The Mortgage Insider

Well, by the time you are reading this, it will be 2012. I hope every one of you has a happy and prosperous one! Each year, I like to take a look at my predictions from last year to see how I did. And then I’ll let you know what I think is in store for us this year.

Last year, I expected 2011 would bring with it a lot of municipal defaults and even some states demanding rescue fund from the Feds. While we haven’t seen a TARP-like facility set up to manage the damage, Bloomberg Businessweek reported(1) this last December,”Municipal-bond defaults, including bankruptcies and the use of reserve funds for payments, may set a record this year… If you add tobacco debt and AMR (American Airlines who backs $3.2B of munis for airport facilities) bankruptcy …we’re going to hit $20B this year.” In fact, California and Ohio both have had to dip into reserve funds, to cover their debt payments this last year. Next year, I expect we’ll set another new record unfortunately.

Likewise I predicted our national debt would hit $16T by the end of 2011. I appear to have under-estimated how much our US Congress could slow the pace of debt growth. However, by the time you read this, our debt will have likely finished the year at $15.5T. So I wasn’t by much. Look for our national debt to hit $17T, by the end of 2012.

Next, I expected our Gross National Product (GDP) to show the economy growing at 2.6% for the entire year. While forth quarter information is yet to be released, my forecast appears to have been overly optimistic. The first three quarters of 2011 have only averaged a growth rate of 1.7%. Consequently, 2011 seems more likely to finish at 2.0% for the year, assuming a robust holiday season. In this case, my error seems to stem from the proliferation of regulations. I had expected the 2010 election results would have at least mitigated the torrid pace we set in 2009 and 2010. However, the agencies at almost every level of the Federal government have only increased the rate of new rules and regulations in 2011. In a country where we can’t even agree to an oil pipeline between here and Canada, look for GDP to dwindle further in 2012. My guess is we’ll be lucky to get a 1.5% growth rate this year.

What else do I see happening in 2012, you ask? Well, let’s start with Europe. The ECB (European Central Bank) President, Mario Draghi, is already warning(2) member countries against breaking with the currency bloc. Therefore expect at least one country, probably Greece, to do just that. In addition, capital requirements coming out of Basil III will further constrain growth in Europe and the US overall. Timmy Geither will likely oversee the printing of an extra trillion, to fund an IMF version of TARP for European banks, claiming a new threat of “contagion”. Even if Timmy does not pull this kind of stunt, Bernanke and the Fed will certainly embark on some version of a QE3, some time in the second or third quarter of the year. This will cause even more inflation in gas and food and gold. I think we’ll also see official unemployment in the US go back over 10%, and end the year facing a double dip recession.

On that ominous note, I feel compelled to stop here. I continue to hope and pray I am way off base, and this year marks a phenomenal economic turnaround for our country. No one would be happier than me, as this would mean real estate markets finally start to see a substantial rebound. Unfortunately the math doesn’t appear to point in that direction.

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1. http://www.businessweek.com/news/2011-12-07/municipal-defaults-may-surpass- record-in-2011-lehmann-says.html
2. http://www.cnbc.com/id/45694223

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“We hang the petty thieves and appoint the great ones to public office.”  ~ Aesop

First, let’s start with some good news for a change. It turns out we all have reason to applaud Judge Jed Rakoff[1]. In late October, he challenged the SEC’s settlement with Citigroup for $285 million. In a Goldman Sachs like maneuver, Citigroup had assembled a $1 billion mortgage backed security offering in 2007. The problem was Citigroup, for this particular security, had hand-picked the worst loans they could find in their portfolio.  How do we know that? Well after Citi sold the security, they took out credit default swaps in a huge bet that the portfolio would fail – which it ultimately did to the tune of more than $700 million. In addition, this is the same judge who initially rejected the SEC settlement with Bank of America in 2009, because it required shareholders to foot the bill, without any financial participation by the executives that had caused all the problems. I know right!? When has any regulator or judge in this whole mess considered making the crooks pay the fines? Bravo Judge Rakoff!

Now speaking of Goldman Sachs, we are provided with an excellent segue to talk about Jon Corzine. If they ever build a Hall of Shame for the worst financial cheats in US history, you can be sure Corzine’s jersey will hang prominently in the men’s room, above John Thain’s golden commode. Corzine, of course, ran Goldman Sachs from 1994 to 1999. His tenure there was notable for two things. First, he took Goldman Sachs public which netted him $400 million personally. Then he followed that up by orchestrating the failed bailout for Long Term Capital Management. This latter ill conceived investment resulted in him being forced out of the firm the same year.

 So what do you do with $400 million to burn? In Corzine’s case you buy yourself a US Senate seat from New Jersey. In 2000, he spent $62 million of his own funds and set a record for the most expensive Senate race in US history. However, the Senate turned out to be boring, so Jon moved on to the governor’s office in 2006. At least this time, he only had to spend $38 million. Unfortunately, life in the governor’s office proved to be difficult. In his first year, he had to shut down the government during the 4^th of July holiday, and for the first time in New Jersey’s history. That was particularly ironic since Corzine’s party controlled both the state house and senate, and the impasse involved his proposal to hike the state sales tax, in order to address the state’s ballooning debt problem. Sound familiar? Well thanks goodness Governor Corzine got his way and was able to make use of his superior financial acumen. Having entered office $31.8 billion in debt, by the time he was voted out in 2009, he had managed to increase New Jersey’s debt  to $51.2 billion[2] – another state record!

 That brings us to MF Global and its recent chapter 11 filing at the end of October. Jon became CEO of MF Global in March of 2010. MF Global was a major global financial broker and a primary dealer for the US Treasury Department at that time. In fact, MF Global had approximately $51 billion in assets under management. Long story short – in a little over a year, Corzine was able to run the company straight into the ground. However, it’s the circumstances around this collapse that are so inexplicable. It appears that Jon comingled and borrowed against customer’s accounts, which is outright illegal. “What investments were so compelling, they were worth swapping for a potential prison term for,” you ask? Well that would be for a $6.3 billion dollar position in Greek, Spanish and Italian debt! Yep, genius – pure genius! And according to the Washington Times[3], “It was revealed that the company was leveraged 40-1.  Even in the height of the subprime crisis a 40-1 leverage would have been considered extremely risky.” But it get’s even better. As I write, the trustee of the bankruptcy court has just disclosed there is a shortfall of $1.2 billion dollars[4] that has somehow gone missing. I guess that would explain why Jon decided to forego his $12 million severance package, and we he instead hired Andrew J. Levander[5], one of the most renowned white-collar criminal defense lawyers in New York.

In closing, I just want to leave you with another quote from our Vice President, Joe Biden, given in a speech back in May of 2009, during Corzine’s failed re-election bid. “Jon Corzine helped craft the Recovery Act. It’s not coincidental that the things he did here (New Jersey) turned out to be the exact same things the recovery act has. Because way back in the transition period before we were sworn in, when Barack Obama and I were literally sitting at a desk in a high rise in Chicago beginning to plan how we would try to get this economy out of a ditch, literally the first guy I called was Jon Corzine. Not a joke. Not a joke. Because first of all, he’s the smartest guy I know in terms of the economy and on finance.” I guess that explains the current state of our economy, as well as anything else I’ve heard. God help us all!

[2] http://www.state.nj.us/treasury/omb/publications/11bib/BIB.pdf  – page 16

[3] http://www.washingtontimes.com/news/2011/nov/20/williams-jon-corzines-reckless-governance/

[4] http://www.reuters.com/article/2011/11/22/us-mfglobal-idUSTRE7AK1G120111122

[5] http://dealbook.nytimes.com/2011/11/04/corzine-hires-criminal-attorney/

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 “We have, in this country, one of the most corrupt institutions the world has ever known. I refer to the Federal Reserve Board. This evil institution has impoverished the people of the United States and has practically bankrupted our government. It has done this through the corrupt practices of the moneyed vultures who control it.” — Congressman Louis T. McFadden, 1932, (R -PA)

“This [Federal Reserve Act] establishes the most gigantic trust on earth. When the President [Wilson} signs this bill, the invisible government of the monetary power will be legalized....the worst legislative crime of the ages is perpetrated by this banking and currency bill." -- Charles A. Lindbergh Sr., 1913, (R-MN)

"A great industrial nation is controlled by its system of credit. Our system of credit is concentrated in the hands of a few men. We have come to be one of the worst ruled, one of the most completely controlled and dominated governments in the world-- no longer a government of free opinion, no longer a government by conviction and vote of the majority, but a government by the opinion and duress of small groups of dominant men." -- President Woodrow Wilson (D) - in apparent regret of signing the Federal Reserve Act he sponsored in 1913)

I know…a lot of quotes with which to start a column. However, I think they will prove informative to our discussion this month. As some of you may know, I have been working on book to explain, in layman’s terms, what has been done to us all by a very small handful of men. While working on a chapter tentatively called “Meet the cast of this Old Con Game”, I found myself researching the history of JP Morgan Chase Bank. And what I discovered changed my whole impression of history in an afternoon.

 First there was the revelation that one branch of the Chase Manhattan Bank lineage was established by Aaron Burr, the third Vice President of the United States. Yes, that’s the same Aaron Burr who ended up shooting Alexander Hamilton in a duel, who was himself another founding father, and a political and banking rival of Burr. In fact, Hamilton was behind the creation of the First Bank of the United States. Our current Federal Reserve is actually our country’s third attempt at a central bank, after the similar financial ruin caused by the first two. But that wasn’t the game changer for me. No, it was the JP Morgan family connection and their history that provided the really startling insights.

 JP Morgan, Sr. started his financial career by defrauding the US Government in the early days of the Civil War. In what became know as the “Hall Carbine Affair”, Morgan purchased 5000 defective Hall Carbine rifles from the US government’s armory on Governor’s Island NY, for $3.50 each. This brand of rifle had rightfully been quarantined there owing to its reputation for maiming or killing the operator. Mr. Morgan turned around and resold the same guns back to the US government for $22.50 each, and represented that the safety defect had been corrected. The only problem was they had not been rehabilitated, and the sale back to the government occurred before the purchase was complete[1]. Yes, you read that right! He hadn’t even paid for the rifles at the time he resold them. JP Morgan Sr. died in 1913, after all but engineering two national banking crises in 1895 and 1907, and overseeing the creation of our current Federal Reserve in the same year he died.

 However the worst was yet to come. It turns out “Jack” JP Morgan Jr. took up right where his father left off, only to become the greatest war profiteer the world has ever known. After the outbreak of World War 1, Jack lent $12 million to Russia and another $50 million to France in 1915. His firm then became the sole official purchasing agent for England, for all “…cotton, steel, chemicals and food.[2]” Further research seems to corroborate the assertion that the primary reason for our entry into World War I was at Jack Morgan’s behest, and to secure over $500 million in loans to the Allies with which he was personally involved. But it gets even better. At the end of World War I, and no doubt owing to this financing that had extending the war’s duration, he became the sole agent responsible for handling all reparation payments from Germany to the rest of Europe. This not only made JP Morgan the largest bank in all of Europe, but led Jack to form of the Bank of International Settlements (BIS) to handle those payments. Now a few of you may know that the BIS is located in Basil Switzerland, and it is the source of international banking regulations for the entire free world. But what you may not know is that BIS is made up of 58 central banks, and exists without the oversight of any government anywhere. Gee…what could possibly go wrong here?!

 Well, the First World War had made Jack so much money, he must have thought another one would be even better. And it was – for him. Long story short, in the midst of the Great Depression, he managed to secure $100 million in loans to none other than Benito Mussolini[3]. Yep – that guy. And he staffed the BIS with people like Hjalmar Schacht[4]. Schacht became Hitler’s first Minister of Economics in 1934. And from 1933-45, the board of directors at the BIS included Emil Puhl and Walter Funk. Puhl was later convicted at the Nuremberg Trails, for his instrumental role in moving Nazi gold during the war. Funk was likewise convicted for war crimes, after his stint working for Hitler as head of the Ministry of Public Enlightenment and Propaganda. Other board members included Hermann Schmitz of IG Farben, the company which manufactured the pesticide Zyklon used in Nazi gas chambers. Though he was sentenced to 4 years for this fine work, after his sentence he promptly went back to work for Deutsche Bank in Berlin. And we can’t forget Baron Kurt von Schroeder. He played a critical role in arranging a meeting that ultimately led to Hitler becoming the Chancellor of Germany. I know right?! What a lovely human being this Jack Morgan was!

 So what did we just learn? Well for one thing, allowing any bank to become “too big to fail” is outright dangerous. And secondly, allowing them to draft legislation designed to regulate themselves is a recipe for disaster. Consequently, should we really be surprised that the new Dodd Frank law not only codifies “too big to fail” into law, but seems purposely designed to squelch competition from smaller banks? Before the current financial crisis, I had nearly 400 institutions I could sell loans through to. Now 95 percent of all the loans I make go to the 5 largest TARP recipients. But at least none of this has anything to do with our current involvement in four separate wars…right?

[2] http://en.wikipedia.org/wiki/J._P._Morgan,_Jr.

[3] http://en.wikipedia.org/wiki/J._P._Morgan,_Jr.

[4] http://en.wikipedia.org/wiki/Bank_of_International_Settlements

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Perhaps the fact that we have seen millions voting themselves into complete dependence on a tyrant has made our generation understand that to choose one’s government is not necessarily to secure freedom.  ~ Friedrich Hayek 1960

 I guess it’s easy to “bait” me into a discussion that doesn’t otherwise directly pertain to mortgages. I think economic subjects are always relevant. After all, the economy is the biggest driver of real estate values and interest rates. So I hope you will indulge me again, as I respond to a reader’s suggestion. This month’s topic had to do with how to fix Social Security and if it is even desirable to do so at this point.

 First let me say that I think Social Security was, and is, an excellent idea from a conceptual standpoint. In fact, most economists believe that by providing this old age safety net, we created the modern consumer-based economy we all enjoy. It should also be pointed out that when the Social Security Act[1] passed in 1935, it was written as an additional tax on wages to be set aside in a trust fund. Starting in 1936, individuals were required to contribute 1 percent of their annual income, with a series of scheduled increases to 3 percent by 1948. Benefits started in 1942. For the average person who had earned $3000 per year, monthly payments were calculated at .05 percent, or $15.00 per month. In addition, if an individual died before turning 65, his or her estate would receive payments based upon their total wage and contributions. So the program was definitely sold to the public, as a forced investment into a sort of retirement plan that would provide payouts at retirement proportional to your contributions.

 Next, we need to know whether Social Security really is on the verge of bankruptcy or not. In other words, “Is it sustainable in its current form?” I don’t have a lot of space, so I will just give you the answers I found. Suffice it to say, if you hear someone say something like, “There is over $2.4 trillion in the Social Security Trust fund. All it needs are a few small tweaks and its fine”, then you know they are either ignorant of the facts or lying. Yes, on paper, there is $2.4 Trillion showing in the trust fund. However, the only investments allowed into the trust fund are US Treasuries. So this would be like you writing yourself $2.4 Trillion of IOUs and declaring yourself the wealthiest person in the world. The Social Security Trust fund exists only has an accounting device. It is shown as an asset on the Social Security of the ledger, but as an equal and offsetting liability on the Treasury Department’s side. Consequently, this trust fund is more accurately described as a “…budget authority giving the federal government legal permission to use general revenues to pay Social Security benefits, when current Social Security taxes are insufficient to pay current benefits–something that will happen in 2016.”[2] The only logical way to calculate Social Security’s long term cost is to do so in perpetuity, something my people would call “solving for present value”. On this basis, Social Security has $17.5 trillion in unfunded liabilities[3]. In other words, that is the amount that should be in a real trust fund today, earning real interest rates of return, in order to pay for the benefits already promised.

 So we’ve decided Social Security is a good thing for the country. However, the problem is the federal government obviously cannot be trusted with a large pot of money lying around, as is self evident by the amount of the shortfall they’ve created in just 75 years. So the last question is, “How could you reengineer the program to work for future generations, in a perpetually solvent state?” This, of course, rightfully leads to a discussion of “privatization”. And here, “privatization” simply means allowing insurance companies to hold and invest the money within the context of strict government oversight.

 Now, it took me a while to find all the data and put it together on a single spreadsheet and there is not enough room to print it here. So, for those of you who are interested, you can find the raw data posted separately below this blog entry. However here was my methodology:

 First, I went to the Social Security National Wage database[4] and pulled average income figures for a 40 year period; from 1969 and 2009. After all, who wants to work more than 40 years!? Next, I applied the combined (employee and employer) withholding rate[5] in each year to determine the amount of cash that was paid in. Then, for each year, I took that annual contribution and used it to purchase one of two competing investments. In this study, I wanted to compare gold to a stock index fund to see what results we might get. In the first scenario, I used the average annual price of gold[6] as the primary investment. With the other I used the average annual stock market returns[7] to simulate an indexed fund. So, I looked up the average annual rates of return for each and applied that factor to find out how much total cash would have accumulated by the age of 62. Finally, I assumed that accumulated amount would then be used to fund an annuity with guaranteed benefits for life, with any unremitted principal being paid out to heirs. Since our “average” person’s example results in retirement in 2009, I used the Social Security’s “average monthly benefit” at the end of 2009 for our benchmark to compare our results against. That average benefit was $1064.40/mo[8].

 Here are the results: Our test dummy, “Joe Average”, started off earning $5894/yr. in 1969, and finished his career in 2009 earning $40,712. Based upon the combined withholding rates, Joe would have had a total of $63,807 put into the system during his career. Had that money done nothing but purchased gold bullion over our 40 year time frame, he would have accumulated 201 ounces of gold. Based on 2009 prices, that would have amounted to $195,860 to go into the annuity calculator[9]. The resulting benefit would be $1130/mo. which handily beats the current pay out. However it should be noted that hundreds on millions of Americans socking away gold in this manner would surely have forced gold priced substantially higher over this period. Consequently, this is a very conservative estimate.

 However it was the stock market index scenario results that were truly amazing. Even with stock market losses in 1973 of (-14.31%), 1974 of (-25.9%), 2001 of (-11.85%), 2002 of (-21.97%), and a (-36.58%) loss in 2008 just before retirement, Joe’s indexed account would have been worth $399,863. That results in an annuity calculation of $2306/mo! So you tell me…How would it be for a guy who retired with an income of $40,712 per year to wake up the next day making $27,672? Gee, do you think he might be able to pay the individual group rate of $450 per month for his own health insurance? It seems very likely we wouldn’t even need Medicare, which, by the way, is at least another $24.6 trillion in unfunded liabilities. And that is according to the Medicare Trust fund’s own estimates[10].

 So in conclusion, it appears we can say a couple things for certain. First, even the most rudimentary attempt at privatizing Social Security would likely result in a doubling of our benefits. And having done so, we would likely also solve the same long term funding problem with Medicare. And secondly, trained chimps throwing darts at random stock market symbols would do a better job managing our money than politicians!

[2] http://www.forbes.com/2009/05/14/taxes-social-security-opinions-columnists-medicare.html

[3] http://www.cato-at-liberty.org/7176social-security-trustees-report/

[4] http://www.ssa.gov/oact/cola/AWI.html

[5] http://www.ssa.gov/oact/progdata/taxRates.html

[6] http://www.kitco.com/scripts/hist_charts/yearly_graphs.plx

[7] http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/histret.html

[8] http://www.ssa.gov/policy/docs/statcomps/supplement/2010/5a.html

[9] http://www.immediateannuities.com/information/rates.html?rates=96ca3df0cb4d7097492d23267db7e690

[10] http://waysandmeans.house.gov/News/DocumentSingle.aspx?DocumentID=247999

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I had a visit from a couple recently who graciously allowed me to share their story for this article. However, I had to change their names to protect the perpetually oblivious. So allow me to introduce you to George and Bambi Doltish!

 The Doltishes have a fixed income of approximately $22,000 per year. They manage the retirement and medical savings accounts for their extended family. That includes their elderly parents, the Clowards and Pivens on Bambi’s side of the family, the Jeffersons and Adams on his side, and all their children and extended family members. In fact, the family pays them, and the sole source of this income is for their stewardship of these funds.

About 11 years ago, the family put George in charge of their finances. At that time, they had debts that totaled approximately $57,000. Eight years later, he had run that amount up to $107,000. When I asked him how that happened, he told me they had been attacked in their home that first year by members of a local gang. George said he spent most of the extra money pursuing a case against the gang leader behind the attack — and something else you won’t believe: George’s crazy idea for ridding the town of unwanted gangs was to build them brand new homes to live in. I know … Nuts, right?! While his efforts did recently result in the arrest and conviction of the thug in question, 10 years later they are still building two new homes across town. Construction has understandably been slow because the gangs keep stealing supplies and vandalizing the work sites. Gee, who could have seen that coming, eh? Naturally, the family was disturbed by this strange behavior and 2 1/2 years ago gave the leadership role to Bambi.

 Unfortunately, since Bambi took over, she has run their debt up to $147,000. I pointed out to her that actually doubled the rate at which they were accumulating debt and asked her why that was. She told me she had a psychic reading with a man named Mr. Keynes. He has advised her for the last several decades and somehow convinced her that, for every $1 she spends, she will receive $1.50 back in return. So, Bambi went “shopping” for the family as a solution to their financial woes. The result of this has been that the Cloward and Piven side of the family now depend on Bambi’s “shopping” for them and no longer contribute to the $22,000 paid to the Doltishes. This, as you may imagine, is a source of great irritation to the Jefferson and Adams side of the family. In addition, Bambi had promised the family she would end George’s harebrained homebuilding scheme for gangs. However, she not only hired a new contractor to finish the first two houses, but just recently broke ground on a third. Okay … I am thinking they should both be committed at this point, but then it gets even worse.

 Bambi went on to explain that both sets of parents have paid in almost 9 percent of their incomes annually for these retirement and medical savings accounts. She mentioned that she had convinced the family to create these accounts to begin with. However, she had many years ago broken into them and started “borrowing” for other things she wanted to buy. She referred to this practice as “borrowing,” although neither she nor George has ever paid back a dime. So, George knew what she was doing and was complicit in this “borrowing,” and now they are approximately $1.07 million short of funds in those accounts!

Well, you can imagine my predicament. I am now wondering if they are merely crazy or auditioning for television’s World’s Most Stupid Criminals!? How on Earth is a couple making just $22,000 a year ever going to pay back a grand total of $1.217 million? Just to service the $147,000 in personal debt, they already spend 43 percent of their income. And here they are asking me to lend them an additional $27,000 … just to get them by for the next year and a half! So, I asked them how they planned on repaying all this.

George wants to confess to the family and come clean. He said he wants to actually have a budget and balance it immediately. He also thinks they should take the money that is left, and all future contributions the family makes to the retirement and medical savings accounts, and put that in an annuity with a private company. He figures at least he and Bambi won’t be tempted to “borrow” any more of the family’s funds. And he hopes the interest it earns will make up a good part of the shortfall. However, he still plans on pursuing his vision of homebuilding for gang members on the family’s nickel. So, I don’t see how his plan will work, in light of this latter caveat.

Meanwhile, Bambi is adamant that everything is fine and no disclosure to the family is necessary. She pointed out they still have access to the Jefferson and Adams accounts. Her idea is to take more money from them since they are still working and can afford it, she says. She mentioned one of them even owns his own plane. In addition, she has already lined up a cheesy European HMO that will “ration” health care for the family as they retire. Doctors will now have to call her for permission before providing any services. The older the family member and the more expensive the procedure, the more she plans on refusing the services requested. That way they will pass on sooner, thus saving a large portion of the undisclosed shortfall. I know … kind of creepy, right?! She also has no plan to stop spending or balance their budget. In fact, she hasn’t had a budget, for over two years now. Apparently, at her last psychic reading, Mr. Keynes told her that she just hasn’t spent enough money yet to fix their debt problem. So here again, I don’t see how “no plan” as a plan will work, and I am hoping there is some sort of 12-step program for her condition.

So I ask you, “Would you lend these two the additional $27,000 they are requesting?” Or would you rightfully think I was one of those nasty, predatory, subprime lenders if I did? Well, in case you got this far and didn’t see this punch-line coming, this is the story of our country. That’s right. All the figures above are directly proportional to actual facts that anyone can look up for themselves. The U.S. federal government takes in approximately $2.2 trillion in revenues a year.[1] However, nearly half of the population pays no income tax at all.[2] Eleven years ago, we owed $5.7 trillion, and today that’s up to $14.7 trillion.[3] Medicare and Social Security have current unfunded liabilities of $107 trillion.[4] And we just raised the debt ceiling another $2.7 trillion to get us by through to 2013.[5]

I heard Timmy Geithner say, “S&P showed really terrible judgment and a stunning lack of knowledge about basic U.S. fiscal budget math,” adding “They reached absolutely the wrong conclusion.” But I’m beginning to wonder if he knows how to work a financial calculator any better than Turbo Tax? You tell me…

For honest help on home financing, call the professional. Dan Smith can be reached at (303-674-0201). Or follow him on the Web at http://www.coloradohomeloans.com/blog/. (NMLS #234751; CO Lic #100010287)

[2] http://www.urban.org/uploadedpdf/1001547-Why-No-Income-Tax.pdf

[3] http://www.treasurydirect.gov/NP/BPDLogin?application=np

[4] http://www.ncpa.org/pub/ba662

[5] http://articles.philly.com/2011-08-07/news/29861548_1_debt-ceiling-voting-chris-coons

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The tribal wisdom of the Lakota Indians, passed on from generation to generation, says that when you discover that you are riding a dead horse, the best strategy is to dismount. However in government they employ more advanced strategies, such as: buying a stronger whip, changing riders, harnessing several dead horses together to increase speed, and of course, promoting the dead horse to a supervisory position.

~ Author Unknown

This month, I found myself reviewing a new program offered under the Dodd-Frank Wall Street Reform and Consumer Protection Act. You remember … This was the second 2500+ page bill passed in the dead of night for our own good last July. You have to skip the part where the biggest financial crooks in human history were officially allowed to keep their ill-gotten gains. Pass over the section where we were instead forced to cover their bad debts in perpetuity. And then wade past the section granting the Federal Reserve new powers to nationalize any company it sees as a threat to society. Then, finally hidden in between that and the bit where we increase the number of ineffective bank regulators from five to eight was this little gem — the HUD Emergency Homeowners’ Loan Program (EHLP).

The acronym itself accurately describes its effect on one’s stomach after reading it. And since last month’s article focused on the economic ills associated with wealth redistribution, this seemed like a no-brainer for a follow-up. On HUD’s Web site[1], it gives the following description of features: “The EHLP is designed to provide mortgage payment relief to eligible homeowners experiencing a drop in income of at least 15 percent directly resulting from involuntary unemployment or underemployment due to adverse economic conditions and/or a medical emergency.” I loved the part about “underemployment due to adverse economic conditions.” I mean, who wouldn’t qualify based on this perfectly nebulous definition. So, I read on. To qualify, you must be at least three months in arrears on your mortgage and have received a notice of intent to foreclose. However, you must be able to demonstrate a “likelihood” of being able to resume making payments sometime in the next two years. And if you meet these guidelines, what do you get? Well, that would be up to $50,000 in cash at a 0 percent interest rate that is entirely forgiven if you stay in the home another five years. Yes, you read that correctly! We are now handing out $50,000 rewards for failure and/or bad luck. And I’m sure no one will try and game this system either … right?!

So, let’s go to the instant replay of the last few years, shall we? Our federal government passed adjunct legislation with the Community Reinvestment Act in 1995 that forced banks to make subprime mortgage loans to people who rightfully couldn’t qualify for a Discover card. The “con men” running our most prestigious investment banks perpetrated the greatest fraud in recorded history, with the help of our nationally accredited rating agency “shills.” They conspired to sell pools of these worthless loans to the collective Belgian widows and orphans funds of the world, which were their “marks.” The whole fraud collapsed, sending the world into a recession that will, in all likelihood, end in a worldwide economic depression. And yet, somehow, spending our hard-earned tax dollars to pay these same subprime borrowers’ mortgages for the next two years without any prospect of repayment makes good sense? All I can say is, “I must be living in Crazy Town, or I guess it’s time to saddle up!”

For honest help on home financing, call the professional. Dan Smith can be reached at (303-674-0201).

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 “Capitalism and socialism are two distinct patterns of social organization. Private control of the means of production and public control are contradictory notions and not merely contrary notions. There is no such thing as a mixed economy, a system that would stand midway between capitalism and socialism.”

~ Ludwig Von Mises

I had another interesting question this month from a reader who I assume was either a high school or college student. I will paraphrase the question as I understand it, “Why are you opposed to the idea of wealth redistribution? Shouldn’t a wealthy country like the United States be able to guarantee a certain minimum standard of living to all its citizens?”

 Now, you may wonder why I would attempt to answer such a question in this column. After all, what does this have to do with either the housing market or the current financial malaise we find ourselves in? However, I would argue that, in fact, this very question is at the crux of the current economic recession. And this kind of thinking has everything to do with the collapse of the housing market that precipitated it.

 First, let’s define a couple of terms to remove any political context and focus only on economic distinctions. In fact, let’s assume that both systems seek the same thing — namely, the greatest socioeconomic benefit for the greatest percentage of the population. What other purpose should government serve, right?! The quote above gives us most of the distinction we need. Often referred to as “progressive” nowadays, socialism’s premise contends that, if capital and the means of production were controlled by a centralized government, the distribution of goods and services would be more balanced. The idea is that this would result in a larger and more affluent middle class, thereby maximizing socioeconomic wealth. Capitalism or “free market” ideology holds the exact opposite to be true. The idea here is that market forces (you and I acting collectively as consumers) naturally drive capital to its most productive use. Since any business enterprise only profits to the extent it satisfies this collective demand, the system is also self-correcting. In other words, outdated or bad products fail and capital flows away to the next better idea or improved product. And this constant momentum to come up with a new product that better serves all of us has the added benefit of producing an abundance of choice.

 So, which one works best? For that answer, let’s go straight to the scorecard. Capitalism has produced results hundreds of times better than socialism has over the last 163 years. It has created the largest, most affluent middle class in all of recorded human history. And any modern school of economics will tell you that it’s because socialism misallocates capital. In short, an economy made up of the collective demands of 300 million people is far too complex for a small group of bureaucrats to correctly diagnose and respond to. It would be akin to you having control of your own digestive system. Could you imagine if, for even a few minutes, you had to decide which cells in your body needed which nutrients to go where? You would soon end up with toe nails growing out of your forehead! And the other downside to bureaucrats is that they are rarely a source of product innovation. Therefore, new ideas and products are necessarily slower to emerge as innovation is stifled by the relatively diminished amount of capital available.

Need examples? Then consider the great Petri dish of economic comparison that is the divided Korean peninsula. Here you have a control group of identical people in all regards — race, ethnicity, cultural norms, education, etc. Then, they were divided 60 years ago along this single ideological line by a civil war. I would contend that it is readily apparent to any observer that the poorest citizen in South Korea is far better off than the average citizen of North Korea. And, socialism likewise, fails by degrees. For examples of this, you need only to look at member countries of the European Union. To the degree wealth redistribution has been applied, you see an equal degree of economic and financial failure. And of course, you may have noticed in the news, all of the financial issues that are most pressing in the U.S. are similarly linked to this concept of redistribution in some way or another.

 Finally, let’s bring this discussion back to the housing market and the mess we find ourselves in now. The entire notion of a “sub-prime” loan was invented in 1995, as an adjunct to the Community Reinvestment Act of 1977. Regardless of what political affiliation you may have, it certainly cannot be argued that sub-prime loans were created by the forces of capitalism or the free market. Banks, as you may imagine, only like to lend money to people they believe are likely to repay it. Sub-prime loans were a legislated phenomenon imposed on the market by our federal government. And that law imposed severe penalties on any bank that refused to make them available. Likewise, it cannot be argued that this was anything other than an attempt to “redistribute” wealth (in the form of housing) to a portion of the population that the free market otherwise would not have.

 So, I hope that helps clarify my aversion to all things redistributive in an economic sense. It isn’t because my mother failed to teach me how to share. It is simply a matter of choosing what system provides the greatest good for the greatest number of my fellow citizens, based upon clearly demonstrated and historical facts. Too bad they don’t teach this stuff in school anymore.

 For straight talk on home financing, call the professional. Dan can be reached at (303-674-0201).

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After talking at length with a hesitant prospective client for the fifth time in as many weeks, it became apparent that there is a lot of fear out there when it comes to buying a new home. Some concern, of course, is warranted and serves as a healthy exercise everyone should engage in before buying. However, much of it seems based on misconceptions and confusion related to current headlines. So, let’s try and distill a little truth from all the facts.

 First let’s talk about if now is a good time to buy a home. Below is a chart of US home prices adjusted for inflation and nominally (dollars in your pocket)[1].

 You don’t need a degree in statistics to see that the vast majority of the housing bubble is behind us now. In fact, one can see from this chart that prices have now returned to what could be considered a normal range from a historical perspective, based on the trend lines. This bodes well for us all in the long-term. However, note the period of greatest inflation and highest interest rates in recent memory. Thirty-year fixed-rate loans hit 18.45 percent in October of 1981 and remained in double digits until late 1990. Meanwhile, even this period of exorbitant rates only dampened home prices from 1979 to 1983 by 10 percent on an inflation-adjusted basis. And on a nominal (dollars-in-your-pocket) basis, prices actually continued a steady ascent throughout this period, until reaching a plateau in 1990 to 1994. Now take a look at this chart comparing Denver to a 20 city composite[2]

Here we can see that the Denver Metro area avoided the bubble in housing prices almost entirely.

Finally, consider these facts. Most people buy a home based on a payment they can afford. If you purchase a home today for $400,000 on an FHA loan at the current rate of 4.25 percent, your payment (principal and interest) would be $1917.88 per month. Now imagine you decide to wait for a year, hoping that prices fall another 10 percent. Now you are buying the home at $360,000. However, if rates only increase to 5.25 percent, your new payment is $1935.31 per month. You will actually spend more out-of-pocket to own the same property over the next 30 years. And an FHA loan is assumable. So imagine how easy it will be to sell your home at 4.25 percent, especially if we experience double-digit rates again sometime in the near future.

 The conclusion is pretty clear – waiting any longer will likely gain you nothing in the long run and could even make the same house far more expensive to own. And like all hard assets, with real estate you will be sheltered from the ravages of high inflation and preserve the real wealth you are building.

[2] Data series courtesy of Data360 at – http://www.data360.org/dsg.aspx?Data_Set_Group_Id=1936

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This month, I want to respond to a reader’s inquiry. She wanted to know what the term “quantitative easing” meant and why we’ve all heard it used so much in the media recently. So while this topic is a bit complex, let’s take a look at the highlights.

First of all, let’s talk about our currency — the dollar! This is the right place to start since quantitative easing relates to monetary (money supply) policy as applied by a central bank. In our case, that central bank is the Federal Reserve, often referred to as the “Fed.” However, as we’ve discussed in previous articles, the Federal Reserve is not a part of our government, but rather is a for-profit corporation with shareholders like any other. The shareholders of the Federal Reserve are made up of member (read as “too-big-to-fail”) banks and possibly a Rothschild family member or two[1]. I say that because the Federal Reserve operates similarly to a privately held corporation and is, therefore, not required to disclose the percentage of ownership of any one shareholder or even who all their shareholders are. And of course, the most unique feature of the Federal Reserve compared to any other for-profit bank or corporation is that it can create money!

When it comes to printing the money we all use every day, the Fed instructs the U.S. Treasury on the amounts of each denomination it wants created. However, the Fed can also affect money supply electronically — out of thin air! By that, I mean they quite literally can type a number on their computer screen, then use that amount to buy real assets and/or make deposits into the reserve accounts of its member bank shareholders.

Now that we all understand these basics, I can finally answer the original question. Quantitative easing (QE) is an example of this latter and very controversial way to increase the money supply. It is the process whereby the Fed uses electronic dollars and buys U.S. Treasuries and other securities at grossly inflated prices, thus driving the yield (or interest rates) down. This is achieved by buying those securities in the open market from other financial institutions — and, therefore, primarily from the same “too-big-to-fail” member bank shareholders. This process is risky because the amount of goods and services in supply in our economy at this time are either static or diminished as a function of the economic downturn. So basic supply and demand takes hold here, and you end up with more dollars chasing those diminished amounts of goods and services. And that is what my people call “inflation!” Conversely, another way of describing this process would be that it represents the intentional “debasement of our currency.” Regardless of the term you choose though, it means the same thing. In other words, either everything seems to cost more or your dollars seems to buy less.

Finally, I should add that this shenanigan is also synonymous with the phrase “monetizing our debt.” And this is exactly why people in the financial sector are starting to express such grave concerns. When a central bank creates money out of thin air to buy ever-expanding amounts of government debt, it eventually crowds out all other buyers. By that, I mean that other buyers recognize the destruction of the currency the bonds are denominated in. When they calculate that the buying power of a currency is falling at a faster rate than the yield or rate being offered, they move to the sideline and wait for the inevitable correction to occur. To that point, consider the following. Prior to this financial crisis, the Fed purchased approximately 10 percent of all Treasuries issued. Foreign central banks bought approximately 50 percent, and the private sector (your mutual funds and 401(k)s, etc.) purchased the remaining 40 percent. However, with QE2 in full swing, the Fed is now purchasing 70 percent of all Treasuries issued, with foreign banks buying the remaining 30 percent. Most private sector investors like PIMCO and Warren Buffet have liquidated ALL of their Treasury holdings, and therefore already feel this tipping point has come.

In conclusion, many other central banks in history have gone down this path, but I know of no success stories. In the case of Japan in the 1980s, it created zombie banks full of excess capital. Decades later, Japan is still in a recession. However, this sort of stagflation is a gift compared to other historical examples of quantitative easing, when taken to an extreme. And while I don’t see the U.S. becoming anything like Germany in the 1920s or Argentina in the 1980s, we might reasonably expect a bout of inflation similar to that produced by the Carter administration of the late 1970s and early 1980s. Hence, my ongoing advice is to lock all your debt into long-term fixed rates now, while rates are being artificially suppressed.

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