The dangerous complexity of our financial system

The financial crisis exposed the world to just how complex and powerful the world's financial system has become.

Since the crisis, there have been discussions about how to rein in that system, but questions have arisen about whether humans are smart enough to do it.

These questions have fueled a debate in recent days that has drawn in some of the smartest minds in the blogosphere and shed important light on the industry that brought the world credit default swaps and synthetic collateralized debt obligation.

It began when Lisa Pollack, a writer on the Financial Times' blog, pointed out that our best minds have become better at abstract thinking, and have applied those skills to designing financial instruments:

The people who are best at such reasoning stay longer in education, and get even better at abstract thinking, becoming even more intelligent… until one day, after many years of study, a good portion of them land in investment banks. So what do you think happens next?

This provoked a lengthy and carefully reasoned essay from Steve Randy Waldman, who argues on his blog that such complexity in our banks is necessary to sustain the incredible affluence of our society. According to Waldman's reasoning, complexity is necessary because it allows people to be essentially tricked into taking financial risks that they would not take if they fully understood the risks. It is only when people take such risks that economic progress happens.

"Societies that lack opaque, faintly fraudulent, financial systems fail to develop and prosper," he writes.

This drew an impassioned response from Mother Jones blogger Kevin Drum, who was more skeptical of the status quo. It is Drum who makes the point that finance has become so complicated that no one -- not even the smartest banker -- can actually understand it.

I don't think anybody can be said to genuinely understand global finance anymore. We understand certain large-scale features, and we understand certain minuscule details. But the middle ground, where most of the day-to-day action is? It's mostly a mystery. Financially speaking, we are all willing slaves of a capricious and uncaring master.

The discussion has gone on from there. It has produced no clear answer to how the complexity should be dealt with, but it has at least shed some light on just how complex things are. In case that wasn't clear already.

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--Nathaniel Popper

twitter.com/nathanielpopper

Photo: Traders at an exchange in Shanghai. Credit: China Photos/Getty Images

Freddie Mac: Record low mortgage rates haven't rescued housing

Lenders were offering 30-year fixed-rate mortgages to solid borrowers at an average of 3.95% this week, according to Freddie Mac, the ninth consecutive week of rates at or below 4%.

That wrapped up a year of record lows for the survey, which dates back to 1971. In 1981 and 1982, the average 30-year mortgage carried an interest rate of more than 16%, and the typical rate was above 8% as recently as 2000, Freddie Mac said. This past year, the average was 4.45%.

Despite the record low rates, applications for mortgages to buy homes dropped as the year ended, even after seasonal adjustments, the latest Mortgage Bankers Assn. survey found. Even the demand for refinance mortgages, which accounted for more than 80% of all applications, fell slightly.

“Remarkably low rates are not enough," said Mortgage Bankers Assn. economist Michael Fratantoni, noting that many homeowners have difficulty refinancing because of "lack of equity in their properties, poor credit and a weak job market.”

With loans hard to get and demand for home loans waning, Morgan Stanley analysts titled their housing outlook for 2012 "The Year of the Landlord."

"While we had forecast lower prices [for 2011], we did hold out some hope that at the very least transactions would pick up slightly from 2010 levels," said the report from a team led by analyst Oliver Chang.

"However," the report said, "it proved to be too optimistic a prediction. Not only did total home sales fail to rise, but also mortgage applications for purchase continued to fall -- indicating that not only is tight mortgage credit limiting demand, but even the desire to buy a home continued to wane."

The recent bottom in rates stems from anxiety over the European debt crisis, which has increased demand for U.S. Treasury securities. That has depressed the yield on Treasuries, which act as a benchmark for mortgages.

This week's typical offering rate of 3.95% on the 30-year loan was up slightly from an all-time record low of 3.91% set a week earlier. The 15-year fixed loan, popular with refinancers, averaged 3.24%, up from 3.21%. Start rates on adjustable loans also were up very slightly from record lows, Freddie Mac said.

Borrowers would have paid about 0.75% of the loan amount upfront to obtain the fixed rates, Freddie Mac said. Its survey asks lenders across the nation what rates they are offering to borrowers with 20% down payments or home equity, good credit and income sufficient to repay the mortgages.

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-- E. Scott Reckard

Photo: Culver City home for sale, November 2011. Credit: Genaro Molina / Los Angeles Times

Obama taps ex-Treasury official, Harvard economist for Fed Board

President Obama on Tuesday nominated a former Treasury official and a Harvard economist to fill two vacancies on the Federal Reserve Board of Governors.

The nominees, Jerome H. (Jay) Powell and Jeremy C. Stein, would serve 14-year terms on the board if they are confirmed by the Senate.

"I am grateful that these individuals have agreed to serve their nation at this important time for our economy," Obama said. "Their distinguished backgrounds and experience coupled with their impressive knowledge of economic and monetary policy make them tremendously qualified to serve in these important roles."

Powell is a visiting scholar at the Bipartisan Policy Center in Washington, D.C. He served as  undersecretary of the Treasury for Finance under President George H.W. Bush. Stein is on the economics faculty at Harvard. In 2009, he served on the staff of the National Economic Council and was a senior advisor to Treasury Secretary Timothy F. Geithner.

Obama is trying to get the seven-member Federal Reserve Board back to full strength for the first time since mid-2010 after running into difficulty with one of his nominees this year. Nobel Prize-winning economist Peter Diamond was nominated in 2010 along with Janet L. Yellen and Sarah Bloom Raskin.

Yellen and Raskin were confirmed by the Senate, but Diamond ran into strong opposition from Republicans and withdrew in June.

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-- Jim Puzzanghera in Washington

Photo: Harvard economist Jeremy Stein. Credit: Bloomberg.

 

Home foreclosures jumped in third quarter, federal report says

Newly initiated home foreclosures by the large national banks increased 21.1% in the three months ending Sept. 30 as mortgage servicers lifted voluntary holds on such activity because of paperwork problems, the Office of the Comptroller of the Currency reported Wednesday.

The jump from the second quarter of the year came as the number of homeowners who were delinquent on their mortgages remained stable, although still high, the OCC said in its quarterly Mortgage Metrics Report. The report has data from eight large national banks, including Bank of America, JPMorgan Chase and Wells Fargo, as well as One West Bank federal savings association, which account for about 62% of all first mortgages in the country.

As of Sept. 30, 88% of the 32.4 million loans in the portfolios of those institutions were current and performing. Of those not current, 3% were 30-59 days delinquent, 4.9% were more than 60 days delinquent, and 4.1% were in foreclosure.

But there was some encouraging news.

The percentage of delinquent loans was down significantly from a year before. For example, the percentage of loans more than 60 days delinquent was down 13.8% from the third quarter of 2010. And newly started foreclosures also were down year over year, with an 11.8% drop.

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-- Jim Puzzanghera in Washington

Photo: Renzo Salazar maintains the yard of a foreclosed home in Miami in November. Credit: Getty Images.

4 House members got Countrywide VIP loans, Rep. Darrell Issa says [Updated]

This post has been updated. See below for details.

Four current House members received special VIP loans from Countrywide Financial Corp., and their names have been forwarded to the Ethics Committee for possible action, Rep. Darell Issa (R-Vista) said.

Issa, who chairs the House Oversight and Government Reform Committee, said an ongoing  investigation by his panel discovered the information. He did not name the members in referring the matter to the Ethics Committee in a letter Friday.

"Testimony and documents show that Countrywide used the VIP program to build relationships with government officials and others positioned to advance Countrywide's business interests," Issa wrote to Ethics Committee Chairwoman Jo Bonner (R-Ala.) and top Democrat Linda T. Sanchez (D-Lakewood). The loans often came at lower interest rates and fees than were available to the public.

A spokesman for the Ethics Committee would not comment on the letter. The committee usually does not talk about specific allegations or referrals until it reaches a finding.

The oversight committee received about 100,000 pages of documents related to the VIP loan program after issuing a subpoena in February to Bank of America, which now owns Countrywide, the former Calabasas lender. The VIP program also was known as "Friends of Angelo," a reference to Countrywide's former Chief Executive Angelo R. Mozilo.

Under Mozilo, Countrywide helped fuel the subprime mortgage boom and cultivated relationships with Washington policymakers. Last year, Mozilo agreed to a $67.5-million settlement of civil fraud and insider-trading allegations by the Securities and Exchange Commission.

Although Issa's letter did not name the current House members, Rep. Edolphus Towns (D-N.Y.) publicly has acknowledged receiving two mortgages from Countrywide. Staffers for Towns have said he doesn't believe the loans came with any special benefits.

[Updated at 12:42 p.m., Dec. 19: Towns spokesman Charles Lewis said the lawmaker was not involved in a VIP program at Countrywide and received no benefits that were not available to everyone else.]

In 2009, the Senate Ethics committee cleared Sen. Kent Conrad (D-N.D.) and former Senate Banking Committee Chairman Christopher J. Dodd (D-Conn.) of violating rules in receiving VIP mortgages from Countrywide.

The senators said they didn't think they were getting any special treatment. But the committee said they "should have exercised more vigilance" in their dealings with Countrywide to avoid the appearance of preferential treatment.

The House Oversight Committee has been investigating the Countrywide VIP program since 2008. The committee issued a report last year finding that Countrywide made 173 preferential mortgages over about a decade to employees of housing finance giants Fannie Mae and Freddie Mac, which purchased many of the company's loans.

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 -- Jim Puzzanghera

 Photo: House Oversight Committee Chairman Darrell Issa. Credit: Getty Images

Consumer Confidential: Chase disclosure, retail sales, Toys R Us

Here's your thank-the-lord-for-the-nighttime Thursday roundup of consumer news from around the Web:

— From the Better Late Than Never file: Chase bank is making its checking accounts easier for customers to understand. The bank says it will start providing a three-page disclosure that helps consumers quickly identify the key terms of its basic checking account, such as the monthly fee and conditions customers need to meet to have that fee waived. Chase will be the first major bank to adopt a version of the consumer-friendly disclosure developed by the Pew Charitable Trusts earlier this year. As it stands, Pew says disclosures are often more than 100 pages and bury the fees and terms of most interest to consumers. The model disclosure developed by Pew in April is just one page and highlights terms such as the ATM withdrawal fee and overdraft policy. (Associated Press)

— Retail hopes are rising for the holiday season. The National Retail Federation says it now expects holiday sales for the November-December period to rise 3.8% to a record $469.1 billion. That's up from its more modest 2.8% forecast made in early October when the economy's health looked more uncertain. The new forecast is hardly stellar. The projected gain is still below the 5.2% pace seen during the holiday 2010 season from the prior year, but it's well above the 2.6% average increase over the past 10 years. And any upgraded forecast is good news as stores look to the final days before Christmas to rope in holiday shoppers. (Associated Press)

— But some retailers are taking no chances. Toys R Us says its stores nationwide will remain open for 112 uninterrupted hours beginning at 6 a.m. Tuesday, Dec. 20, and continuing through 10 p.m. on Christmas Eve. This is the second year Toys R Us has opened 24 hours during the holidays. The company will hold a two-day sale from Tuesday to Wednesday, and it has extended shipping deadlines. Orders submitted online by 2 p.m. on Christmas Eve can still be picked up in store on the same day, so presents can be wrapped and ready for Christmas morning. (Orlando Sentinel)

— David Lazarus

Photo: Chase wants customers to finally understand their checking accounts. Credit: Kathy Willens / Associated Press

 

Freddie Mac: 30-year mortgage rate ties record low

The average interest rate on a 30-year fixed-rate mortgage dropped again this week to 3.94%, tying a record low set in October, according to housing finance giant Freddie Mac.

Freddie Mac's weekly survey pegged the rate for a 15-year fixed-rate mortgage at a record low of 3.21%. Loans fixed for five years before becoming adjustable also set a new record, with an average start rate of 2.86%

The survey, released each Thursday, asks lenders to report rates they are offering to well-qualified borrowers who pay about 0.75 of a percentage point in upfront lender fees and discount points. The rates are for loans of up to $417,000.

Freddie has conducted the survey of 30-year loans since 1971, 15-year loans since 1991, and five-year adjustable hybrids since 2005.

The record lows have touched off the latest surge in home refinancing. But while sales of homes increased slightly in California last month, scheduled foreclosure sales have risen sharply and the environment for housing remains rough overall, as Freddie Mac's chief economist, Frank Nothaft, pointed out in announcing the latest survey results.

"In its Dec. 13 monetary policy announcement, the Federal Reserve reiterated the housing market remains depressed," Nothaft wrote. "Over the first nine months of 2012, households lost almost $400 billion in property values, which contributed to a $1.4 trillion reduction in overall net worth.

"In addition, serious delinquency rates (90 or more days delinquent plus foreclosures) on mortgages increased slightly between June 30 and Sept. 30 of the year, breaking a six-quarter consecutive decline, according to the Mortgage Bankers Association.”

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-- E. Scott Reckard

 Photo: Freddie Mac's headquarters in Virginia. Credit: Pablo Martinez Monsivais / Associated Press

California small businesses can't get loans

California's small businesses can't get the credit they need to expand and hire people.

Forty-four percent of almost 2,000 owners queried said they couldn't access resources needed to grow their operations, said a report released Wednesday by the Graziadio School of Business and Management at Pepperdine University.

With little savings, proprietors are having mixed success raising capital. Instead, they're concentrating on raising revenues from their current products or services, the Graziadio report said.

"Recent signs of stronger holiday consumer demand is a great sign for small business, but it is not time to celebrate just yet," said John Paglia, lead researcher at the Pepperdine University Private Capital Markets Project and an associate professor of finance. "Small businesses will need sustained consumer demand to recover from losses during the Great Recession."

The credit picture is even tighter in Los Angeles County, the Pepperdine report said. About 6 in 10 business owners surveyed see opportunities for growth next year but three-quarters of them expect credit to be tough to get.

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 -- Marc Lifsher

Photo: President Larry Valeriano with a worker at California Screw Products in Paramount. Credit: Axel Koester / For The Times

New signs of trouble for Goldman Sachs

Goldman Sachs, the once-mighty king of Wall Street, appears to be losing employees, market share and the confidence of investors.

One of the most outspoken Wall Street analysts. Richard Bove, announced this week that he is cutting his outlook for Goldman's fourth-quarter earnings by 66%, estimating that the bank will earn 79 cents a share.

Goldman and other banks have been struggling all year as volatile markets have driven investors away from the trading activities that Goldman and its competitors rely on for revenue. That, along with new regulations, have led many industry watchers to see a longer-term shrinking of the industry.

"People don't want to trade. They're afraid of the markets. Hedge funds are pulling back and are not aggressively in to the market," Bove told Yahoo news.

But it is not just trading where Goldman appears to be falling behind. According to a Bloomberg story out Wednesday, Goldman has also lost out in the booming new market in Chinese stock offerings. While Goldman has led the third most IPOs around the world, in China it has only led one in the last three years, Bloomberg says. This is significant because China may be where much of the market growth comes moving forward.

One culprit fingered for the bank's troubles in China -- along with the bank's caution in approaching the less regulated markets there -- is a book called "Goldman Sachs Conspiracy," which argues that the bank is set on destroying China. 

The hard times appear to be weighing on executives at Goldman. Bloomberg reporters combed through the bank's findings to determine that at least 37 of Goldman's partners -- one of the most prized positions on Wall Street -- have left the firm this year, more than in any year since the financial crisis.

This comes after news earlier this week that Goldman was canceling recruiting events at Ivy League schools after facing protests on campus fueled by the Occupy Wall Street anger.

While Goldman shares are up slightly Wednesday, they have fallen over 45% since the beginning of the year.

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-- Nathaniel Popper

twitter.com/nathanielpopper

U.S. Mint to stop making presidential $1 coins to save taxpayer money

Washington has hit on a new way to save taxpayer money -- stop making some of it.

The U.S. Mint said Tuesday it will stop producing $1 presidential coins for public circulation because there are plenty of them already and the move will save $50 million a year.

There are 1.4 billion surplus dollar coins in the vaults of Federal Reserve Bank vaults, because the demand for each new coin drops significantly after it is introduced and financial institutions ultimately return about 40% of them, said Deputy Treasury Secretary Neal. S. Wolin.

That's enough coins to meet the current circulation demand for more than a decade, he said.

"Minting $1 coins that ultimately end up sitting in Federal Reserve Bank vaults –- and serve no useful purpose for businesses, financial institutions, and consumers -– is simply not a prudent use of taxpayer resources," Wolin said.

In 2005, Congress passed the Presidential $1 Coin Act mandating that the U.S. Mint issue four new presidential coins each year from 2007 to 2016. The coins began with George Washington, and ultimately there will be a coin for every deceased president, but they haven't proved to be much more successful than earlier attempts to establish the $1 coin.

The U.S. Mint will continue to produce the coins, as required by law, but they will not be put into circulation. Collectors and others who want to obtain them will be able to do so directly from the U.S. Mint during specific periods.

The next coin in the series, for Chester A. Arthur, will be released in the spring, and the number produced will be set based on collector demand.

Wolin said the decision to suspend production of the coins for public circulation was part of President Obama's effort to cut government waste.

Some members of Congress have questioned the cost of the program in an era of soaring budget deficits, and legislation has been introduced to suspend the program.

Ironically, other lawmakers have suggested that the $1 coins could be a way to save taxpayer money because they last much longer than paper dollar bills -- 30 years compared with 18 to 40 months for the old-fashioned greenback. A group called the Dollar Coin Alliance formed to advocate phasing out paper dollars and replacing them with coins.

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-- Jim Puzzanghera in Washington

Photo: The George Washington $1 coin. Credit: Associated Press

Washington Mutual executives set to settle financial crisis lawsuit

Federal regulators are settling a lawsuit they had brought against three former executives at Washington Mutual Inc.for a small amount of the damages that were originally sought.

The Federal Deposit Insurance Corp. sued former Washington Mutual Chief Executive Kerry Killinger and two other executives in March, accusing the men of negligence that led to the bank's failure in 2008.

While the FDIC had demanded $900 million in damages from the men, they are drawing up a settlement for a total of around $65 million, according to FDIC officials who spoke on the condition of anonymity.

The FDIC lawsuit has been one of the most high-profile efforts to recover money from the bank executives who led their institutions to failure during the financial crisis. Seattle-based Washington Mutual was the largest bank failure in U.S. history, and when the FDIC brought its suit it said that the executives' "negligence, gross negligence and breaches of fiduciary duty caused WaMu to lose billions of dollars."

When the FDIC first announced the case it said that WaMu had paid Killinger $65.9 million in the four years he led the bank before its collapse.

The $65-million settlement, which is still being finalized, is only a small portion of the amount that the regulators initially sought, and only a small portion of that small portion will actually be paid by the former WaMu executives, according to the FDIC officials.

"In settlements neither side is going to be happy, that’s why you settle," an FDIC official said.

The FDIC official said today that the FDIC decided to settle to avoid the legal costs and risks involved in continuing to pursue the suit.

"We’re not going to bring claims and spend a lot of money and end up without a whole lot," the official said.

As part of the settlement, Killinger, WaMu Chief Operating Officer Stephen Rotella and home lending chief David Schneider will give up claims they had to bonuses and golden parachutes. Their spouses, who had been named in the initial lawsuit, are released from all claims.

The money will go to pay WaMu creditors. 

New of the settlement was first reported by the Wall Street Journal.

Lawyers for the executives did not immediately return calls seeking comment.

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-- Nathaniel Popper

Photo credit: Bloomberg News