Bill Black: Pre-Crisis “4506-T Studies” Showed Massive Fraud in Liar’s Loans; Fed Ignored Warning, DoJ Refused to Target Implicated Banksters

Yves here. With the tsunami of “ten years after the crisis” stories that are already starting to hit the beach, I am endeavoring to focus on ones that contain new or significantly under-reported information or give particularly insightful overviews. Here Black gives a telling example of both how the authorities were warned of massive mortgage fraud and ignored it, and then later failed to use the same evidence to pursue the perps.

By Bill Black, the author of The Best Way to Rob a Bank is to Own One, an associate professor of economics and law at the University of Missouri-Kansas City, and co-founder of Bank Whistleblowers United. Jointly published with 

Steven Krystofiak formed the Mortgage Brokers Association for Responsible Lending, a professional association dedicated to fighting mortgage fraud and predation.  On August 1, 2006.  He tried to save our Nation by issuing one of the most prescient warnings about the epidemic of mortgage fraud and predation and the crisis it would so cause.

The context was Congress’ effort to empower and convince the Federal Reserve to take action against what the mortgage lending industry called, behind closed doors, “liar’s” loans.  A liar’s loan is a loan in which the lender does not verify (at least) the borrower’s actual income.  The industry knew that the failure to verify inherently led to endemic fraud.  George Akerlof and Paul Romer’s 1993 article on “Looting” by financial CEOs explicitly cited the failure to verify the borrower’s income as an example of a lending practice that only fraudulent lenders would use on a widespread basis.

Congress gave the Fed the unique authority to ban all liar’s loans in 1994, by passing the Home Ownership and Equity Protection Act (HOEPA).  HOEPA gave the Fed the authority to ban liar’s loans even by “shadow” sector financial firms that had no federal deposit insurance.

Liar’s loans began to become material around 1989 during the savings and loan debacle where all good U.S. financial frauds are born – Orange County, California.  In that era, they were called “low documentation” (‘low doc’) loans.  We (the West Region of the Office of Thrift Supervision (OTS), were the federal regulator for these S&Ls, and we were overwhelmed dealing with the “control frauds” driving the debacle, who overwhelmingly used commercial real estate (CRE) as their accounting “weapon” of choice.  Our examiners, however, made two critical points.  No honest lender would make widespread loans without verifying the borrower’s income because it was certain to produce severe “adverse selection” and produce serious losses.  The examiners’ second warning was that such loans were growing rapidly in Orange County and multiple lenders were involved.

We listened and responded well to our examiners’ timely and sound warnings and made it a moderate priority to drive liar’s loans out of the industry we regulated.  The last of the major fraudulent S&L liar’s loan lenders was Long Beach Savings.  Long Beach set a common pattern for fraudulent lenders by also engaging in predation primarily against Latinos and blacks.  In 1994, the same year HOEPA became law; Long Beach voluntarily gave up federal deposit insurance and its charger as a savings and loan.  Long Beach’s controlling owner, Roland Arnall, did this for the sole purpose of escaping our regulatory jurisdiction and our ability to examine, sue, and sanction the S&L and its officers.  Arnall changed its name to Ameriquest, and converted it to a mortgage bank.  Mortgage banks were essentially unregulated.  Arnall successfully sought sanctuary in what we now call the “shadow” financial sector.  The S&L debacle did not end.  It found sanctuary in the Shadow and grew 50% annually for 13 years.

Ameriquest and its leading mortgage bank competitor, run by former S&L officers we (OTS) had “removed and prohibited” from working in any federally insured lender, became the leading “vectors” spreading the epidemic of fraudulent liar’s loans through (initially) the shadow sector and later back into federally insured lenders.  Many of Arnall’s lieutenants eventually left Ameriquest to lead other fraudulent and predatory lenders making predatory liar’s loans.  Michael W. Hudson’s book, The Monster, is a great read that presents this history.  Ameriquest and its fraudulent and predatory peers grew at extraordinary rates for over a decade.  They hyper-inflated the bubble and drove the financial crisis.

Alan Greenspan and Ben Bernake refused to use HOEPA to stop this surging epidemic of fraudulent and predatory liar’s loans.  This was the setting when Krystofiak, on his own dime and initiative took advantage of a Fed hearing on predatory lending near his home to warn us all of the coming disaster.  Krystofiak was not the first warning.  His cited the appraisers’ and the FBI’s prior warnings.  The appraisers’ 2000 petition explaining how lenders and their agents were extorting appraisers to inflate appraisals was superb.  Chris Swecker’s 2004 warning on behalf of the FBI that the developing “epidemic” of mortgage fraud would cause a financial “crisis” if not stopped was superb.

Krystofiak was also superb.  The Fed did not want to conduct hearings on fraudulent and predatory liar’s loans – Congress forced it to do so.  The Fed’s Board members were not interested in stopping fraudulent and predatory liar’s loans.  The Fed did not invite Krystofiak to testify.  The Fed offered only a brief “cattle call” at the end of the hearing allowing (after a top Fed official had left to fly back to DC) the public to make a very brief statement.

The Fed’s treatment of Krysofiak stood in sharp contrast to its fawning treatment of the Mortgage Bankers Associations’ chosen witness.  The MBA chose the leading originator of fraudulent liar’s loans in California – IndyMac – to present the MBA’s position.  The MBA’s position was that the Fed should not use its HOEPA authority to ban fraudulent and predatory liar’s loans.  The Fed officials cracked jokes with and treated the IndyMac officer like an old pal.  They treated Krytofiak with cold indifference.  The MBA witness presented utter BS.  spoke truth to power.  Power loved the BS.  The truth discomfited the Fed officials.

Krytofiak’s written testimony made many vital points, but I refer to only two related points here.  First, he warned the Fed that the twin mortgage fraud origination epidemics – appraisal fraud and liar’s loans – were so large that they were inflating the housing bubble.  Second, his means of quantifying the incidence of liar’s loan fraud showed the regulators and the prosecutors that they could use the same method to document reliably, cheaply, and quickly the incidence of liar’s loan fraud at every relevant financial firm.

Data Collected by the Mortgage Brokers Association for Responsible Lending

  1. A recent sample of 100 stated income loans which were compared to IRS records (which is allowed through IRS forms 4506, but hardly done) found that 90 % of the income was exaggerated by 5 % or more. MORE DISTURBINGLY, ALMOST 60 % OF THE STATED AMOUNTS WERE EXAGGERATED BY MORE THAN 50%. These results suggest that the stated income loans deserves the nickname used by many in the industry, the “liar’s loan” (emphasis in original).

The MBA’s anti-fraud experts, MARI, appears to have conducted the study for Krystofiak.  They featured the 4506-T (the “T” stands for “transcript”) study and its finding of a 90% fraud incidence in liar’s loans.  In 2006, MARI presented its fraud study at the MBA’s annual meeting.  The MBA sent MARI’s report to every member, which included all the major mortgage players.

Any honest originator, purchaser, or packager of liar’s loans was on notice no later than mid-2006 that they could determine quickly, cheaply, and reliably the fraud incidence in those liar’s loans by using the 4506-T forms to test a sample of those loans.  Krystofiak aptly noted that while lenders typically required borrowers to sign the IRS 4506-T form allowing the lender to access their tax information, it was actually “hardly done.” Lenders supposedly require the 4506-T because taxpayers have an obvious interest in not inflating their income to the IRS.  The self-employed have to report their income accurately or face potential tax fraud sanctions.

The reason liar’s loan mortgage lenders, purchasers, the packagers of toxic collateralized debt obligations (CDOs ) that typically were composed of large amounts of liar’s loans, and credit rating agencies, “hardly [ever] used” or required the sellers to use their 4506-T authority is also clear if you understand “accounting control fraud.”  Any 4506-T study of liar’s loans will document their pervasive frauds.  Virtually all liar’s loan and CDO sales required “reps and warranties” that they were not fraudulent.  If a firm making or selling liar’s loans conducted a 4506-T study and documented that it knew its reps and warranties were false, and it continued t make, sell, package, or rate those fraudulent loans under false reps and warranties it would be handling its counterparty a dream civil fraud suit.  They would be handing DOJ the ability to prosecute them successfully for felonies that caused hundreds of billions of dollars in losses.  The fraudulent mortgage money machine relied on the major players following a financial “don’t ask; don’t tell” policy.

The exceptions prove the rule.  I have found public evidence of only two cases in which mortgage players (other than Krystofiak) conducted 4506-T audits of liar’s loans.  I have never found public evidence that any federal regulator or prosecutor conducted or mandated a 4506-T study.  The two known cases of 4506-T audits were Wells Fargo (just disclosed by DOJ) and Countrywide (disclosed by the SEC investigation and complaint).  Both audits found massive fraud incidence in the liar’s loans.  The risk officers presented these audit results to the banks’ senior managers.

Bank Whistleblowers United’s 4506-T Proposal

Two and-a-half years ago, Bank Whistleblowers United (BWU) discussed the senior officers of Countrywide’s response to its 4506-T audit.  We noted that BWU co-founder Michael Winston blew the whistle on Countrywide’s frauds to the bank’s most senior officers to try to prevent these frauds.  Mr. Winston eagerly aided potential prosecutors – who failed to prosecute Countrywide’s senior officers leading the frauds.  BWU then explained the analogous response of Citigroup’s senior officers to a different but equally reliable audit conducted by BWU co-founder Richard Bowen.  We did so in a January 30, 2016 New Economic Perspectivesurging presidential candidates in the 2016 election to pledge to implement the 60-day BWU plan to restore the rule of law to Wall Street.

As documented in the SEC complaint, Countrywide’s managers conducted a secret internal study of Countrywide’s liar’s loans that, on June 2, 2006, confirmed Krystofiak’s findings of endemic fraud in liar’s loans.  Fraud was the norm in Countrywide’s liar’s loans, a fact that it failed to disclose to its stockholders and secondary market purchasers.  Instead of stopping such loans, Countrywide’s senior officers caused it to adopt what they termed “Extreme Alt-A” loans offered by Bear and Lehman that “layered” this fraud risk on top of a half dozen additional massive risks to create what Countrywide’s controlling officer described as loans that were “toxic” and  “inherently unsound.”  “Alt-A” was the euphemism for liar’s loans.  Countrywide made massive amounts of “Extreme Alt-A” and acted as a vector spreading these “toxic” loans throughout the financial system.  A member of our group, Dr. Michael Winston, tried to stop these kinds of abuses, which enriched top management but bankrupted Countrywide.

Similarly, a member of our group, Richard Bowen and his team of expert underwriters, documented that Citigroup knew that it was purchasing tens of billions of dollars of loans annually on the basis of fraudulent “reps and warranties” – and then reselling them to Fannie and Freddie on the basis of fraudulent reps and warranties.  Bowen put the highest levels of Citigroup (including Bob Rubin) on personal notice in writing as the incidence of fraud climbed from 40% to 60%.  (It eventually reached an astonishing 80% fraud incidence.)  Citigroup’s leadership’s response was to remove his staff.  Senior Citigroup officers also responded to the surging fraud by causing Citigroup to become a major purchaser of fraudulently originated liar’s loans.

We can now add the senior leaders that determined Wells Fargo’s response to its 4506-T audit.   We draw on the Department of Justice (DOJ) disclosures in conjunction with its indefensible settlement of civil fraud claims against Wells Fargo’s massive mortgage fraud.  The press release revealed that “in 2005, Wells Fargo began an initiative to double its production of subprime and Alt-A loans.”  DOJ did not explain that this was after the FBI warned there was an emerging “epidemic” of mortgage “fraud” that would cause a financial “crisis” if it were not stopped.   The settlement discloses that Wells’ risk officers alerted senior managers that the plan to increase greatly the number of liar’s loans would greatly increase fraud in 2005 before Wells implemented the plan.

The press release had other bombshells (unintentionally) demonstrating the strength of the criminal cases that DOJ refused to bring against Wells’ senior officers.  Wells Fargo’s 4506-T audit found that its liar’s loans were endemically fraudulent, and the amount of inflated income was extraordinary.

The results of Wells Fargo’s 4506-T testing were disclosed in internal monthly reports, which were widely distributed among Wells Fargo employees. One Wells Fargo employee in risk management observed that the “4506-T results are astounding” yet “instead of reacting in a way consistent with what is being reported WF [Wells Fargo] is expanding stated [income loan] programs in all business lines.”

The press release note some other actions by Wells’ senior managers that show what prosecutors term “consciousness of guilt.”  Such actions make (real) prosecutors salivate.  The press release’s final substantive revelation is the unbelievable rate of loan defaults on Wells Fargo’s fraudulent loans and the exceptional damages those loans and sales caused.

Wells Fargo sold at least 73,539 stated income loans that were included in RMBS between 2005 to 2007, and nearly half of those loans have defaulted, resulting in billions of dollars in losses to investors.

Typical default rates on conventional mortgages averaged, for decades, around 1.5 percent.  The Wells Fargo liar’s loans defaulted at a rate 30 times greater.

How Corrupt is Wells? Cheating Customers is “Courageous”

The press release does not contain the Wells Fargo gem that proves our family rule that it is impossible to compete with unintentional self-parody.  Paragraph H of the settlement reveals that Wells’ term for doubling its number of fraudulent liar’s loans in 2005 was “Courageous Underwriting.”  Wells’ senior managers changed its compensation system to induce its employees to approve even worse loans.  Calling defrauding your customers “courageous” epitomizes Wells Fargo’s corrupt culture built on lies and lies about lies.

DOJ’s pathetic settlement with Wells Fargo has no admissions by the bank.  It does not require a penny in damages from any bank officer.  It does not require a bank officer to return a penny of bonuses received through these fraudulent loans.  The settlement contains DOJ’s statement that its investigation found that Wells’ violated four federal criminalstatutes.  DOJ will continue to grant de facto immunity from prosecution to elite banksters.  The Trump administration has again flunked a major test dealing with the swamp banksters.

Section H (b) of the settlement is factually inaccurate in a manner that makes it highly favorable to fraudulent lenders making liar’s loans.  There is no indication that DOJ ever investigated Wells’ fraudulent loan origination practices.  It was overwhelmingly lenders and their loan brokers that put the lies in liar’s loans.  DOJ’s settlement documents do not refer to Wells whistleblowers, even though and competent investigation would have identified dozens of whistleblowers. Throughout its Wells documents, DOJ implies that borrowers overstated their income rather than Wells and its loan brokers.

The Jig is Up on DOJ’s Pathetic Excuses for Refusing to Jail Elite Bank Frauds

We now know with certainty from the whistleblowers and the internal audits that the response of Citigroup, Countrywide, and Wells Fargo’s senior leaders to knowing that most of their liar’s loans and the reps and warranties they made about those loans were fraudulent.  We know with certainty that Michael Winston and Richard Bowen’s disclosures were correct.  We know with certainty that each served up to DOJ on a platinum platter dream cases for prosecuting Citigroup and Countrywide’s top managers.   The senior managers’ response to proof that their banks were engaged in endemic fraud makes sense only if the senior managers were leading an “accounting control fraud,” which enriches the managers by harming the lender.

When the appraisers’ warned of extensive extortion by lenders and their agents to inflate appraisals, when the FBI warned that mortgage fraud was becoming “epidemic” and would cause a financial “crisis” if not halted, and when the MBA publicized Krystofiak and MARI’s warnings that liar’s loans were endemically fraudulent, the fraudulent CEOs’ response was always the same.  In each case, they expanded what they knew were endemically fraudulent liar’s loans and increased the extortion of appraisers.

Back to BWU’s 4506-T Proposal

This brings us back to reminding the public what BWU proposed 32 months ago about 4506-T audits.  Point 17 of our 60-day plan began:

Within 60 days, each federal financial regulatory agency directs any bank that it regulates to conduct and publicly report a “Krystofiak” study on a sample of “liar’s” loans that they continue to hold. Krystofiak … devised a clever study that he presented to the Federal Reserve in an unsuccessful attempt to try to get the Fed to stop the epidemic of fraudulent liar’s loans.  Lenders and secondary market purchasers routinely required borrowers to authorize the lender and any subsequent purchaser of the loan to obtain a “transcript” (4506-T) of the borrower’s tax returns from the IRS to allow the lender to quickly and inexpensively verify the borrower’s reported income.

Other parts of our 60-day plan called for DOJ appointees with the courage, integrity, and skills to restore the rule of law to Wall Street.  We also explained the needs (and means) for the banking regulators to conduct the investigations (such as 4506-T audits), activate a legion of whistleblowers, and make the criminal referrals to DOJ essential to bring successful prosecutions.

Conclusion

Had the regulators (particularly the Fed through its HOEPA power) required each bank making liar’s loans to conduct a 4506-T audit, the senior managers would have faced a dilemma.  They could stop the fraudulent lending or provide DOJ with a great opportunity to prosecute them.  The bank CEOs’ response to the internal audits showing endemic fraud and the retaliation against the whistleblowers combine to offer superb proof of senior managers’ ‘specific intent’ to defraud.  The reasons for the failure to prosecute were some combination of cowardice and politics.  If Democrats win control of the House they can use their investigative powers to force each bank regulator to cause every relevant financial institution to conduct a 4506-T audit.

Of course, the Republican Senate and House chairs could order those steps today. We are not holding our breath, but BWU’s co-founders are eager to aid either, or both, parties restore the rule of law to Wall Street.  Instead, we are rapidly creating an intensely criminogenic environment on Wall Street that will eventually cause a severe financial crisis.

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44 comments

  1. Hayek's Heelbiter

    Did John Stumpf (President of Wells Fargo 2007-2016) really say, “If one family loses their home, it is a tragedy. If ten million people lose their homes, it is a statistic?”

  2. Tinky

    Even by Black’s lofty standards, this is an outstanding article. The fact that it won’t be published in the mainstream media, and that the vast majority of regulators and politicians will ignore it, underscores once again just how broken and corrupted the American political and economic systems are.

    1. Colonel Smithers

      Thank you, Tinky.

      It’s the same in the UK with regard to mortgage fraud and reporting.

      A colleague, brought in from the regulator to clean up our German basket case TBTF’s brief and late in the day foray into the mortgage market, said the UK mortgage market was as corrupt / fraudulent. The same US firms were involved in many, if not most, cases. Lehman had an outpost, Ascendant, in my home county, Buckinghamshire, for such activity. Lehman, Merrill and Citi carved out the UK on geographical lines. One (US) firm was given the name of the Germanic tribe that settled in the area 1500 years before.

    2. readerOfTeaLeaves

      Agree about the excellence of this post.

      FWIW, the kinds of government errors, cowardice, and confusions that Black relates – on top of having taxpayers foot the bill for it all – was a key factor IMVHO in people voting Trump as a kind of protest vote. He talks about ‘fake news’ to a huge number of Americans who faked income, or approved fake income.

      The rest of us, I assume, continue to seethe and are supporting ‘honest money, fair wages/salary’ candidates like Warren and Sanders.

      1. JTMcPhee

        From what I see, Warren is nothing of the sort. Even the campaign-massaged Wiki entry on Warren’s policy positions does not show much of a “progressive” bent:

        “Anyone but Trump, really especially cool if it’s a ‘she,’ eh? It’s time for a female President, who will right all wrongs erm…”

  3. Tom Stone

    In early 2005 I was working as a loan Broker when I met the World Savings rep or the first time.
    The first words out of his mouth were a warning not to take more than 3 pints on the back end because it was greedy, the second sentence was “If there’s a problem with the income the underwriter will drop the file on my desk, I’ll call you and we’ll fix it”.
    He’s still in the business, a few rungs further up the corporate ladder, I got out of the business the following week.

  4. Peter Pan

    If Democrats win control of the House they can use their investigative powers to force each bank regulator to cause every relevant financial institution to conduct a 4506-T audit.

    The establishment democrats that receive donor dollars from Wall Street banks? I wouldn’t hold my breath waiting for them to even investigate much less do anything else to stop this criminal activity.

    Otherwise another excellent post by Bill Black.

    1. Tomonthebeach

      Also, is there a statute of limitations on this fraud? If so, both parties might just be running out the clock.

  5. Bewildered

    Fabulous piece as usual from Mr. Black. Just makes the tenure of the previous administration all the more complicit in the current state of affairs. As Mr. Black details there was an obvious solution to uncover the fraud and go after senior execs, something that also could have also been done when the ‘democrat’ party held the House and at least a leverage position in the Senate. What the American public received instead was a giant con job/cover-up advertised as restitution and Obama goes on national TV to pathetically claim that grossly fraudulent behavior was simply unethical. Obviously that maneuver had a higher ROI for post-tenure legacy building and fundraising.

  6. georgieboy

    Wells Fargo — doing it the Warren Buffet way! For that matter, Goldman Sachs — doing it the Warren Buffet way!

    Superb summary by Mr. Black, thanks Yves.

  7. Bottom Gun

    There is really a simple solution: fire everyone at DOJ and replace them with Air Force officers.

    An Air Force officer is brave. He will fly through enemy fire if he has to in order to do his job. He gives no thought to the Taliban career opportunities that he might be forgoing by bombing them.

    An Air Force officer is competent. He can fly through thunderstorms in the dead of night and get his bombs when and where the forward air controller down with the infantry needs them. Compare that to the experience of an honest IG official trying to get an indictment from DOJ for anyone at a mega-bank.

    An Air Force officer knows how to get funding for his priorities. The Air Force annual budget, at $156 billion, is about 5 times that of DOJ. Enough said.

    When you know these facts, the solution is obvious.

    1. Kevbot5000

      Go read The Pentagon Wars or Coram’s Boyd. Air Force (or other service) officers have no particular claim to virtue. If you pulled mostly captains maybe it’d work, but the bravery and competence needed on the front line is vastly different from that needed from say a Colonel or General running programs/units which is likely the officers you’d be bringing in. Remember you’re advocating bringing in people responsible for the boondoggle that is the F35 to shape up an organization. (which is not an isolated instance but emblematic of the upper tiers of the service)

      1. Bottom Gun

        Thanks for the referrals; let me take a look. (I have read Thomas Ricks’ The Generals, which I suspect makes a similar point to those.) The point is acknowledged, although I have not only read The Chickenshit Club but lived through it. There were many DOJ people I had to deal with whom I can only describe using Bundy’s pungent phrase for the South Vietnamese political leadership: “the absolute bottom of the barrel.” They contrasted starkly with the fellow junior officers I knew in my youth, but as you noted, those were junior officers.

    2. JTMcPhee

      Yah, the Air Farce and other competing-branch “joint force” officers know how to get funding for their priorities, all right. The flaccid DoJ even did some work to at least show the extent (in a pretty small sample, given reports that over $10 trillion in MMT dollars has “disappeared” over the years) of corruption in the military forces of the Empire: “Justice Department Investigation Sows Rampant Fraud, Corruption in US Military,”

      Yep, they seem to know how to “git ‘er done,” all right… I observed the same behavior in my brief stint, years ago, as an idiot volunteer in the Racket. E.g., the CO at Ft. Eustis, then seat of the Army’s Materiel Command, had his own personal Beechcraft King Air, I knew the crew chief. Plane was mostly used to fly him to professional golf events all over the country, and vacations to various spas in and out of the US. Now it would be a Gulfstream, I believe. Interior was pure h and wood paneling and a nice attractive WAC to serve his needs… In Vietnam, our line officers (helicopter pilots included) stole our Class A rations, traded them to the Air Force for cases of steaks and chickens flown in on military airlift command “supply flights’ so they could have barbecues every night and we could eat those wonderful C rations while working 18 hour days in 100 degree/100% humidity. I got lots of such episodes to relate, just from my little time in the =“service.”

      I don’t know where “we” can have a hope of finding actual decent dedicated civil servants to administer any of the regulatory functions that must be in place soon, if there’s a prayer of halting the crapification of everything. Most of my cohort of everybody-hates-on-Boomers at least was brought up with a modicum of exposure to notions of civics and rule of law and stuff. Some carried that on into decent lives of actual service, back when stuff like antitrust and bank regulation and environmental protection were at least sort of treated as public benefits rather than “terrible restraints on Jawb Creators (sic).” Don’t see much of that in school curricula these days, at any level, and education is largely now about gaining advantage.

  8. Susan the other

    The simplicity of the 4506-T audits is as profound as the physics comparison of the diversity of the economy to GDP. These things don’t work when all the chaos comes home to roost. In 1989 our economy was on the rocks and our corporations were offshoring as fast as they could; the USSR collapsed and we landed like a murder of crows to pick their bones and loot Russia. OPEC was naming their price; China was exporting massive deflation; our banks were already on the brink. But how to bring home all the loot from not just Russia but all the other illegal sources connected with our once and future imperialism? We were no longer a country of laws; we were looters, thieves and launderers. We were trying to salvage our “investments” or we were hoovering up flight capital or some other thing that had nothing to do with law and order and democracy. You name it. How else did all the banks, all of them, agree to forego their own standards and make all those conveyor belt loans? They prolly all had to become industrial laundromats and get rid of the stuff asap. Which was perhaps only one aspect to the ongoing collapse of “capitalism” as we once knew it – but were unable to protect it. I love Bill Black because he makes me come to uncomfortable explanations… who knows how it all fell apart? Somebody does.

    1. templar555510

      Superb comment Susan. I make know how ‘ it all fell apart ‘ other than recognising that the early capitalists worked with stuff that had to be produced, and so despite vile excesses produced something useful to many , whereas these financial capitalists produce nothing of value to anyone except themselves and take away something from everybody else ( liar’s loans being a key example ) . The question is , is there any here beyond here ? Clearly not with ANY of the present political incumbents ( I am in the UK it’s the same for you and us ) . So that in two sentences is my answer to your question . My question is ‘ how on earth do we get beyond here ?’

  9. Chauncey Gardiner

    Re Bill Black: …” Instead, we are rapidly creating an intensely criminogenic environment on Wall Street that will eventually cause a severe financial crisis.”

    By design and intent with no fear of criminal prosecution for fraud, imprisonment, or even surrender of ill-gotten personal financial gains. All brought to us courtesy of the political donor class and large corporations, those they have corrupted, and the Supreme Court’s Orwellian-named Citizens United decision and expanded executive branch powers that make it possible.

    Look at any set of issues: Failure to pass and implement policies to address climate change, endless wars, defunding public education and infrastructure, the opioid crisis, manipulation of financial markets, federal government austerity, transfers of public lands and resources into private hands, privatization of public services, healthcare, stagnant real wages, loss of any semblance of economic equality, debt burdens placed on our young people seeking economic opportunity or family formation, lack of legal separation of bank depository and payments system functions from their market speculations, failure to enforce corporate antitrust laws, erosion of privacy and civil liberties, repeated bubbles, concentration of media ownership in the hands of a few, secret international tax havens, etc. and what do you see?…

    1. crittermom

      Thanks, Tim. Comedy was exactly what I needed after Bill Black’s excellent article. (One of his best, IMHO)

      I saw George Carlin in person at a small theater in Denver long ago. He was great, & still cracks me up.

  10. shinola

    With the latest disclosures about WF stealing directly from their banking customers on top of their previous frauds, I’m just sure the regulators will come down hard on them this time (NOT!)

    I wonder if Mr. Trump, with his involvement in commercial RE, ever “mis-stated” his his income, assets and/or liabilities when obtaining a loan. Nah, couldn’t happen.

    1. Tomonthebeach

      I wonder why anybody still banks with WF. My late mom had about 30K in a WF account under a trust that I could not close out for 24 months (Florida laws – WF had a branch in their eldercare facility.) I was delighted that my closeout check did not bounce.

  11. Karma Fubar

    A while back I worked at a medical device startup operating within a formal (i.e. written and comprehensive) quality system. A quality system is required for any commercial sales of medical products; previously I had been involved in early stage R+D and had not been bound by such systems. So a lot of it was new to me.

    Something that stuck out at the time, and probably ties in to the article above, was the sanctity of corporate internal audit files. The FDA could demand access to almost any company quality system document, except for internal audit files. They could be provided with summaries of these internal audits indicating something like “6 minor deficiencies found, 1 major deficiency found, 0 extreme deficiencies found” , but were not permitted access to the raw internal audits.

    I suspect that financial firms have the same level of protection for their internal audits. Had they hired a consulting firm to investigate the accuracy of stated income in the loans they originated, the results of that outside investigation would probably be a document reviewable by government regulators (assuming they were interested in doing their job). But by pursuing this as an internal audit, executives knew that the results would never be reviewable, and give them plausible deniability that they knew of the systemic level of fraud.

    There certainly must be other ways of investigating efficiency or compliance within a company, but by pursuing it as an internal audit they could easily bury the results.

  12. Oregoncharles

    A quibble: comparing stated income to income tax forms may be misleading, although it is the standard. People have an interest in understating their income to the IRS, and in overstating it when seeking a loan. The logic is that they risk prosecution if they understate to the IRS, but there are plenty of situations where they’re very unlikely to get caught. It’s conceivable the loan application is more honest than the tax return.

  13. Enquiring Mind

    Loan officers I knew over the decades have changed their views. Asking them if they would lend their own money to the proposed borrower used to be more likely to elicit a Yes. When standards loosened (again) earlier this millennium, some answered No until realizing that they shouldn’t care since the money wasn’t theirs. What really mattered was getting that commission endorsed and deposited, given the rise of IBGYBG (I’ll be gone, you’ll be gone) thinking.

    Another question I asked was about tracking borrower performance relative to loan officer compensation. Relationship building and longer term interactions declined with the rise of neo-liberalish (the -ish suffix indicates a primitive reaction to immediate perceived incentives without further investigation) mindsets. Portfolio lenders had more at risk but still laid off some of that on the deposit insurance funds. Loan buyers did not fully appreciate that they had to trust everyone preceding them in the value (destruction) cycle, from brokers and investment bankers through ratings agencies.

    Internal audits, compliance functions and regulatory exams were often the only temporary inconveniences or obstacles to transactions and related income distribution.

  14. steelhead23

    If Democrats win control of the House they can use their investigative powers to force each bank regulator to cause every relevant financial institution to conduct a 4506-T audit.

    Let us, for a moment, imagine this happens. Then what? The results would show widespread fraud and a pathetic lack of adequate vetting by the issuer. Then those fraudulent loans were aggregated into various RMBS and sold to others. I hope you can see that just this disclosure is likely to cause a substantial hiccup in the financial system, perhaps another full-blown crisis. And who would the public blame? The criminals – or the cops? I could see Dems, even Dems with little or no connection to the Street, deciding not to open Pandora’s box.

    That is one of the problems with the American political system. From defense appropriations to banking regulation, the pols live in fear of being tarred for doing the right thing, if the outcome is temporarily bad or unpopular. Yes, it would obviously be best to cleanse the wound, but doing so would hurt, so the pols decide that it would be best for their popularity to let the wound fester until it becomes too big to ignore or financial Armageddon occurs. Isn’t that precisely the thinking of the Obama Administration?

  15. Murgatroy

    All major Wall St banks and brokerages including Wachovia, Wells, BofA and even Citadel and a few foreign banks (ABN Amro, Deutsche Bank, Credit Suisse, etc) set up an offshore sub called CDS Indexco. This was used as a defacto cartel to control the prices of both Sub-Prime CDO issues and their respective Credit Default Swaps. They created the Markit BBB- index which was used by Paulsen, Ackman and a few other chosen ones to short the MBS sub-prime market. This is the truth.. CDS Indexco dropped that name in Nov. 2008 when the accounting rules forced Marked to Market accounting and also the Consolidation of VIE’s (Special Purpose Financial Subs that got an exception to the Enron Rule). So in other words: if banks had been made to follow the “Enron Rule” the financial crisis wouldn’t have happened. Goldman’s own employee was the Chairman of CDS Indexco, I couldn’t make this shit up. And Yves knows it too. Gramm Leach Bliley made it all possible – so banks could hold both the debt and the equity of an entity that they took no responsibility for. This was the precise reason for Glass-Steagall… banks were manhandling the ownership of business due to inherent conflicts of interest between debt and equity holders.

    1. steelhead23

      My dear Murgatory, Wow. This is the first I have heard of CDS Indexco. You are suggesting that it was much more than a mere market clearinghouse. Where could I read more on this?

      1. perpetualWAR

        Google it. I just did.
        I. Am. Stunned.
        Just when I think the shiitake can’t get any deeper, it does.

      2. Yves Smith Post author

        Sorry, I did exhaustive works on CDS and CDOs. This is just incorrect, starting with him saying that CDS Indexco was a subsidiary of all those banks. That alone is legally impossible and should serve as a big red flag as to the caliber of the rest.

        Let’s give examples:

        1. Wells and Wachovia were not CDO issuers and were virtually non-players in the CDS market. For the latter, they were at most buyers to hedge their subprime lending (and Wells was not a significant subprime lender; like Chase, it became one via acquisitions).

        2. VIEs had virtually nada to do with CDS and CDOs. They failed when the US asset backed commercial paper started seizing up in 2007. ABCP used AAA tranches of subprime RMBS as assets, not BBB tranches and not CDS.

        See here for detail:

        Google VIEs + CDS and see how nothing related to the crisis comes up.

        3. Paulson etc. did not uses the ABX index to put on their subprime shorts (Ackman did not short subprime bonds, he shorted the monolines). Had they done that, the trades via arbitrage would have also led CDS to be more costly and would have shut down the subprime market much earlier than it died. Paulson etc used CDS created via largely or entirely synthetic CDOs, where most of the value of the CDO was rated AAA and those AAA tranches were prices as AA (making them attractive to dumb investors); the lower rated tranches were sold to stuffees or rolled into other CDOs. See ECONNED for details.

        Agnotology is a violation of our written site Policies.

  16. perpetualWAR

    A former bank/trustee foreclosure attorney is running for a District Court judge position in Seattle. Remember Trott, the Foreclosure King, who Michigan sent to Congress? Yeah, this dude is trying to get on the bench.

  17. crittermom

    Of course no bankers went to jail.

    But does anyone remember this news from 2011, about the homeowner who did?
    The lengths they went to ‘catch him’ once he was in their sites, says it all.

    1. Tyronius

      Unf#*$ingbelievable. I have heard of this case, I did not know that he served twice as much time (nevermind losing both of his homes) as the mortgage broker who forged his signature on the loan.

      This entire subject of banksters committing frauds on an epic scale, obviously aided and abetted by the very Federal entities the American public has entrusted to prevent it, just makes me wonder if our nation is doomed under the weight of its own corruption.

      Because Goodness Knows we should spend millions persecuting people like Charlie Engle.

  18. monday1929

    If Bill Black or Cfdtrade could post a good refutation of the Rights’ claim that the CRA was (wholly)responsible for the Real Estate bubble/crash it would be most useful.

  19. Asad Zaman

    Thanks, Yves, for another insightful post. I have read a lot of material, very informative, about the GFC. Especially Atif Mian and Amir Sufi — House of Debt — is a professional economists’ take – the main point of the book is that if the government had bailed out the mortgagors instead of the bankers, there would have been no Great Recession and the cost of crisis prevention would have been much smaller. They also point out that a lot of cheating was going on. However, Bill Black provides a lot more nitty gritty details which provide a much clearer picture of what really happened. This story appears a lot more exciting than “The BIg Short” which seems to celebrate the villains and the villainy. I wonder if it would be possible to make Bill Black into a big hit — After all, it was the pain of the GFC which led to the Trump Victory. Surely some spin-ball doctor should be able to market this story in a way to make it appeal to the masses — this would be very useful in getting attention to the real villains, instead of glorifying them.

  20. monday1929

    If Robert Rubin had been jailed for his criminal activities at Citibank, as per the (implied) recommendation of the Financial Crises Inquiry Commission, the criminal activities of his fellow bankers might have been moderated. That he still walks free, and is respected, says it all.

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