I recently made a submission to the Senate Economics Committee on the RBA (Enhanced Independence) Bill, where I argued against the Bill–as did all four public submissions.
After making that submission (which I’ll post here shortly) I thought I’d check out my submission to the Wallis Committee–since I argued that the RBA and the regulatory authorities in general, while they may appear to have succeeded in controlling inflation, have presided over the biggest speculative bubble in world history.
The securitisation of loans was a major part of this bubble, which of course, no-one could have foreseen… or at least that’s the line from conventional economists.
Below is what I sent to the Wallis Committee on December 7th 1996 on the topic of securitisation of loans (in a follow-up letter to my oral submission):
The securitisation of debt documents such as residential mortgages does not alter the key issue, which is the ability of borrowers to commit themselves to debt on the basis of “euphoric” expectations during an asset price boom. The ability of such borrowers to repay their debt is dependent upon the maintenance of the boom, and as the share market reactions to yesterday’s comments by Alan Greenspan reminded us, such conditions cannot be maintained indefinitely.
Should a substantial proportion of eligible assets (e.g., residential houses during a real estate boom like that of 87-89) be financed by securitised instruments, the inability of borrowers to pay their debts on a large scale will not, of course, directly affect liquidity in the same fashion that a failure of bank debtors does. Instead, the impact will be felt by those who purchased the securities, or by insurance firms who underwrote the repayment.
Where this is a government, the impact on liquidity will again be slight, since public debt will replace private.
Where this is a financial institution, such as a bank, it will be in a very similar situation to the State Bank of Victoria (and many others) after the last real estate crash, with similar consequences.
Where this is an insurance company, it could be driven into bankruptcy, with an impact on liquidity via its shareholders and its own creditors. However this would not be as serious as the second instance above.
Where the securities are tradeable, there would obviously be a collapse in the tradeable price, and, potentially, the bankrupting of many of the investors–depending again on their own financing arrangements.
Overall I would agree that direct regulation of securitisers is not warranted. What is needed instead is prudential overview of the extent to which banks, insurance firms and superannuation institutions invest in securitisers and their products. However, I would object strongly to the proposal from Aussie Home Loans (p. 135, paragraph 5.94) that securitisers should be able to call themselves banks.
Is it rude to say “I told you so”?
June 20th, 2008 at 9:59 am
One of the other unintended consequences has been to increase the inflow of foreign capital as another avenue for foreign investors is created. So now we have fairly massive distortions in foreign exchange rates.
Off topic, the unit I’m in is up for sale, the owners are having trouble paying the interest, and they are unlikely to recoup their investment. The real estate agent seems to believe that I should be sharing their pain, that it is somehow my fault, but what part of “property speculation” didn’t they understand. Good news is repairs I’ve been waiting 6 weeks for have now become urgent.
I was generously allowed to make the first offer but I declined. My guess is that prices will need to decline by 30-50% in real terms, so it doesn’t seem sensible. I’m in more than slight disagreement with BIS Shrapnel but I’m truly independent as I have never received money from the real estate industry.
June 21st, 2008 at 11:09 am
Steve,
The “I told you so” is justified because that is the more precise description of what you actually did! ‘They’ would likely see it as ‘rude’, but that is often the way people spin embarrassment into something less personally damning.
Isn’t it fascinating how much sway emotions have over issues which could (and should) be dealt with more rationally.
Perhaps the ability to discipline the mind is part of that now-long-lost pearl called ‘wisdom’, a skill no longer valued and long since jettisoned in favour of self-interest and laziness.
We see so many other areas where emotions have had far too much say recently. Take these repulsive restrictions on personal liberty on grounds of ‘anti-terrorism’… and also the pathetic level of public dissent to such laws.
Fear and greed… fear and greed… And the cycle goes on.
June 21st, 2008 at 2:17 pm
Hi Steve, interesting post – there is not enough historical context (or any other context) in the mainstream media churn.
Steve – I’m interested in the pursuit of GDP as an economic objective and the effect this has on institutionalised values and subsequent behaviour. Glibly, I think GDP fosters a mindset of ‘any activity is good activity’.
I’m interested in pursing a Phd in this area and thought you would have some interesting insights. Is it possible to take an email conversation offline?
Many thanks for your consideration
June 21st, 2008 at 5:27 pm
Dear Johnboy,
Thanks! The “?” on the “I told you so” was of course tongue in cheek! I was just delighted to see, when looking back on my submission from twelve years ago, that my predictions about what securitisation of loans would lead to were accurate.
Of course, I have Minsky to thank for that. His “financial instability hypothesis” was the framework for all those predictions, and their accuracy was stunning. Another euphoric speculative bubble (though picking residential real estate as its basis rather than the stock market may have been a lucky guess by me!), debt financed of course, with the distribution of the debt differing because of securitisation.
I agree also that so many issues–like the West’s response to terrorism–can better be understood with simple dispassionate analysis rather than emotive spin. But spin seems to rule in political circles.
The pity is that “spin” has also ruled in economics–otherwise nonsense like the “Efficient Markets Hypothesis” could never have got off the ground. Now at least, since the markets have so spectacularly crashed as a result of swallowing that spin, there may be a chance for a more rational economics to take the place of the palaver of neoclassical thought.
June 21st, 2008 at 5:29 pm
Hi Student,
Sure, email me at s.keen@uws.edu.au.
On that topic, I am less appropriate as a supervisor than, say, Clive Hamilton–though I think Clive might have ceased taking PhD students. But I could certainly provide more appropriate and less analytically constrained supervision on the topic than most academic economists in Australia.
October 21st, 2008 at 12:20 pm
[...] made a submission to the Wallis Committee in July 1996, in which I warned that securitisation of loans could lead to a crisis exactly like [...]