http://www.latimes.com/business/la-fi-indymac12-2008jul12,0,6071779.story

Somebody's ass in a sling?

I hope so.

Scott wrote

http://www.latimes.com/business/la-fi-indymac12-2008jul12,0,6071779.story
Somebody's ass in a sling?
I hope so.

The whole country's ass is in a sling. There's a reason that banking
regulators do not make their list of troubled institutions public. This is
it. Several of the former heads of the various agencies have actually
refused to provide the names of their problem banks, savings and loans and
credit unions to Congress because doing so would make the lists subject to
disclosure.

Action against insiders of the bank is unlikely unless there is personal
fraud involved. There's probably some, but the failure is probably not a
direct result. Since this bank was identified as a problem and handled as
one and because the failure was due to a run, the regulator, including the
person directly in charge of the institution's supervision, will probably
survive. They may even get raises. The guy that shot his mouth off is a
politician, a Democrat to boot. He'll blame it on others and make it stick,
or be replaced by someone just as bad. The worst punishment he'll get is to
not be reelected so that he has to start receiving his retirement earlier
than he planned. He should be shot, but we're not allowed to do that
anymore.

There are a few things in the article worth focusing on:

1. The obvious problem was the disclosure. The institution might well have
failed anyway, but it probably would have been more orderly had it been
allowed to happen normally. The run forced it prematurely. The institution
will reopen Monday and, as much as possible, it will be business as usual.
In the background, assets will be written down to realistic value with the
insurance fund picking up the losses. The bank, or its revalued assets,
will be sold to somebody else. Normal depositors and borrowers will hardly
notice the difference. Those with uninsured deposits will notice the
difference, but probably only temporarily. The last time I checked, nobody
has lost their money in a bank failure since the government started insuring
deposits. Sometimes it took a while. That may no longer be true, but the
government will do everything they can to ensure it is. They have to. The
entire economy of the US depends on faith in the financial system.

2. Note that the OTS was the regulator, but the FDIC closed the institution.
The FSLIC used to insure savings and loans, but failed during the last major
banking disasters which, by the way, were also led by savings and loan
failures. The FSLIC had direct supervisory oversight of the savings and
loans. The FDIC doesn't until there's no other choice. It's significant
that the link between the regulator and the insurance is less direct. The
FDIC has certainly been involved in the supervision for a while, but they
only got there after the OTS had proved unable to cure the problems. The
FDIC loves their fund and you can be certain that they are not happy about
what this failure will do to it.

3. This was a liquidity failure, but it was fueled by asset quality issues.
It was defaulting mortgages that were killing the institution. The run
simply hastened its demise. Mortgages that are properly made don't result
in major losses. Note that I said properly made, not legally made. Chances
are that the loans in this institution were legal and even consistent with
what was going on in other institutions. That's the scary part. You have
to have permanent versus temporary shortfalls in values to lose big money on
home mortgages. Those shortfalls have been building for years and have been
accelerating lately as all the people and companies that depend on continued
real estate sales for their income push the limits in ways that artificially
inflate property values, including those that convince themselves that what
they're doing isn't really wrong, even though it's clearly fraudulent.
There will be a lot of "everybody was doing it" talk in the near future.
Unfortunately, it's true. Next time you buy a new car and the dealer
inflates the value of your trade in to make it look like you actually have
equity in the new car, think about what's going on right now. Same thing
for the next time you see somebody offering seller to buyer incentives,
cash, cars, down payment assistance or interest free periods instead of
lowering the price itself. All of these practices result in a recorded
value that is above the real value and loans that are underwater the day
they are made.

4. Note the reference to Fannie Mae and Freddie Mac and the possibility that
they may have to be taken over. Taken over is a euphemism for failed. This
savings and loan was "taken over." Also note the reference to loans sold in
the secondary market. Combined these three references ARE the mortgage loan
industry. Everybody else, combined, means nothing compared to these three
elements. Nobody knows how much loss is concealed in the loans held by
them, but I'd bet it's massive.

While the situation is very serious, it's manageable. The government will
probably claim that they're not gong to bail everybody out, but they'll do
it anyway. They have to. It's also important for the public to remain as
calm as possible. Mortgages are going to get much harder to get. This
trend has already started. It's going to get worse. Real estate sales will
slow and prices will fall. Unemployment will increase and there will be a
lot of construction and development business failures. The financial
industry will take the hit. The developers and contractors will walk away
and be back as soon as the market starts its next upswing, just like they
have every time there's been a downturn. Those whose income does not depend
on this specific industry's health, even indirectly, will do well. Those
whose income does, will take a hit. They rode the wave up. I hope they
prepared for the ride back down. Most construction workers don't prepare.
It's going to be rough on them. There's a lot of them. Their problems will
affect all the businesses that they used to buy from, pretty much everybody.
Look for the impact to businesses related to autos to lead the downward
trend. The combination of high fuel prices and high unemployment is going
to take a lot of people off the road. Several of my friends with auto
repair businesses are already feeling the pinch. People will not move as
often as they used to, but those that have mortgages will continue to have
them unless the government gets really stupid and forces, or even lets
institutions call portions of loans that are not covered by the reduced
value of the collateral property. Hopefully, they will be smart enough not
to do this, because all it will do is result in more short term losses on
loans that would continue to pay out even though the loan is greater than
the property value. People don't default on their home loans unless they
have to.

It will be interesting to see the impact of all of this on the immigration
questions that have been discussed in the last few years. As the
construction industry contracts, a lot of the jobs that have been filled by
illegal aliens will go away. Those that came here to work construction may
leave again when they can no longer find jobs. If the government extends
full benefits to all illegal aliens, however, it will be an absolute
disaster. They are exactly the people that will be put out of work first
and exactly the people that are least likely to have prepared for a
downturn. Things may turn really ugly if the illegals are perceived to be
doing better than the legal residents who have been supporting the system
all their lives. If the Democrats have an ounce of sense between them,
they'll stop pushing for benefits for immigrants and start talking about how
to turn the economy around for citizens. I don't have much faith in their
sense.

At any rate, watch for the ripples. This failure is going to have lots of
them. This institution will reopen Monday and the effects of its failure
will probably be mostly forgotten by the public by next Friday, but the
effect on the industry will still be major. The final results will depend
on how much faith remains in the systems for keeping your money safe and how
people react to this news. Personally, I'd spend some time this weekend
ensuring that I did not have uninsured deposits, particularly in institution
paying higher than normal interest rates. The only reason banks do that is
because their lack of liquidity forces them to.

If I had uninsured
deposits, I'd be making some other arrangements. Other arrangements would
absolutely not include withdrawing all my money, but it probably would
include moving uninsured funds to other institutions. I'd do it by personal
or business check, just like you would in better times. Checks deposited in
an intuition are deposits in the payer bank until they are paid and are
deposits in the payee bank afterwards. Money used to purchase a cashier's
checks is no longer a deposit and may not be insured.