Some Columns By Carole Scott Published In The Carroll Star News In 2008

 

 

Real Estate Crisis Was Inevitable

 

By Carole Scott

 

That we were enmeshed in a huge real estate bubble was no secret before it burst. Since bubbles, whether the asset involved is stocks or real estate or whatever, must burst, it was only a matter of time before the housing market came crashing down. The greater the dollar value of the crash, the greater will be the direct and “collateral” damage to the economy.

 

As the Economist magazine pointed out back in June 2005, the real estate bubble whose bursting we are now suffering from was exceptional because “never had house prices risen so fast, for so long, in so many countries.” Pointed out was that the rapid rise of house prices had helped to prop up the world’s economy after the stock market bubble burst in 2000.

 

The Economist estimated that although the stock market bubble was larger than the one in this country in 1929 whose bursting preceded the Great Depression of the 1930s, it was significantly smaller than the real estate bubble.

 

The Economist estimated that the total value of residential property in the world’s developed economies had over the previous five years increased by 100 percent of these countries’ combined Gross Domestic Product!

 

Bubbles must collapse for the same reason Ponzi schemes do. In such a scheme, investors are promised an exceptional rate of return on their money. For awhile they get it, but the money they receive isn’t money earned on whatever it is that they are told their money is being invested in. Instead, what happens is that earlier investors are paid out of the money new suckers invest. For the scheme to continue, ever more investors must be recruited, but the number of potential investors is finite; so this cannot take place indefinitely.

 

People buying ocean-side condos to flip (sell) works and subsequently fails to work for the same reason Ponzi schemes do. When it works, the first buyers of condos to flip sell many of them to people who plan to flip them who, in turn, sell many of them to people expecting to flip them, and so on.

 

The increase in demand caused by people buying condos, not just to live in, but to flip, causes condos’ prices to rise. So early buyers make money, which attracts even more people to build and others to buy condos to flip. For this to continue, the number of buyers and what they are willing to pay must continually increase.

 

Bubbles are propelled by what is called financial leverage—the use of borrowed money.

 

To demonstrate the favorable and unfavorable effects of financial leverage, assume that you put up $1,000 of your own money and borrow an additional $1,000 at 5 percent and invest it in something providing a 10 percent rate of return. The rate of return on your $1,000 would be 15 percent: $100 earned on your $1,000 plus the $50 ($100 earnings minus $50 of interest) earned on the borrowed money divided by $1,000.

 

Your rate of return would be even higher if you borrowed more than half the $2,000. The larger is the percent of the money borrowed, the higher your rate of return would be.

 

If you had only invested your $1,000 at 10 percent, rather than borrowing an additional $1,000 at 5 percent and investing $2,000, you would just earn 10 percent on your $1,000.

 

As I used to point out to my students, financial leverage works on the down side just as dramatically as on the up side. If, for example, the rate of return on whatever your $1,000 and the borrowed $1,000 is invested in should decline to zero, your rate of return would be a negative 5 percent because you would nothing on your investment, but the borrowed $1,000 would cost you $50.

 

If you purchased a house for $200,000, borrowing half the money at 5 percent and selling it for $220,000 (a 10 percent gain), you would earn a 15 percent return on your $100,000.

 

If, on the other hand, all you could sell it for is the $200,000 you paid for it, your rate of rate of return would be a negative 5 percent (the $5,000 cost of interest on the borrowed money divided by $100,000).

 

If you had borrowed more than half the money used to purchase the house, your loss would be greater. In recent years people were able to purchase houses with nearly all or all the money being borrowed.

 

If you bought a house for $200,000 using only your own money, but subsequently could sell it for only $100,000, you would suffer a 50 percent loss ($100,000 divided by $200,000). If, however, you put up only $100,000, borrowing an additional $100,000 at 5 percent, you would lose your entire $100,000 and would also be out the $5,000 in interest owed the lender. So, your loss would be better than 100 percent!

 

Japan is still trying to recover from the bursting of a real estate bubble in 1990. There neither huge expenditures on public works like those proposed for the United States by Barack Obama and their central bank--like our Federal Reserve System today--depressing interest rates to an extremely low level brought about recovery.

 

In the United States in the 1930s, this kind of government spending and very low interest rates did not bring about recovery. Democrat Franklin D. Roosevelt became president in 1932. The country was still in depression when he was reelected in 1936. Often ignored is that in 1937 the economy collapsed again. Only the fact that this took place within a depression kept this from being labeled a depression.

 

The relative size of government, business, and consumer debt in the 1920s was vastly less than it has been in recent decades.

by Carole Scott

 

While I realize that Wall Street provides vital financial services to our economy, a lot of harmful things have always gone on there.

 

President John F. Kennedy's father, Joseph P. Kennedy, Sr., is a good source of examples of this. He and some friends bought the stock of non-functioning corporations for next to nothing and then sold it back and forth between themselves at ever higher prices. The dramatic rise in the prices of these stocks caused suckers to buy the stock from Kennedy and his pals for many times what they paid for it.

 

When Franklin D. Roosevelt was asked why he made Kennedy the first chairman of the then new Securities and Exchange Commission, he is said to have responded that it takes a crook to catch a crook.

 

Congressmen, too, are not paragons of virtue. For decades Congress has behaved like it wanted to destroy our financial system. So, let me introduce two imaginary Congressmen, Joe and Moe, who want to destroy it. Their imaginary conversation would have taken place many years ago.

 

Joe: You know, Norman Thomas was right when he said that "The American people will never knowingly adopt socialism, but under the name of liberalism, they will adopt every fragment of the socialist program until one day America will be a socialist nation without ever knowing how it happened."

 

Moe: Believing that, why in the world did he run for president over and over again as the candidate of the Socialist Party?

 

Joe: Good question! Thomas was also stupid not to realize that government ownership of business enterprises isn't necessary to exercise a lot of control over what they do. This can be accomplished by Congress passing the right laws and government agencies enforcing the right regulations.

 

Moe: It is better if the government steers clear of deciding things like how many diapers are produced and what is asked for them.

 

Joe: But we will make sure that what they are made of is environmentally friendly.

 

Moe: Thomas also failed to realize is that because extremely few businesses—and no very large ones—can long survive if financial institutions will not lend them money, if the government decides who gets loans, it would have enormous control over the nation’s businesses. I have a plan for bringing this about while simultaneously discrediting capitalism.

 

The key players in my plan are Fannie Mae and Freddie Mac. These mortgage-buying agencies were created by the federal government to induce private lenders to make more and longer-term mortgage loans by buying from them ones they make.

 

We will convert Fannie Mae and Freddie Mac into privately-owned companies; so if they get into trouble, private enterprise will get the blame. So that they can borrow a lot of money to buy mortgage loans with, we will make them government sponsored enterprises so that their debt has an implicit government guarantee.

 

Hopefully, the Federal Reserve System, a supposedly independent federal agency, will lend us a hand in bringing about a financial crisis by keeping interest rates below the level they would reach in a free market.

 

We and our allies in the press will convince the public that banks are refusing to give mortgage loans to people who could repay them simply because they are black. We will call this redlining.

 

Public outrage over this will enable us to pass a Community Reinvestment Act (CRA) that will require banks, if they want the government’s permission  to merge with or acquire another bank, build a new branch, or enter a new line of business to make an undefined "enough" loans in redlined areas.

 

Because the average income and wealth of blacks is below that of whites, this will mean that the lending standards Fannie Mae and Freddie Mac require be followed by banks that want to sell mortgage loans to them must be lowered. 

 

We will give government money to community organizations like ACORN to help enforce the act. We can count on these left-wing groups to claim that a bank that wants to in some way expand its business is not making enough loans to low and middle income people. To get them off their backs, I think we can count on some bankers to also give these groups money.

 

By expanding the objective of the CFA to helping low and middle income people in general, more support for it will be generated. We will pass a law requiring that Fannie Mae and Freddie Mac devote a large percentage of their mortgage buying activities to meeting affordable  housing goals.

 

People in the financial services and construction industries will be raking in a lot of money, so they will support us. If anybody in Congress who sees that we are headed for disaster and tries to get a bill passed that would rein Fannie and Freddie in, their extraordinarily well compensated executives will make contributions to some of us to make sure we kill the bill.

  

If anybody tries to shift the blame for the eventual, resulting collapse of the mortgage market to the CFA, we will point out that many mortgage loans are made by independent mortgage brokers, rather than banks. Because most people do not know what a broker is--just a middleman--they will not realize that, while they arrange mortgage loans, they do not finance them. Banks that are subject to CRA do.

 

To save the economy from the effects of the collapse of the mortgage market, we will, through loans and the purchase of their stock, enormously increase our control over banks and other financial institutions. If any of them try to turn down the money we offer, we will tell them they have no choice but to take it.

 

Joe: [Excitedly] We will blame the crisis on financial deregulation. We will, of course, avoid specifying exactly what aspect of deregulation gave greedy bankers the power to lower lending standards that they did not have before.

 

Your plan makes me think of putting a frog in cold water and then gradually heating it.

 

Note to readers: The events included in this imaginary conversation actually took place.

 

Sarah Palin Is the Victim of a Double Standard

 

 

By Carole Scott

 

Many decades ago, I got interested in sunspots as a result of my interest in economic history. A pioneer in applying mathematical techniques to economics, English economist William Stanley Jevons (1835-1882) concluded after examining a lot of economic and meteorological data that there was a connection between the timing of commercial crises and the sunspot-caused solar cycle.

 

Sunspots are a region on the Sun’s surface marked by intense magnetic activity. Because they are visible without the aid of a telescope, their number has been reported on for many hundreds of years. They have been monitored since 1610 with telescopes.

 

Jevons speculated that variations in the number of sunspots affect Earth’s weather and, therefore, the size of crop harvests and, as a result, the prices of the crops, which affect the economy as a whole.

 

Although agriculture is relatively less important today than before and during Jevon’s day, and it benefits from modern technology, recent studies of data from England in the 17^th century and from the United States in the 20^th century reveal a relationship between the price of wheat and the level of sunspot activity.

 

When astronomers looked back through sunspot records, they discovered that the level of sunspot activity varied significantly and that, in general, their level was correlated with warm and cool climatic periods. During what is called the Little Ice Age and the cold Iron age there was a weak sun—little sunspot activity. On the other hand, the warm Bronze Age took place during an active period.

 

So, when I started reading claims that humans are heating up the planet with their energy using activities, and that, as a result, we face potential disaster unless we take drastic steps that could produce an economic collapse, I did some research and learned that there is wide agreement that throughout most of the 20^th century the Sun’s activity was likely to have been at its highest level for more than 8,000 years. A paper recently published by a solar scientist claimed that over the past 1,150 years the sun has never been as active as it has been during the past 60 years.

 

I also learned that near the end of the 20^th century the Sun’s activity began to decline, and that in August 2008 reputable observers reported either a half-sunspot or no sunspots. The former had not happened in fifty years, and the latter hadn’t happened in a hundred. 

 

My research led me to conclude that in a few years it was likely that the Earth would begin to get colder. (I am aware of the fact that many physical scientists consider people like me to be ill-informed, dangerous fools probably being paid by an oil company. The latter is certainly not true.)

 

Like the planet Mars’ polar ice caps, currently the glaciers in Alaska are growing, and for about the past year record cold and snow have been reported both above and below the Equator.

 

The University of Illinois’ Arctic Climate Research Center recently reported that satellite observations of the polar regions in the Northern and Southern hemisphere reveal that thanks to a rapid rebound in recent months, global sea ice levels now equal a level last seen 29 years ago.

 

Earlier this year proponents of impending doom through human-caused warming of the Earth were predicting that all the ice at the North Pole might melt in 2008. This forecast reminds me of the one they made a few years ago about how, due to global warming, during the next year we would have far more and more powerful hurricanes. No hurricanes hit the United States that year.

 

In order to reduce the greenhouse gas emissions global warming is blamed on, the Environmental Protection Agency (EPA) in its Advance Notice of Proposed Rulemaking recently recommended that a tax be levied on greenhouse-gas-emitting livestock.

 

Barack Obama has picked as his top science adviser a staunch believer in the dangers of man-caused global warming who advised Al Gore on his documentary, "An Inconvenient Truth".

 

A writer for the United Kingdom’s Times newspaper recently wrote that “British consumers are already paying about 60 pounds extra each year on their gas and electricity bills to support renewable energy. Will they take more of this medicine in the middle of the worst recession in decades? Nervous politicians remember the backlash in 2000 when angry lorry [truck] drivers almost brought the country to a standstill over the fuel accelerator tax.”

 

Reported, too, in this newspaper is that a number of people in the U.K. have become millionaires as a result of their employment in transferring money paid by carbon-dioxide-emitting U.K. industries to such uses as paying farmers in poor countries to plant carbon-dioxide-absorbing trees. Global-warming-related business activities of Al Gore have also raked in millions for him.