unrealistic rules for us to follow.)

In this case the government was not resticting options but instead was making them a possiblity for those who should not have had them available. But having a possiblity of something does not mean that it is an automatically a good option (obviously).

For example, a single person needs a tax deduction, so it's cheaper for him to buy a house than rent an apartment.

Not sure what you mean by needs a tax deduction. You must mean would like a tax deduction. Well what tax deduction you go for must lie in the area of a good/correct idea for you. Purchasing something which you can not afford (or taking on more financial risk than you can afford) is not "cheaper".

Then, after a few years of his ARM going up, he tries to refinance like the lender told him he would be able to, and finds his house is worth less than he owes for it because of a floundering economy (because of the government's meddling.)

If someone was relying on the possiblity of specific refinancing deal when purchasing a house then one should have gotten that on paper. Other than that it is a financial risk you are willing to take (like when purchasing a stock - you can't just argue that you were buying that stock with the understanding that it will go up - like the CEO was projecting - so you feel cheated that it actually went down).

Things are just going to keep getting worse, whether bailouts happen or not, until we clean up the government, right?

Bailouts will delay the process of improvement. Also, it will be a huge injustice to those who did not contribute to this mess yet now will be made to pay for it.

Edited June 6, 2008 by ~Sophia~

[~Sophia~]

I get credit offers from financial institutions, often for high sums of money, all the time. Credit which, if taken advantage of, would be very hard for me to repay. It is me who has to act responsibly by not taking advantage of such offers.

[K-Mac]

I understand your points and they are well taken. (Except for whether keeping as much of your earnings as possible is a necessity or not. I feel it is.)

I still don't understand the difference between someone who accepts welfare and this bail out though. Why should you ever have to go on welfare? You should have been a responsible person and not spent all you had. You should have saved for a rainy day. Why should the government bail you out now that you've unexpectedly lost your job or become disabled or whatever? It seems to be the same situation here, but now everyone's freaking out about the government returning tax money to these taxpayers.

Had the government not been meddling to being with (by stealing their money or encouraging bad lending practices) there would be no problem. I understand that there is blame to go around, but I still feel that the blame ultimately rests on government meddling. I guess I'm just not willing to let them off the hook so easily. (Which came first, the chicken or the egg here?)

[themadkat]

I understand your points and they are well taken. (Except for whether keeping as much of your earnings as possible is a necessity or not. I feel it is.)

I still don't understand the difference between someone who accepts welfare and this bail out though. Why should you ever have to go on welfare? You should have been a responsible person and not spent all you had. You should have saved for a rainy day. Why should the government bail you out now that you've unexpectedly lost your job or become disabled or whatever? It seems to be the same situation here, but now everyone's freaking out about the government returning tax money to these taxpayers.

Had the government not been meddling to being with (by stealing their money or encouraging bad lending practices) there would be no problem. I understand that there is blame to go around, but I still feel that the blame ultimately rests on government meddling. I guess I'm just not willing to let them off the hook so easily. (Which came first, the chicken or the egg here?)

Gonna have to disagree with you here K-Mac. Government or no government both lenders and borrowers made incredibly poor decisions and ignored most of the fundamentals of economics. It isn't rocket science for someone to know better than to buy more house than they can afford, or not to lend an amount of money to someone that, based on their income and credit history, there is very little chance of them repaying. Both borrowers and lenders were more or less counting on the housing market to keep going up at bubble rates forever, a completely irrational expectation. All markets experience cycles and prices will go both up and down. It is rational to expect that over the long term markets will steadily rise as more real-world value is created and traded. But at any given time there is no guarantee of the value of a volatile asset.

This is all made even more complicated by the fact that the mortgages were then packaged and repackaged as various securities which were then traded on the open market. Investors are still trying to figure out who actually bore the risk/loss from the crisis because it isn't entirely clear who owns the liability at this point, even months later.

[K-Mac]

None of you can convince me that this mortgage crisis would be happening in a true laissez-faire capitalist society. You can keep pointing the finger to everyone else, who rightfully share some of the blame for participating in this mess, but if the government had not meddled, those loans would likely not have been made and the problem would not exist. Thus far, no one has convinced me otherwise, and I really wasn't looking to be convinced otherwise. I believe laissez-faire capitalism will work if given the proper opportunity.

Now back to my original post/question... I still don't understand the difference between someone who accepts welfare and this bail out. Why should you ever have to receive welfare/a bail out? You should have been a responsible person and not spent all you had/bought more home than you could afford. You should have saved for a rainy day/not risked the real estate investment. Why should the government bail you out now that you've unexpectedly lost your job or become disabled/because interest rates rose and the value of your home fell/you made loans to risky investors? The answers are the same for both situations; someone made poor financial decisions. So why in other threads on this very forum is it okay to accept welfare when you "genuinely" need it (because they're your taxes and you have the right to get it back) but not to accept this government bail out (which amounts to welfare) when you "genuinely" need it?