The ECB and the IMF are Not Ireland’s Friends: The New

Debtors’ Prison

William K. Black

Associate Professor of Economics and Law

University of Missouri – Kansas City

Sponsored by TASC & Smart Taxes

May 9, 2011 Croke Park Center, Dublin

The Definition of Clueless“We have taken bold, decisive and

innovative steps to manage our way through this crisis. The Government over the past 18 months has made budgetary adjustments of more than €8 billion for 2009. Had we not done so, the deficit would have ballooned towards 20 per cent of GDP.” Fianna Fail

IMF Praise = Proof of Failure

“The measures we have taken have been commended by international bodies such as the European Central Bank, the European Commission, the IMF and the OECD and the approval of the international markets.” Fianna Fail

The Blind Leading the Blind

In December 2008, Fianna Fail in Government launched a five year plan for economic renewal.

That plan, by the people who brought you the banking and the budgetary crises – became Ireland’s consensus plan.

The IMF loves the Irish plan – and the Irish government thinks that’s a good thing

The IMF’s Productivity t-shirt**(One Size Fits All)

Ireland: Cato’s 2nd Edenhttp://www.cato.org/pub_display.php?pub_id=8136 “It’s Not Luck”

“[Ireland] boasts the fourth highest gross domestic product per capita in the world. In the mid-1980s, Ireland was a backwater with an average income level 30 percent below that of the European Union. Today, Irish incomes are 40 percent above the EU average.”

Was this dramatic change the luck of the Irish? Not at all. It resulted from a series of hard-headed decisions that shifted Ireland from big government stagnation to free market growth.

Saved Ireland from Debt

“After years of high inflation, double-digit unemployment rates, and soaring government debt that topped 100 percent of GDP, Irish policymakers began to cut spending in the late 1980s in a desperate bid to recover financial stability.” Cato 2007.

Today: oops!

Iceland as Cato’s Eden

Cato praised Ireland & Iceland as models

• “Iceland’s economic renaissance is an impressive story. [S]upply-side reforms, along with policies such as privatization and deregulation, have yielded predictable results. Incomes are rising, unemployment is almost nonexistent, and the government is collecting more revenue from a larger tax base.” (2007)

Iceland & Ireland SagasHailed as theoclassical icons

Existential threat – saved by Fuld

Iceland’s Big 3 banks growing at 50%

Anglo-Irish grows 35%; biggest RE bubble

>10X Iceland’s GDP

Massive bank fraud: asset losses = 60%

Everyone has a Euro passport

Ireland’s biggest export is the Irish

The Troika is Here to Help You

Servaas Deroose (EC) urged Greece to “sell beaches to develop tourism and the tourism housing market.”

IMF mission chief Poul Thomsen also said Greece should “sell land, including the (former) [Athens] airport….”

Does Ireland Belong to the Irish?

“Greece must consider a fire sale of land, historic buildings and art works to cut its debts, two rightwing German politicians said today in a newspaper interview that is bound to exacerbate tensions between Athens and Berlin.” Guardian: 4 March 2010.

German MPs: Sell Greek Islands

"Those in insolvency have to sell everything they have to pay their creditors," Schlarmann told Bild newspaper. "Greece owns buildings, companies and uninhabited islands, which could all be used for debt redemption."

But not the Acropolis (Yet)

Greece's deputy foreign minister, Dimitris Droutsas, was asked about the idea in an interview with ARD TV. "I've also heard the suggestion we should sell the Acropolis," Droutsas said. "Suggestions like this are not appropriate at this time."

For what died the sons of Róisín?

Will German, French or DutchInscribe the Epitaph of Emmet

When we've sold enough of IrelandTo be but strangers in it

For what died the sons of Roisin?Was it greed?

[The Dubliners’ Luke Kelly]http://www.youtube.com/watch?v=C14U7JYGRgA

Kelly’s fear of the highest bidder

To whom do we owe our allegiance today?

Or her faceless men, who for Mark and Dollar

Betray her to the highest bidder

To whom do we owe our allegiance today?

Ireland should be so lucky

Politically-driven privatization is perverse

Incentive to sell cheap to cronies

Mexico: Corrupt President Carlos Salinas privatizes telecommunications

Telmex – monopoly – sold to Carlos Slim

Meet the world’s wealthiest man

Morgan Kelly is an Optimist

He’s right that Ireland can’t repay

Ireland is bankrupt – Morgan’s own logic

Tell EU: “the bad banks are yours”

Delaying the bankruptcy causes far greater pain to everyone

Morgan’s budget plan deepens the recession and hurts everyone

Export & Tax StrategyIrish plans, even Morgan’s rely on Ireland

having lowest taxes and wages

That strategy is an enormous gamble – one the Irish cannot control

Other nations can & will compete in a “race to the bottom”

EU already taking aim at Irish tax rate

Ireland on the “Road to Bangladesh”

Think BolderMorgan’s proposal is to default

Ireland’s weakness is its strength v. EU

Troika cannot afford to bring Ireland down

The real bailout is to German banks

They’re getting a better deal than they contracted to receive

Ireland needs to recover its sovereignty

Needs sovereign currency to get out recession w/o becoming Bangladesh

Ireland Needs to Reclaim its Soul and Integrity

This crisis was driven by elite bank frauds

Investigations have instructed reports not to consider fraud

Only by holding elites accountable can Ireland break the grip of crony capitalism and avoid recurrent, intensifying financial crises and the death of honest government

Fraud is a “Sure Thing”

“Control fraud”: “sure thing” Akerlof & Romer 1993

Finance: accounting = “weapon of choice”

Fraudulent lenders’ optimization recipe:

1.Grow massively

2.Make really bad loans with higher yield

3.Extreme leverage, not “pvt. discipline”

4.Trivial loan loss reserves (ALLL)

Recipe for CatastropheThe same recipe maximizes (fake) record

profits and (real) catastrophic loss

“Criminogenic environments” lead to fraud epidemics & hyper-inflated bubbles

Gresham’s dynamic & neutralization

“Echo” epidemics: fraud epidemics are criminogenic – cause/permit epidemics

Deceit erodes trust: markets can fail

Control Fraud: Leading Cause of Devastating Bank Failures

Control frauds cause > financial losses than all other property crimes combined

Legitimacy + control + power + status = unique dangers from elite fraud

1.Suborn all controls

2.Optimize entity for fraud

3.Use normal corporate means to loot

4.Shape external environment to aid fraud

Gresham’s: Managers

“Bank management and boards in some of the other covered banks feared that, if they did not yield to the pressure to be as profitable as Anglo, in particular, they would face loss of long-standing customers, declining bank value, potential takeover and a loss of professional respect.” (Nyberg 2011: v)

Punishing Integrity

“The few that admitted to feeling any degree of concern at the change of strategy often added that consistent opposition would probably have meant formal or informal sanctioning.”

(Nyberg 2011: v)

Nyberg’s Incoherence.1

“Over time, managers known for strict credit and risk management were replaced; there is no indication, however, that this was as a result of any policy to actively encourage risk-taking though it may have had that effect.” (Nyberg: v)

Nyberg’s Incoherence.3

In addition, there were some indications that prudential concerns voiced within the operational part of certain banks may have been discouraged. Early warning signs generated lower down in the organisation may in some cases not have reached management or the board. If so, the pressure for conformity in the banks has proven to be quite expensive. (Id.)

Nyberg’s Incoherence.4a“The mandate of the Commission did not

include investigating possible criminal activities of institutions or their staff, for which there are other, more appropriate channels. Under the Act, evidence received by the Commission may not be used in any criminal or other legal proceedings.” (Nyberg 2011: 11)

Nyberg’s Incoherence.4b

“The Commission has not investigated any issues already under investigation elsewhere. Instead, the Commission used its limited time and resources to investigate, as its Terms of Reference specified, why the Irish financial crisis occurred.” (Nyberg 2011: 11)

So fraud cannot explain why it occurred?

Nyberg’s Incoherence.5a

“Even with the benefit of hindsight, it is difficult to understand the precise reasons for a great number of the decisions made. However, it would appear that they generally were made more because of bad judgment than bad faith.” (Nyberg 2011: 11)

Nyberg’s Incoherence.5b

“Indeed, a fair number of decision-makers appear to have followed personal investment policies that show their confidence in the policies followed by “their” institution at the time. Such faith usually produced large personal, financial and reputational losses.” (Nyberg 2011: 11)

Nyberg’s Incoherence.6a

“The [compensation] models, as operated by the covered banks in Ireland, lacked effective modifiers for risk. Therefore rapid loan asset growth was extensively and significantly rewarded at executive and other senior levels in most banks, and to a lesser extent among staff where profit sharing and/or share ownership schemes existed.” (2011: 30)

Nyberg’s Incoherence.6b

“Targets that were intended to be demanding through the pursuit of sound policies and prudent spread of risk were easily achieved through volume lending to the property sector. On the other hand, most banks also included performance factors in their models other than financial growth.” (2011: 30)

Nyberg’s Incoherence.6c

“Occasionally, management and boards clearly mandated changes to credit criteria. However, in most banks, changes just steadily evolved to enable earnings growth targets to be met by increased lending.” (Nyberg 2011: 34)

Nyberg’s Incoherence.6d

“Rewards of CEOs reached levels, at least in some cases, that must have appeared remarkable to staff and public alike. It is notable, that proportionate to size, the CEOs of Anglo and INBS received by far the highest remuneration of all the covered bank leaders.” (2011: 30)

Nyberg’s Incoherence.6e 2003 2004 2005 2006 2007 2008

Anglo €2,346 €2,721 €2,354 €3,015 €4,656 €2,129

INBS €910 €1,034 €1,269 €1,836 €2,313 €2,417

AIB €1,399 €1,445 €2,563 €2,436 €2,105 €1,152

BoI €1,594 €1,919 €2,525 €3,998 €2,972 €3,095

EBS € 589 €601 €655 €760 €678 €522

IL&P €946 €1,025 €1,138 €1,335 €1,362 €942

(2011: 31, Figure 2.13)

Nyberg’s Incoherence.6f

“Financial incentives were unlikely to have been the major cause of the crisis. However, given their scale, such incentives must have contributed to the rapid expansion of bank lending.”

(2011: 31)

Why?

Nyberg’s Incoherence.6g

“Nevertheless, it was claimed by a number of bankers that management and staff were not motivated by compensation alone. Most would compete, it was claimed, as they had during the previous period of lower compensation, on the basis of natural competitiveness and professional pride.” (2011: 31)

Nyberg’s Incoherence.7a

“The core principles, values and requirements governing the provision of credit are contained in a bank’s credit policy document which must, as a regulatory requirement, be approved at least annually by a bank’s board. The policy defines the risk appetite acceptable to the bank and appropriate for the markets in which the bank operates….”

Nyberg’s Incoherence.7b

“The purpose of such a credit policy is to set out clearly, particularly for lenders and risk officers, the bank’s approach to lending and the types and levels of exposures to counterparties that the board is willing to accept.” (2011: 31)

Nyberg’s Incoherence.7c

“all of the covered banks regularly and materially deviated from their formal policies in order to facilitate rapid and significant property lending growth. In some banks, credit policies were revised to accommodate exceptions, to be followed by further exceptions to this new policy, thereby continuing the cycle.”

Rapid Growth = Bad Loans.1“As all banks had effectively adopted

high-growth strategies (IL&P less so), the aggregate increase in credit available could not be fully absorbed by good quality loan demand in Ireland. Banks had two options to remedy this; diversify their lending into other markets or relax lending standards.” (Nyberg 2011: 34)

Rapid Growth = Bad Loans.2

“substantial numbers of new loans were made in Ireland. By implication, credit standards fell. The lowering of standards manifested itself as both a reduction in minimum accepted credit criteria and (more subtly) as an increase in accepted customer and property leverage.” (Nyberg 2011: 34)

Endemic Violations

“The resulting asset growth meant that internal lending limits (both sector and large exposure limits) were exceeded. Regulatory sector limits in some banks were also exceeded, both prior to and during the Period. Gradually, as such excesses became more frequent, they were viewed with less seriousness.” (Nyberg 2011: 34)

Hyper-inflating bubbles“The demand for Development Finance

was so strong over the Period that bank and individual growth targets were easily met from this sector. Both of the bigger banks continued to lend into the more speculative parts of the property market well into 2008, even though demand for residential property (a major end-user) had begun to decline by the end of 2006.” (Nyberg 2011: 35-36)

Nyberg on ALLL“In the benign economic environment

before 2007, the banks reduced their loan loss provisions, reported higher profits and gained additional lending capacity. The banks could no longer make more prudent through-the-cycle general provisions, or anticipate future losses in their loan books, particularly in relation to (secured) property lending in a rising property market.” (Nyberg 2011: 42)

Accounting Incoherence

“The higher reported profits also enabled increased dividend and remuneration distributions during the Period. All of this led to reduced provisioning buffers….”

“the incurred-loss model [IAS 39] also restricted the banks’ ability to report early provisions for likely future loan losses as the crisis developed from 2007 onwards.” (Nyberg 2011: 42-43)

Helpless Banks & Auditors

“From 2005 the banks’ profits, capital and lending capacity were enhanced by lower loan loss provisioning while the benign economic conditions continued. As the global crisis developed from mid-2007, the banks were constrained by these incurred-loss rules from making more prudent loan-loss provisions earlier, and the auditors were restricted from insisting on such earlier provisioning.” (Nyberg: 55)

Pathetic Reserves v. Loss“The composite provisioning level for the

covered banks at end 2000 was 1.2% of loans…. If this 1.2% provisioning level had been applied at the 2007 year end by the covered banks, aggregate provisions would have increased by approximately €3.5bn (i.e. from the €1.8bn actual to €5.3bn).” (Nyberg 2011: 43)

Perils of not reserving

“As a consequence of not making this level of loan loss provisions, increased accounting profits effectively provided additional capital of up to €3.5bn to the covered banks. This, in turn, increased their capacity to lend by over €30bn.”

(Nyberg 2011: 43)

Nyberg’s Fantasy World

“In the competitive market, many property loans were made at margins of less than 1% per annum. A composite year end provisioning level at the 2000 level of 1.2% might have caused the banks to reconsider the amount of low margin property lending and might have led to more appropriate pricing for risk.” (Nyberg 2011: 43)

Reported Profit Ruled.1

“High profit growth was the primary strategic focus of the covered banks…. Since the potential for high growth (in assets) and resultant profitability in Ireland were to be found primarily in the property market, bank lending became increasingly concentrated there.” (Nyberg 2011: 49)

Reported Profit Ruled.2

“The associated risks appeared relevant to management and boards only to the extent that growth targets were not seriously compromised.” (Nyberg 2011: 49)

Hyper-inflated the BubbleThus, banks accumulated large portfolios

of increasingly risky loan assets in the property development sector. This was the riskiest but also (temporarily) the easiest and quickest route to achieve profit growth.” “Credit, in turn, drove property prices higher and the value of property offered as collateral by households, investors and developers also.” (Nyberg 2011: 50)

Just Believe One Impossibility

“As long as there was confidence that prices would always increase and exit finance was available, an upward spiral of lending and property price increases was maintained.” (Nyberg 2011: 50)

Collapse of Ethics

• We conclude there was a systemic breakdown in accountability and ethics. The integrity of our financial markets and the public’s trust in those markets are essential to the economic well-being of our nation. [FCIC]

Economics Needs a Soul

Mankiw (1993): “it would be irrational for savings and loans [CEOs] not to loot.”

Moral Markets: “homo economicus is a sociopath” (a triumphal 2008 book)

“a rule against fraud is not an essential or … an important ingredient of securities markets” (Easterbrook & Fischel 1991)

Greenspan’s dismissal of fraud to B. Born

Buy Me an Honest CEOFischel: “The bigger the share of stock

held by any particular investor the lower are agency problems… particularly … if the investor is an insider.”

“One who buys a controlling block of shares cannot hurt the corporation without hurting himself too. Substantial investment acts as a bond for honest conduct.” Easterbrook & Fischel (1991)

Ask the experts how it’s done

Don't just say: "If you hit this revenue number, your bonus is going to be this." It sets up an incentive that's overwhelming. You wave enough money in front of people, and good people will do bad things.

Franklin Raines: CEO, Fannie MaePost-crisis pay: more short-term

Pandering to Power

Ethics: “Speaking truth to power”

“When plunder becomes a way of life for a group of men living together in society, they create for themselves in the course of time a legal system that authorizes it and a moral code that glorifies it (Frederic Bastiat).”

Mission Accomplished

Deregulatory Dogma

Ireland Report 2010:

“Four main failings of supervision: (i) Supervisory culture was insufficiently intrusive, and staff resources were seriously inadequate ….”

“On-site inspections were infrequent. Supervisors … imposed no penalties on banks at all.”

Irish Desupervision

“Ireland’s mounting financial vulnerabilities meant that strong action was called for to over-ride the prevalent light-touch and market-driven fashions of supervision: to call a spade a spade….”

“failure to identify, recognise the gravity of, and take tough remedial action to correct such serious governance breaches was a cardinal error of supervision….”

Courage v. Dogma“there was a socio-political context in which

it would have taken some courage to seem to prick the Irish property bubble.”

“generic weaknesses in [EU] regulation and supervision”

FCIC dissent claimed deregulation and desupervision could not be a major cause of the U.S. crisis because the crisis also occurred in Europe – proves the opposite.

Buy me an honest….“In many popular accounts of the global

financial crisis [pay] conjures up images of top management bonuses, or the practice of awarding stock options on a large scale. However, in Ireland at least, one should not neglect incentives set for middle-level bank management and indeed loan officers.” 2010 Ireland Rep.

Ask why CEOs created those incentives

“Agency cost” = Insanity

 

“By now every one of you must have 6.46 [EPS] branded in your brains. You must be able to say it in your sleep, you must be able to recite it forwards and backwards, you must have a raging fire in your belly that burns away all doubts, you must live, breath and dream 6.46, you must be obsessed on 6.46…. After all, thanks to Frank, we all have a lot of money riding on it…. We must do this with a fiery determination, not on some days, not on most days but day in and day out, give it your best, not 50%, not 75%, not 100%, but 150%.”

The anti-canary“Remember, Frank has given us an

opportunity to earn not just our salaries, benefits, raises, ESPP, but substantially over and above if we make 6.46. So it is our moral obligation to give well above our 100% and if we do this, we would have made tangible contributions to Frank’s goals.” (Mr. Rajappa, head of Fannie’s internal audit, emphasis in original.)

Gresham’s Erodes Ethics

“[A]busive operators of S&L[s] sought out compliant and cooperative accountants. The result was a sort of "Gresham's Law" in which the bad professionals forced out the good.” (NCFIRRE 1993)

Control frauds are criminogenic; they can cause “echo” epidemics by creating these perverse incentives

Gresham’s Dynamics

“[D]ishonest dealings tend to drive honest dealings out of the market. The cost of dishonesty, therefore, lies not only in the amount by which the purchaser is cheated; the cost also must include the loss incurred from driving legitimate business out of existence.” George Akerlof (1970).

Regulatory “cops on beat”

Essential for ethical & efficient financial markets – break Gresham’s dynamic

Can prevent & reduce crises:

1.S&L debacle “reregulation”

2.1990-91 nonprime S&L lenders

3.Even in current crisis their guidance was far better than industry on nonprime, CRE, & Basel II capital

Regulators & Prosecution

Prosecution of elite frauds essential

Must start with the regulators

S&Ls: >10K criminal referrals, >1K convictions in “major” cases & “Top 100”

Current crisis: referrals – OTS: 0, OCC: 0

Convictions of elites: Total: 7 – none from regulatory referrals. Truly elite: 0

Farkas farce: No Fannie referral in 2002

A “Moral Sickness”

Supreme Court Justice Lewis Powell’s biographer, John Calvin Jeffries, wrote:

“Powell argued that “a root crisis of the crime crisis which grips our country is excessive tolerance by the public generally – a tolerance of substandard, marginal and even immoral and unlawful conduct.” It had reached the point of “moral sickness.”

Conservative’s Crime Meme

Ethics essential

Tolerating unethical conduct spurs crime

Tolerating crime harms liberty & economy

Calls for more police, more vigorous police, certainty of imprisonment, and long jail terms

Rights of defendants are excessive and must be reduced

One Minor Exception“The origin of the "white-collar crime" concept

derives from a socialist, anti-business viewpoint….This meddling in the law perverts the justice system…. criminaliz[ing] productive social and economic conduct, not because of its wrongful nature but, ultimately, because of fidelity to a long-discredited class-based view of society.” Heritage, 2004.

CEO Impunity from the Law“White Collar Witch Hunt: Why do

Republicans so easily accept Neobolshevism as a cost of doing business?” Stephen Moore.

“[T]he anti-capitalist left … [is] using the criminal law for the endgame purpose of striking down the productive class in American that they so envy and despise….”

Powell: Soft on CEOs’ CrimesRalph Nader is “the single most effective

antagonist of American business.”

“He says … that a great many corporate executives belong in prison -- for defrauding the consumer with shoddy merchandise, poisoning the food supply with chemical additives, and willfully manufacturing unsafe products that will maim or kill the buyer.” (Powell/Fortune)

Bad Ethics = Bad Economy

“Private market discipline” is an oxymoron

Banks fund “accounting control frauds”

Gresham’s dynamic: bad ethics drives good ethics out of the marketplace

CEOs create the perverse incentives

Regulatory “cops on the beat” & prosecutors essential to avoid Gresham’s perverse dynamics

“Echo” Fraud Epidemics

Loan officers/brokers

Borrowers: “open invitation to fraudsters”

Appraisers: WaMu’s blacklist

Auditors

Rating agencies

Fraud begets fraud. Accounting control fraud is criminogenic.

Crony Capitalism

Defining characteristics: looting with impunity and subsidies for the cronies

It is criminogenic: the “three de’s” – deregulation, desupervision & de facto decriminalization. Loot with impunity.

Max moral hazard – fraud = “sure thing”

Destroys democracy, ethics, and merit

Causes recurrent, intensifying crises

Where we look, we find fraud

“At the typical large [S&L] failure … fraud was invariably present.” NCFIRRE 1993

The Enron-era accounting control frauds

The lenders/agents making “liar’s” loans

Iceland: crony “capital” & capitalism

Ireland: the “Golden Circle”

Elsewhere, we don’t look, e.g., Spain

Criminogenic Environment

We’re optimizing pro-fraud incentives

Elite frauds not investigated/prosecuted

Anti-regulators still in charge/promoted

CEO pay more perverse

CEO still able to create Gresham’s dynamics & “echo” fraud epidemics

Assault on regulators’ budgets

Gimmicked accounting rules to hide losses

The Three “De’s”

We conclude widespread failures in financial regulation and supervision proved devastating to the stability of the nation’s financial markets. The sentries were not at their posts …due to the widely accepted faith in the self-correcting nature of the markets and the ability of financial institutions to effectively police themselves. [FCIC]

Anti-Regulatory Ideology

More than 30 years of deregulation and reliance on self-regulation … championed by …Greenspan and others, supported by successive administrations and Congresses, and actively pushed by the powerful financial industry … stripped away key safeguards, which could have helped avoid catastrophe. [FCIC]

Regulatory Black Holes

This approach had opened up gaps in oversight of critical areas with trillions of dollars at risk….

In addition, the government permitted financial firms to pick their preferred regulators in what became a race to the weakest supervisor. [FCIC]

The Great Recession

• there are more than 26 million Americans who are out of work, cannot find full-time work, or have given up looking for work. About four million families have lost their homes to foreclosure and another four and a half million have slipped into the foreclosure process…. $11 trillion in household wealth has vanished…. [FCIC]

Dissent Focuses on Global

• The majority says the crisis was avoidable if only the [U.S.] had adopted … more restrictive regulations [and] more aggressive regulators…. This conclusion … ignores the global nature of the crisis. For example:

• A credit bubble appeared in both the United States and Europe.

Search for Common Factors

• These facts tell us that our explanation for the credit bubble should focus on factors common to both the United States and Europe, that the credit bubble is likely an essential cause of the U.S. housing bubble, and that U.S. housing policy is by itself an insufficient explanation of the crisis. [FCIC Dissent]

Bad Loans are Best“Accounting abuses also provided the

ultimate perverse incentive: it paid to seek out bad loans because only those who had no intention of repaying would be willing to offer the high loan fees and interest required for the best looting. It was rational for operators to drive their institutions ever deeper into insolvency as they looted them.”

(Pierce 1994)

Trivial Loss Reserves

Reserves must track risk: GAAP

Bank risk was skyrocketing

A.M.Best (2/06; 3/07): “new record lows for the last four years.” Matches low in 1985: last disaster

Reserve ratio (2005): 1.21% of loans

Losses on foreclosed nonprime loans are running >50% for S&Ls

Mortgage fraud = accounting fraud

Conscious Adverse Selection

Optimizes accounting fraud & bonuses

“Stated income and reduced documentation loans speed up the approval process, but they are open invitations to fraudsters.” (MARI 2006).

“Liar’s loan” was a Hint

When the stated incomes were compared to the IRS figures: [90%] of the stated incomes were exaggerated by 5% or more. [A]lmost 60% were exaggerated by more than 50%. [T]he stated income loan deserves the nickname used by many in the industry, the “liar’s loan” (MARI 2006).

Appraiser Coercion = Fraud

Deliberately created Gresham’s dynamic

National study(early 2004): 75% coerced

Cuomo 2007 investigation: nationwide

2007 study: 90% coerced

Honest appraisers lose: 68 percent reported losing a client and 45 percent didn't get paid for their work when they resisted coercion

Demos warned of disaster in 2005

“Disconcerting Results”

The result of the [Fitch loan file] analysis was disconcerting…as there was the appearance of fraud or misrepresentation in almost every file.

the files indicated that fraud was not only present, but, in most cases, could have been identified with adequate underwriting …prior to the loan funding. [Fitch 11.07]

Gresham’s Grim Dynamic

“[I]t was a slippery slope. What happened in '04 and '05 with respect to subordinated tranches is … our competition, Fitch and S&P, went nuts. Everything was investment grade. We lost 50% of our coverage [business share]….”

[Moody’s 2007]