On Friday, IndyMac joined the long and growing list of bankrupt mortgage companies (Accredited Home Lenders, Novastar Financial, Fremont General and dozens of others) that have been taken down by what has already surpassed mortgage and bank losses of the Savings & Loan Crisis. While Indy marks only the sixth bank failure since the official start of the banking-real estate avalanche in February 2007, you can bet this is only the beginning.
The last wave of bank failures in the U.S. occurred during the recession of ’90-’91, when 502 banks failed in a 3-year period. Prior to that, more than 1,600 banks insured by the Federal Deposit Insurance Corporation (FDIC) were closed or received FDIC financial assistance between 1980 and 1994 due mainly to the Savings & Loan crisis.
Now if you think the collapse of IndyMac doesn’t affect you, think again. The FDIC estimates the takeover will cost between $4 and $8 billion. Given what I know about government estimates, it’s likely to cost much more. Whatever the costs, it’s coming from taxpayers.
But there’s more to it. Indy’s insolvency signals that the banking crisis is not only live and well, but only just beginning. Before it’s over, I estimate a total of about $10 trillion in losses as a result of Greenspan’s real estate bubble - $1.5 to $2.0 trillion in direct losses by banks and mortgage companies (much more than Wall Streets ever increasing estimates that are now up to $500 billion), $7 trillion in paper losses due to real estate devaluations, and $1.0 trillion in lost incomes (and decreased consumer spending resulting in income losses for others) due to job losses and lay-offs in the real estate, mortgage, banking and construction industries, as well as non-real estate related job losses due declining economic conditions attributed to the real estate and banking crisis.
In total, I would roughly estimate a loss of around 6 million jobs from 2007 to 2011. Already, an estimated 250,000 jobs have been lost in the residential lending sector alone. And as the economy continues to stall, more jobs will be lost from other industries, causing more foreclosures which will only damage the real estate market further, or at best, cause it to lag for several years.
The paper losses will come back over time. But for others, a decline in home values can flip you upside down in no time. And if you need to refinance an ARM, you will be out of luck unless you can come up with the difference between the outstanding mortgage balance and the market value of your home - plus any amount required for down payment. This is how many have lost their homes.
When those with ARMs saw their monthly mortgage payments soar to as high as 60%, they tried to refinance. But since their home value declined, they were in a negative equity situation. Now you might see why Bernanke made a huge error keeping rates so low for so long – it’s not going to help homeowners refinance because they owe more on their homes than they are worth. In fact, he has actually made it worse for homeowners who are barely able to make payments. The low rates have heightened inflation and weakened the dollar further. And that has caused food and oil to soar.
Why Didn’t the Fed Rescue Indy?
A few months ago, banks began the painful process of trying to write down bad mortgage debt. But mortgage defaults continued to pile up. So they had to keep writing down the debt more and more, until finally, much of it became virtually worthless. In order to avoid a liquidity crisis, banks were forced to sell off their highest quality debt, causing more damage to the balance sheet.
After the run on Bear Stearns (BSC), the Fed realized that any large bank could become insolvent overnight, which would cause a snowball effect felt around the globe. Therefore, Bernanke extended emergency funding options (once previously reserved for commercial banks) to investment banks – something not done since the Great Depression.
But why not extend this same privilege to Bear Stearns as well? I’d imagine the Fed has not forgotten the refusal of Bear Stearns to participate in the “bailout” of Long Term Capital Management a decade earlier. While several other banks declined to help, Bear was the only major player that refused. Apparently, the banking cartel decided it was payback time for Bear.
But wait a minute. The Fed guaranteed capital to commercial and investment banks if needed, so why did it allow Indy to fail? What Bernanke failed to mention to the public was that his printing presses would only be made available to the banking cartel – basically the “Big 5” from each category (commercial and investment banks) because these are the banks that own and run the Federal Reserve.
Thornburg Mortgage? Do you remember these guys? The CEO was plastered all over television in the summer of 2007 before anyone knew there was a real estate crisis going on. This company did a lot of jumbo mortgages, so when they began to encounter some liquidity problems due to high default rates, Wall Street paid very close attention. After all, at the time, most people didn’t even think the sub-primes would experience a washout, so to see a mortgage company that specialized in jumbo mortgages run into problems was very troubling. Since falling from $28 in October of 2007, the stock is now trading at $0.28.
We will just have to wait and see. In part 2 of this article, I discuss what’s next for the economy over the next several years.
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